It is completely bizarre that we see investors husbanding cash and holding Treasury bonds rather than investing in some of the best companies in the world. Imagine investing in assets that offer the investor a "negative real rate of return" rather than investing in a proven leader with rock solid finances growing sales and earnings, at a price that offers a compelling if not out right high yield and with liquidity?
Yes, the worldwide crisis in government leadership along with the ussual investor mistakes has created an opportunity in my opinion in the shares of Microsoft stock. Please allow me to use my cocktail napkin approach to share what I see in Microsoft, and please I welcome your comments.
What first draws my attention to Microsft is how most investors dislike it and its stock and love Apple and its stock. Note: I use Valueline stock reports for they give great data history on the companies they follow. I always remember what Seth Klarman points out regarding one of investors' greatest advantages is time horizon. Valueline preaches it and Wall Street scorns it. If you talk with investors they will tell you Microsoft and its stock basically "stink". The company's stock has done nothing in years. No, I would point out. It's stock "price" has done worse than nothing in the last 12-years. If you look back to Microsoft's "Golden Age" with investors it woulld be around the year 2000, when the stock was trading near $48 per share and today it is trading around $28 per share. Thus, the stock price has declined around 42% over the last 12-years!!! This is worse than nothing!!! Microsoft is to blame!!!
Really? Blame Microsoft for the performance of its stock price. Why? Is company performance and stock price directly correlated? I mean should the fact that the share price of Microsoft stock declining reflect that Microsft the company's performance has deteriorated over the last 12-years? Well lets look at three keys to stock price and coporate performance.
First, revenue or sales! is the one number that can not be manipulated like earnings per share or EPS. In 2000, Microsofts revenue or sales per share was around $2.65. It's EPS was around $0.85 per share and it paid no dividend. Investors paid the handsome price of $48 per share for these sales, EPS and future growth potential. Thus, since the stock market is efficient the fact the share price today is close to $28, Microsoft must have disappointed investors because the stock price has decline over 42%!!!
Let's see about Microsoft's 2013 Valueline estimates to see how bad the company has done these last 12 or so years. Microsoft's estimated 2013 per share sales or revenues is around $9.85 (2000, around $2.65). So sales are UP and not down? Yes, Microsoft's sales are estimated to be up almost 300% in these last 12 or so years (Please check the numbers. I might be slightly off since I am doing this from memory, and why I call it table napkin analysis.). Clearly, Microsfot must be a dissapointment since the sales or revenue per share only went up 200 to 300%!!!
Let's see about EPS and again how it must have disappointed over the last 12 or so years. Microsoft's estimated EPS for 2013 is around $2.95 per share (2000, around $0.85). The EPS like the sales per share went UP and not down! The EPS increased by around 250% over the last 12 or so years. That is sooo disappointing. You know the EPS per share now exceeds the earnings per share in 2000. It isn't just that, but now the compsny pays a dividend of around $0.92 (2000, No dividend) which now exceeds thet total amount of the EPS (2000, $0.85) of the company back in 2000! The dividend yield is around 3.30% or 163% of the 10-year Treasury Bond. Of course the 10-year Treasury Bond yield is fixed and Valueline projects Microsoft's dividend for the next few years to increase by double digits!!
Now, when I buy a stock I look for 3 main risks to try and cover as best I can. The risks are balance sheet risk, EPS risk and price risk. (Please note: Cocktail napkin figur! es and yo! u should verify for yourself).
