Microsoft Earnings: Why We Think Computing Giant is Still Undervalued

Microsoft's cloud division performed better than Alphabet's this earning's season. While we raise our Fair Value Estimate, we still think it is modestly undervalued

Dan Romanoff 27.10.2023
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Morningstar's Take on Microsoft's Earnings

Wide-moat Microsoft (MSFT) reported solid first-quarter results, including meaningful upside on both the top and bottom lines.

We see modest improvement in the demand environment on the commercial side, with Azure strength, modest artificial intelligence contributions, an easing of cloud optimisation efforts by clients, and persistently solid execution.

We're also encouraged by Microsoft's outlook, especially consistent Azure growth in excess of 25% throughout the year. Guidance includes Activision, which adds more than $6 billion in revenue to our estimates but pressures margins in the near term.

These factors drive us to raise our fair value estimate on Microsoft stock to $370 from $360. We continue to see shares as modestly undervalued, dancing between 3 and 4 Stars.

Key Morningstar Metrics for Microsoft

Fair Value Estimate: $370
Morningstar Rating: 4 stars
Morningstar Economic Moat Rating: Wide
Morningstar Uncertainty Rating: Medium

Microsoft Benefits From Hybrid Cloud

We see results as reinforcing our long-term thesis centring on the proliferation of hybrid cloud environments and Azure, as the firm continues to use its on-premises dominance to allow clients to move to the cloud at their own pace. We centre our growth assumptions around Azure, Microsoft 365 E5 migration, and traction with the Power Platform for long-term value creation. We also see a new growth avenue emerging in the form of AI, where Microsoft is positioned as a clear leader.

For the September quarter, revenue grew 13% year over year as reported, or 12% in constant currency, to $56.52 billion, compared with the midpoint of guidance of $54.3 billion. Relative to the year-ago period (as reported), productivity and business processes, or PBP, grew 13%, intelligent cloud, or IC, grew 19%, and more personal computing, or MPC, grew 3%. Compared with guidance, all three segments were ahead of the top end of the ranges, with both IC and MPC meaningfully better. Good sales execution, a hallmark of this management team, helped drive solid renewals once again.

Intelligent cloud results were another bright spot, with Microsoft cloud growing 23% in constant currency to $31.8 billion. Azure remains a focal point, and it did not disappoint, coming in at 28% year-over-year growth in constant currency, which was slightly ahead of guidance.

Workload optimisation seems to have ebbed for now, which we think should persist throughout the rest of the year, as clients are now testing new workloads, particularly those involving AI, which we believe could have contributed 200 basis points of growth. Management noted better utilisation around GPUs, and Microsoft bought more GPUs than initially planned. Microsoft’s management also noted a good deal of activity for Azure, which we think bodes well for the next couple of years.

Microsoft Stock Price 

Source: Morningstar Direct.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Microsoft Corp418.20 USD-2.56Rating

About Author

Dan Romanoff  is an equity research analyst on the technology, media, and telecommunications team for Morningstar in Chicago.

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