Unraveling MSFT's Market Dominance: Investor Strategies Amid Record Valuation

Microsoft Corporation (MSFT) achieved an exceptional milestone when it ended last week with a market capitalization of $3.125 trillion, becoming the world’s most valuable publicly traded company ever.

The tech company surpassed the previous record set by Apple Inc. (AAPL) when it reached a market cap of $3.09 trillion in July, as per Dow Jones Market Data. The iPhone marker ended Friday with a $2.916 trillion market cap.

MSFT’s stock has surged more than 28% over the past six months and nearly 52% over the past year, thanks to immense enthusiasm around its AI potential.

Microsoft Market Cap Milestone: Implications and Opportunities

MSFT’s historic market capitalization milestone holds significant implications for the technology sector, investors, and the global economy. To begin with, it underscores the rising dominance of large tech companies within the stock market and the broader economy.

As Microsoft becomes one of the world’s most valuable companies, it solidifies the technology sector’s influence and sheds light on the importance of innovation and digital transformation across several industries. The company’s growing investments in AI, cybersecurity, and sustainable technologies further contribute to global competitiveness and economic growth.

For investors, MSFT’s recent milestone signals opportunities for potential growth and value creation. It offers investors exposure to a diverse range of high-growth segments, such as AI, cloud computing, gaming, and productivity software. This broad business portfolio allows investors to benefit from Microsoft’s continued innovation, market leadership, and resilience in different economic conditions.

Moreover, the tech giant’s solid financial position and cash flow generation provide stability and potential for dividend growth, making it extremely attractive to income-focused investors seeking stable returns. In addition, MSFT’s strategic partnerships and acquisitions may create opportunities for investors to capitalize on synergies, expansion into new markets, and completive advantages.

In October 2023, Microsoft completed the acquisition of Activision Blizzard, a well-known video game publisher. This deal provides MSFT with a hefty portfolio of video game franchises, including Call of Duty, Crash Bandicoot, StarCraft, and Warcraft. This acquisition aligns with the company’s strategic focus on gaming and positions it for long-term growth and leadership in the gaming industry.

Talking about the ripple effects of Microsoft’s milestone, competitors may intensify their efforts to innovate, compete, or collaborate with the company in response to its market dominance and strategic moves. Consumers may benefit considerably from increased competition and enhanced accessibility of innovative tech products and services, boosting further tech adoption in daily life.

Also, policymakers may scrutinize large tech firms’ market power, data privacy practices, and potential antitrust concerns, shaping regulatory frameworks and industry dynamics.

Now, let’s discuss several factors that could impact MSFT’s performance in the near term:

Continued Progress In AI

“We’ve moved from talking about AI to applying AI at scale,” Satya Nadella, chairman and CEO of Microsoft, said in the last earnings release. “By infusing AI across every layer of our tech stack, we’re winning new customers and helping drive new benefits and productivity gains across every sector.”

Over the past year, Microsoft has made significant advancements in integrating AI into its products and tools.

In January 2023, Microsoft announced a multiyear, multibillion-dollar investment with ChatGPT-maker OpenAI. The deal marked the third phase of the partnership between the two companies after MSFT’s previous investments in 2019 and 2021. The renewed partnership would accelerate breakthroughs in AI and help the companies commercialize advanced technologies in the future.

“We formed our partnership with OpenAI around a shared ambition to responsibly advance cutting-edge AI research and democratize AI as a new technology platform,” said CEO Satya Nadella.

In February, MSFT launched an AI-powered Bing search engine and Edge browser with built-in support for OpenAI’s ChatGPT to help people get more from search and the web. The new Bing search version could deliver better searches, more accurate answers, a new chat experience, and the ability to generate content.

In March, the company further announced the addition of AI tools to its Office productivity applications and introduced a feature called Microsoft 365 Copilot. The Copilot feature uses next-gen AI to automate and simplify tasks and offer suggestions. Starting September 26, Copilot begins to roll out its early form as part of its free update to Windows 11.

Beginning November 1, Microsoft 365 Copilot is generally available for enterprise customers, along with Microsoft 365 Chat. Also, this AI-powered Copilot is added to the company’s cybersecurity offerings and GitHub service for software developers.