1.) Balance sheet risk. Current Assets of around $80 Billion, Current Liabilities of around $30 Billion and Long-term debt of around $10 billion. Thus, Microsoft has current asset after all debt of around $40 biilion and given there is around 8 billion shares of common stock outstanding that means there is basically $5 out of the $28 share price in current assets!!! I would say that qualifies Microsoft as having a rock solid balance sheet and since the company needs $0.40 of the estimated 2013 EPS for Capital Spending that the mountain of current assets is likely to grow, and the level of growth only mitigated from Microsoft buying back stock and increasing the dividend to investors. So I place a check with as much confidence as I can reasonably have that this is good in my opinion/
2.) EPS Risk. I think one of the greatest tricks for simple analysis was provided to me by Mary Buffett. If the name sounds familiar it should be for she is Warren Buffett's ex-daughter in law and author of the book, Buffettology. Two quick and simple observations can tell you if you are looking at special company or just another commodity business. They are the trend in sales and EPS figures over the years and the Return on Equity. If the company has many years of increasing sales and EPS figures like Microsoft, which has done exactly that for the last 11 out of 12 years then you know they have something special. It means they have some special sauce that makes their product or service voluable enough to be able to increase pricing and the customers allow it. Passing along pricing increases is what truly differentiates the extraordinary business from the commodity business. No surprise that Microsoft is the 600 pound gorilla in the coporate, government and education IT segment. This segment is the least trendy and the largest. You know there is an expression among corporate Head of IT that goes like this, "You don't get fired for hiring IBM'. This speaks to the anti-trendy nature o! f busines! s, government and education and solidifies Microsoft as a "platform" company that is ingrained into the infastructure and not likely to be removed for many years. Micrsoft new Surface Tablet, and new Windows 8 will obviously find its way into the corporate sector, but will serve most likely as the plateau for Apple's sales in the consumer side. Unfortunately, Apple is a trendy technology company and just as first mover advantage rewards as it has done for them, the lack of barriers to entry and not being a necessity will most likely show a pretty good erosion to the durability of their business. Now they might be able to come up with something new like Apple TV, but a businesss model based on constant Big Bang innovation is just too risky for me. Microsoft's return on equity is over 20% and though that might not seem supper great, It is anchored by the excess capital. If they had net debt5 like most company's the ROE would be far higher. I point out that Buffett thinks anything over 15% without debt is a great business. So check this off for Microsoft.
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3.) Price Risk. Microsoft's stock price is just over its 52-week lows of around $26. The Enterprise value of the company is around $23 (Current Equity value minus net current assets) and with an estimated $2.95 EPS for 2013 that puts the Forward P/E of 7.8 on the E.V. and 9.5 on the current stock price. The earnings yield on the E.V. is 12.83% after tax and at an estiamted 20% tax rate at 15.39% versus a 10-year T-Bond's fixed yield of 2.02%. Oh, Valueline also think Microsoft's EPS will grow by over 10% for the next few years. So as far is price risk, I think when looking at MSFT's historical P/E ratios that it is cheap at current levels and when I think of it relative to bonds I think 15% looks better than 2%.
So if Microsoft doesn't stink, why did the share price do so poorly? Well, investors needed to understand that pric! e paid di! ctates risk and future return regardless of asset and growth expectations. In 2000, investors put a 50 plus P/E on Microsoft. Simplisticly, that P/E gave Microsoft and earnings yield of around 2.0% and at that time the 10-year Treasury was around 7.5%. Guess which one outperformed the other for the last 12 plus years? Now, the shoe is on the other foot so to speak with the 10-year T-bond offering a 2% yield and because of investor discuss Microsoft is priced to yield not around 7.5% but around15%!!! So don't blame Microsoft for its stock price performance, but past investors blame yourself. Today, Microsoft's stock looks like it is trying to reward investorzs that want a company that is an undeniable leader, an essential company, solidly financed, growing, offers liquidity and is returning value to shareholders thru dividends and share buy backs.
Last word of advise, never hold any asset too dear or too jaded!!! They all get their time in the sun and it ussually has to come after they have sufferrred greatly.
Happy investing to all. Please do not rely on my work or anyone else's but your own work. I hope this serves only to get you to do work/research on Microsoft and form your own opinion!!! Comments appreciated!
Related links:Seth KlarmanWarren Buffett
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