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We started coverage of Microsoft with a price target of $125. Microsoft is starting to become a predictable growth story that will continue to provide steady estimate revisions for long-term investors. We also like Microsoft (like Amazon) due to its involvement in cloud computing.
Microsoft is arguably the leader in the cloud services market with Windows Azure and Office 365. It can drive better earnings growth as it transitions Office and Windows to its cloud platforms.
Analysis Q4 2018 results (year end June 2018)
For the quarter, the Company reported that all segments had double-digit growth this quarter and outperformed consensus expectations.
Cloud – This segment reported +23% growth year-on-year as its top-line growth accelerated for the 4th consecutive quarter.
Microsoft Partner Community (MPC) – The goal of MPC is to become the one united community platform that drives partner and Microsoft business conversations. Through it, we will be streamlining access to key content, subject matter experts and networking opportunities with other partners.
MPC growth also accelerated +17% year-on-year due to higher than expected OEM revenue (+7%)
Original Equipment Manufacturer (OEM) – OEM software is software that comes pre-installed when you purchase a new computer. So for instance when you purchase a new PC it might come with an OEM licensed copy of Windows pre-installed on it.
Gaming – This segment increased +39%, which continues to outperform due to shift to software and services.
Our $125 price target is based on a forward Price-to-earnings ratio of 30x and a discount rate of 10%.
Revenues – We are forecasting revenue growth of 10% in 2019 and 2020 mainly driven from an increase in its cloud business.
EBIT Margins – We are forecasting that the EBIT margin remains that same at 31.50% in 2019 and 2020 (in line with management guidance on limited operating margin leverage despite healthy top-line commentary).
Earnings Per Share – We are forecasting an EPS of €3.94, €4.34 and €5.31 in 2019, 2020 and 2021 respectively.
Microsoft is an investor-friendly company focused on growth. Management are now also more open on margin expansion and cash returns. While the PC cycle and Windows dynamic are still highly relevant, we believe Microsoft is pushing forward with a successful cloud strategy.
In line with our positive outlook on global growth, we believe Microsoft is well positioned to continue to benefit in the short to medium term.
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