On November 8, Microsoft-owned GitHub introduced a Copilot assistant that can assist developers in working with their employers’ internal code, priced at $39 per person a month. This new launch might help the company boost profitability in its cloud business unit by taking advantage of its partner OpenAI’s technology.

On November 15, the tech giant debuted its first custom AI chip. At its Ignite conference, MSFT said the chip, Maia 100, is the first in its planned Azure Maia AI accelerator series. In addition to the Maia 100, the company introduced its first custom Arm-based Azure Cobalt, a cloud-native chip optimized for performance, power efficiency and cost-effectiveness for general-purpose workloads.

The chip will be used for cloud-based training and inferencing for AI models. With these chips, Microsoft is on par with rivals Alphabet Inc. (GOOGL) and Amazon.com, Inc. (AMZN), which have also developed their custom chips to run competing cloud platforms. MSFT added that it partnered with ChatGPT developer OpenAI to test its Maia 100 accelerator and will use those lessons to build future chips.

On January 11, 2024, Microsoft announced new generative AI and data solutions and capabilities for retailers. The company offers personalized shopping experiences through copilot templates on Azure OpenAI Service, retail data solutions in Microsoft Fabric, copilot features in Microsoft Dynamics 365 Customer Insights, and the Retail Media Creative Studio.

Robust Last Reported Financials

For the fiscal 2024 second quarter that ended December 31, 2023, MSFT reported total revenue of $62.02 billion, surpassing the analysts’ estimate of $61.13 billion. That was up 17.6% from the previous year’s quarter.

Microsoft’s Intelligent Cloud segment generated $25.88 billion in revenue, an increase of 20.3% year-over-year. The division comprises Azure, public cloud, SQL Server, Nuance, Windows Server, GitHub, and enterprise services. Within the segment, revenue from Azure and other cloud services rose 30%.

Six points of the Azure and other cloud services growth were tied to AI, Amy Hood, MSFT’s finance chief, said on a conference call with analysts.

Also, MSFT’s Productivity and Business Processes segment posted revenue of $18.59 billion, up 13.2% year-over-year. This business unit includes Microsoft 365 productivity app subscriptions, LinkedIn, and Dynamics enterprise software. The More Personal Computing segment contributed $16.89 billion in revenue, an increase of 18.6%.

The software company’s gross margin rose 20.2% from the year-ago value to $42.40 billion. Its operating income increased 32.5% year-over-year to $27.03 billion. Its net income grew 33.2% from the prior year’s period to $21.87 billion. Microsoft posted earnings per share of $2.93, compared to the consensus estimate of $2.20, and up 33.2% year-over-year.

Furthermore, cash inflows from operations came in at $18.85 billion for the second quarter, an increase of 68.7% year-over-year. As of December 31, 2023, MSFT’s total assets amounted to $470.56 billion, compared to $411.98 billion as of June 30, 2023.

For the fiscal 2024 third quarter, Microsoft expects revenue between $60 billion and $61 billion. The company sees lower-than-expected revenue and operating expenses during the quarter.

Impressive Historical Growth

Over the past three years, MSFT’s revenue grew at a CAGR of 14.1%. Its EBITDA and net income improved at respective CAGRs of 18.1% and 17.2% over the same period. In addition, the company’s EPS increased at a CAGR of 18.1% over the same timeframe, and its levered free cash flow improved at 18.9% CAGR.

Furthermore, the company’s total assets increased at a CAGR of 15.7% over the same period.

Attractive Dividend

On November 28, 2023, MSFT’s Board of Directors approved a quarterly cash dividend of $0.75 per share on the company’s common stock. The dividend is payable on March 14, 2024, to shareholders of record on February 15, 2024. The company pays an annual dividend of $3, translating to a yield of 0.71% at the current share price.

Moreover, MSFT’s dividend payouts have increased at a CAGR of 10.2% over the past five years. Microsoft has raised its dividends for 19 consecutive years.

Optimistic Analyst Estimates

Analysts expect MSFT’s revenue for the third quarter (ending March 2024) to increase 15.2% year-over-year to $60.87 billion. The consensus EPS estimate of $2.83 for the current quarter indicates an improvement of 15.5% year-over-year. Moreover, the company has topped consensus revenue and EPS estimates in all the trailing four quarters, which is remarkable.

