Articles Comments

My FI Journey » Stock Analysis » Microsoft (MSFT) Dividend Stock Analysis

Microsoft (MSFT) Dividend Stock Analysis

Microsoft logoMicrosoft (MSFT) is the world’s largest software maker.  As you’re probably painfully aware, the company holds a virtual monopoly on desktop operating systems and office suites.  Microsoft is divided into five business units:  1) Windows and Windows Live which is responsible for the Windows operating system, which over 90% of all PCs use.  2) Server and Tools is responsible for producing various sever related products and providing support for them through Microsoft Consulting Services. 3) Online Services Business is responsible for Bing, MSN, and Microsoft’s online ad sales.  4) Microsoft Business which is responsible for producing Microsoft Office.  5) Entertainment and Devices which is responsible for the Xbox entertainment center.  MSFT is currently transitioning its business away from PCs and into the online world.  The company strongly believes that software should exist as a product (software installed on a PC) and as a service (software in the cloud).  We will see how this vision unfolds over time.

 

MSFT Basic Company Stats

  • Ticker Symbol: MSFT
  • PE Ratio: 15.33
  • Yield: 3.29%
  • % above 52 week low: 25.3%
  • Beta: 0.9
  • Market cap: $234.1 B
  • Website: www.microsoft.com

 

MSFT vs the S&P500 over 10 years

msft vs sp500

MSFT seems to be alternating between underperforming the S&P500 and moving on par with it.  By the end of 2012, an investment in MSFT would have increased by about 18% compared to about 63% for the S&P500 as a whole.  Just for fun, I played with various time periods to see if buying on dips would have let MSFT beat the S&P500, but it looks like the best you’ll get in terms of capital appreciation is matching the S&P500.

 

MSFT Earnings Per Share (EPS) & Dividend Growth

  MSFT Dividends and EPS

  • 5 year EPS growth: 1.7%
  • 10 year EPS growth: 9.0%
  • 5 year dividend growth: 15.3%
  • 10 year dividend growth: 28.4%

 

EPS growth for MSFT have been slowing down over time.  Also, MSFT’s dividends have been growing much faster than its EPS, however this is not surprising given that it appears that MSFT is transitioning into becoming a stable dividend paying stock.  I suspect that the slowing of EPS will continue over the short term.  The 10 year dividend growth rate is 28.4%, the 5 year growth rate is 15.3%, the 3 year growth rate is 20.9%, and the 1 year growth rate is 24.6%  This dividend growth rate is very impressive, however dividend growth can’t exceed EPS growth forever, so this is a trend that can’t continue forever.

With a starting yield of 3.3% and a growth rate of about 15%, MSFT’s yield on cost will grow to about 13% in 10 years.  In order to double the dividend, using the rule of 72, it will take approximately 5 years.

In case you are wondering what happened in 2005, MSFT payed out a one time special dividend.

MSFT Payout Ratio

 MSFT payout ratio

MSFT’s payout ratio has been relatively stable over time time and is currently below 40%.  The huge payout ratio in 2005 is due to the one time special dividend.  The average payout ratio over the last 10 years (excluding the special dividend) is 25%.  I really like how low this payout ratio is and I feel that it leaves a lot of room for dividend growth.

MSFT Cash Flow Per Share and Revenue

MSFT cash flow

  • 10 year revenue growth (2003-2012): 9.6%
  • 5 year revenue growth (2008-2012): 5.1%
  • 3 year revenue growth (2010-2012): 8.6%

 

MSFT has been consistently increasing it’s cash flow per share and revenue over the last 10 years.  The fact that these continue to grow means that there will likely continue to be growth in EPS and dividends.

MSFT Balance Sheet

The current debt to equity ratio of MSFT is 16%, which is much lower than other equities (~40%). MSFT only started taking on substantial long term debt in 2009, so it remains to be determined if they will continue to take on additional debt or if they will try to keep their debt burden at low levels.  At this point, I am not concerned

 

MSFT Risks

The biggest risks related to Microsoft center around it’s almost pathetically slow entry intro the mobile computing area.  But Microsoft has been working to correct that.  Recently Microsoft released the Surface tablet.  Which is a nice device, but even more overpriced than the iPad.  Microsoft as also allied itself with Nokia (NOK) to gain entry into the smartphone market.  I’m not certain that Microsoft will make easy inroads into the mobile arena, but Microsoft has enough resources at its disposal to stay in for as long as it takes to produce winning products.

