First Look at DOW 30 Component Microsoft (MSFT)

Today I take a look at Dow 30 component stock Microsoft (MSFT).  Microsoft is a decent dividend payer and grower.  The stock is not very attractive at today’s price of $30.76 because of its nearing the lower limits of the speculative price territory.  There is more price risk than reward going forward.  On the bright side, Microsoft’s balance sheet is strong due to huge amounts of cash.  To see how I came to these conclusions read on.

Microsoft (MSFT)

Price: $30.76

Shares: 8.40 billion

Market capitalization: $258.41 billion

What does the company do: Microsoft develops the Windows PC operating system, the Office suite of productivity software, and enterprise server products such as Windows Server and SQL Server. The Windows PC and Office franchises collectively account for nearly 60% of the firm's revenue, and the server and tools business contributes 24%. The firm's other businesses include the Xbox 360 video game console, Bing Internet search, business software, and software for mobile devices.

Morningstar’s take: Cloud computing is a double-edge sword for Microsoft. The impending move to web-based applications threatens to commodify the Windows PC operating system while opening up new revenue and profit opportunities in the deployment and delivery of cloud-based software services. Microsoft's server and business application software products are well positioned to ride the cloud computing wave even as the Windows PC OS franchise bears the brunt of the incoming tide.

Bonds: $12.0 billion outstanding

Times interest earned: 78 times (MSFT earned $23.15 billion as of 6/2011 / $295 million interest expense).  That far exceeds Benjamin Graham’s recommendation of earning at least five times interest expenses.  Microsoft’s bonds do not threaten the dividend at all.

Preferred stock: none.

DIVIDEND RECORD: Microsoft started dividend payments in 2003 biannually and maintained that pattern until the start of 2005.  In Q1 2005 Microsoft started paying a quarterly dividend of $0.08 per share.  It has grown the dividend to $0.20 quarterly today.  That is 200% straight-line dividend growth over 7 years, or 28.5% annual growth per year.  That’s pretty impressive growth.

Dividend: $0.20

Dividend yield: 2.6% ($0.80 / $30.76 share price) Microsoft is a 6% high dividend stock at $13.33

Dividend payout: 29% using the Google Finance reported EPS of $2.75 –OR- 42% using the average adjusted earning power of $1.92

EARNING POWER: $1.92 @ 8.4 billion shares

(earnings adjusted for changes in capitalization – typically share buybacks and/or additional shares created)

	EPS	Net income	Shares	Adjusted EPS
6/2005	$1.12	$12,254 M	10,906 M	$1.46
6/2006	$1.20	$12,599 M	10,531 M	$1.50
6/2007	$1.42	$14,065 M	9,886 M	$1.67
6/2008	$1.87	$17,681 M	9,470 M	$2.10
6/2009	$1.62	$14,569 M	8,996 M	$1.73
6/2010	$2.10	$18,760 M	8,927 M	$2.23
6/2011	$2.69	$23,150 M	8,593 M	$2.76

Seven year average adjusted earnings per share is $1.92

Consider contrarian buying below $15.36 (8 times average adjusted EPS)

Consider value buying below $23.04 (12 times average adjusted EPS)

Microsoft (MSFT) is currently trading at 16.02 times average adjusted EPS.  This is stock is priced for investment.

Consider speculative selling above $38.04 (20 times average adjusted EPS)

BALANCE SHEET – Microsoft has a strong balance sheet.  The only problem is the high price to book value ratios.

Book value per share: $8.17 ($68.659 B equity / 8.4 B shares)

Price to book value ratio: 3.76 (under 1.0 is good) ($30.76 share price / $8.17 BV)  Investors are paying $3.76 for each $1.00 in book value.

Tangible book value per share: $5.50 (equity - $19.698 B goodwill - $2.756 B intangibles)

Price to tangible book value: 5.59 ($30.76 share price / $5.50 TBV)  19.03% of Microsoft’s assets are in intangibles which explains why the P/TBV increased so much.

Current ratio: 2.94 latest quarter (over 2.0 is good) ($76.86 B current assets / $26.17 B current liabilities)

Quick ratio: 2.27 latest quarter (over 1.0 is good) ($59.529 B cash and equivalent / $26.17 B current liabilities)

Debt to equity ratio: 0.17 (lower is better)

Percentage of total assets in plant, property, and equipment: 6.97% (the higher the better) Microsoft has massive current assets at 65.13% of total assets, intangibles were 19.03%, and other long term assets were 8.87%

Working capital trend: Up slightly in the long run.

CONCLUSION – As usual, the best time to buy MSFT in recent years was in March 2009 when the stock hit bottom at $15.28.  It was a contrarian buy then at just below 8 times average adjusted earning power.  Today the stock trades for double that price.  I think the stock is overpriced given the coming worldwide recession.  Microsoft is a steady dividend payer and grower.  The dividend yield is slightly above the S&P average of 2.2%.  The best part of Microsoft is their balance sheet.  The balance sheet is strong with the exception of their price to book value ratio and tangible book value ratio.  I would ignore this stock until it drops below the $23.04 value stock threshold.

DISCLOSURE – I don’t own Microsoft (MSFT).

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