For the fiscal year ending June 2024, Street expects Microsoft’s revenue and EPS to grow 15.3% and 19.2% year-over-year to $244.23 billion and $11.69, respectively. Also, the software maker’s revenue and EPS for the fiscal year 2025 are expected to increase 14.2% and 13.7% from the previous year to $278.98 billion and $13.29, respectively.

Solid Profitability

MSFT’s trailing-12-month gross profit margin of 69.81% is 43.2% higher than the 48.76% industry average. Likewise, the stock’s trailing-12-month EBIT margin and net income margin of 44.59% and 36.27% are considerably higher than the industry averages of 4.74% and 2.23%, respectively.

Moreover, the stock’s trailing-12-month ROCE, ROTC, and ROTA of 39.17%, 20.77% and 17.54% favorably compared to the respective industry averages of 1.99%, 2.44%, and 0.80%. Also, its trailing-12-month levered FCF margin of 25.78% is 183.4% higher than the industry average of 9.10%.

Analysts Raised Their Microsoft Price Targets

Several Wall Street analysts have raised their price targets on MSFT’s stock. D.A. Davidson analyst Gil Luria added $85 to his Microsoft price target, taking it to a Wall Street high of $500 per share. He seems impressed by the company’s near-term guidance, which highlighted “increasing demand for Microsoft Cloud as well as positive margin expansion even with increasing capital expenditures related to the build-out of their AI infrastructure.”

“Microsoft has continued to show they are a strong share gainer in this new AI landscape, which is largely driven by the company's ability to build compelling generative AI applications throughout their product suite as well as capture new AI-related workloads on Azure,” said Luria.

Meanwhile, CFRA analyst Angel Zino increased the MSFT price target by $35 to $455 a share, citing in part the value created for the company’s Office 365 division with the addition of AI assistant Copilot.

Wolfe Research analyst Alex Zukin reiterated a Buy rating on MSFT on January 30 and set a price target of $510. Alex Zubin has given Microsoft a Buy rating due to several factors, including its strong financial performance and promising growth in key areas.

Further, Jefferies analyst Brent Thill maintained their bullish stance on MSFT stock, giving it a Buy rating on January 26. Thill points to the tech giant’s expected year-over-year constant currency growth, which is projected to grow from 12% to 15%, suggesting that it is poised to achieve these targets with the aid of Activision Blizzard’s contributions.

Additionally, Thill believes that Microsoft is well-poised to benefit from the rising emphasis on AI, which is coupled with favorable cloud trends, underpinning the stock’s upside potential.

Bottom Line

MSFT beat on the top and bottom lines in the second quarter of fiscal 2024, driven by growth in intelligent cloud business. Microsoft has led groundbreaking advances such as partnership with OpenAI and the integration of ChatGPT capabilities into products and tools used to search, collaborate, work, and learn.

Further, as MSFT accelerates into AI, it is rethinking cloud infrastructure to ensure optimization across every layer of the hardware and software stack. The company’s commitment to innovations across various segments like AI, edge computing, and mixed reality positions it for long-term growth and market leadership.

Gartner forecasts worldwide software spending to reach $1.03 trillion in 2024, an increase of 12.7% year-over-year. Robust spending on software among individuals and enterprises will be a primary tailwind for Microsoft. The company’s focus on providing solutions for digital transformation, including AI, cloud-based, cybersecurity, and collaboration tools, aligns with the evolving needs of businesses seeking to modernize their operations.

Moreover, the software maker’s solid financial position, including consistent revenue growth and strong cash flow generation, provides it with enhanced flexibility for strategic investments, acquisitions, and returning value to shareholders via dividends and share buybacks.

Driven by optimism surrounding its AI potential, MSFT’s shares have surged more than 50% over the past 12 months.

Microsoft dethroned Apple as the world’s most valuable company ever, ending last week with a market cap of $3.125. Amid MSFT’s record valuation, investors may adopt different strategies to navigate the market dynamics and capitalize on potential opportunities. Long-term investors may choose to maintain their positions in MSFT, leveraging its solid fundamentals and growth prospects.

In addition, income-focused investors may find Microsoft appealing for its attractive dividend payouts and potential for dividend growth. Tactical traders can also take advantage of short-term trading opportunities in this stock, capitalizing on market sentiment, technical indicators, or macroeconomic trends.