MSFT Valuation Panel

Graham Number

The Graham number represents one very simple way to value a stock.  The Graham number for MSFT is $18.84.  The current stock price is well above that, suggesting that MSFT may be overvalued at the moment.

Two Stage Dividend Discount Model

Using a risk free rate of 2%, an expected return of 10% and the beta of 0.9, the CAPM model provides a discount rate of 17.2%.  Using an initial growth rate of 20% for 5 years and a slower growth rate of 7%, the two stage model produced a value of $13.81  I also tried this model with a discount rate of 10% and got $47.61.

Valuation Conclusion

I feel that the two stage model is the way to go because of the very high current dividend growth.  However, I’m uncertain which is the best discount rate to use.  If you average the two, MSFT is nearly fairly valued.  My gut feeling is that MSFT is fairly valued at the moment, maybe a little undervalued.

MSFT Cash Secured Puts

I feel that MSFT is at an attractive price to consider writing cash secured puts against it.

Conclusions

Overall, I like MSFT and feel that it is appropriately valued.  I think it has several more years of solid dividend growth left in it before the rapid growth starts leveling off.  May main reservation is with MSFT’s inability to beat the S&P500 in terms of capital appreciation.  Pending availability of funds, I may increase my position in MSFT, but not before looking for some other options.

Disclosure: I am currently long MSFT.

Readers:  What are your opinions about Microsoft?

Filed under: Stock Analysis · Tags: , ,

9 Responses to "Microsoft (MSFT) Dividend Stock Analysis"

  1. Integrator says:

    Share your concerns on the mobile front. There is still time for Microsoft to try and address these. I’m not sure the surface play was the right tablet entry strategy, but again they have time to correct. One of the interesting things is that their recent revenue growth has been pretty strong, ~8%. That still suggests to me a solidly growing business. With good revenue generation & stable margins, prospects still look good for short- medium term dividend increases in my view

    1. MFIJ says:

      I do think MSFT will continue to be a good pick. It’s still not my favorite pick. But in the current mostly overvalued market, it’s looking like a good choice at the moment.

  2. AverageJoe says:

    I only share your concern on the mobile front because they were so, so late to market. My biggest issue with MSFT (as a guy who’s owned their stock since the early 2000′s) is that they never really put their full weight behind stuff. Bing is a great search engine. The Zune was a decent mobile device. They have tons of cash and still manage to screw up the launches. The saving grace for their mobile play is that people who own a MSFT phone love them. Can they capitalize? Who knows…. For now I’ll stick to my strategy of buying whenever it hits $25 and selling when it hits $30. I don’t do this with any other stock, but with MSFT they’ve been like clockwork.

    1. MFIJ says:

      Other than the Xbox, I can’t think of any other Microsoft product that has actual fans. It’s good to hear that people like the Windows phone.

  3. It will be interesting to see what happens down the road. Microsoft has had such a monopoly in the PC world, it is surprising that it didn’t do more to get into mobile devices. I guess it’s hard to stay on top forever.

    1. MFIJ says:

      I think Microsoft is now basically a commodity maker. Office and Windows aren’t going away any point in the near future. Eventually, if they keep at it, they’ll make inroads into the mobile space.

  4. [...] finances into perspective Girl Meets Debt tells of her bad experience with gym memberships Myfijourney evaluates Microsoft stock. I’ve been looking at buying some MSFT too Passive Income [...]

  5. Marvin says:

    I would personally like to see Microsoft give more money to its shareholders instead of purchasing companies that end up flopping. I think the Nokia acquisition will be a bust and that money could have easily been used for more dividends or share buybacks. Do what you do best Microsoft, make exception software =)

Leave a Reply

*

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <strike> <strong>