Last night MSFT announced earnings for the December 2014 quarter, which is the second fiscal quarter of 2015 (ends in June). At eps of $.71 a share, results were in line with analysts’ expectations, even though income was dinged by $.02 by restructuring charges and $.04 from an IRS audit adjustment.
Overall, the report was a mixed bag.
On the one hand, the restoration of MSFT to relevance under new CEO Satya Nadella continues apace. On the other, the renewed vigor that the traditional MSFT business has been exhibiting recently appears to be coming to an end. In particular,
–In the earnings release on the MSFT website (data are humorously difficult to download if you don’t own Office) the company made it clear that the period of extra oomph to sales of Windows caused by the termination of XP support has come to an end. Sales had been boosted both by some former XP users upgrading to new machines and by others simply buying a newer OS.
–It’s also clear that we’re entering a period where currency effects–the decline of the euro and the yen vs. the dollar–are going to have a significant negative impact on earnings. I think this means a drop of somewhere between 5% and 10% vs. where profits would be without currency movements. This loss takes two forms: a decline in the value of foreign currency-denominated assets, which is recognized immediately (in 2Q15 the figure was ($390 million); and the lower dollar value of foreign currency-denominated sales. Part of the latter is recognized in income immediately but most sits on the balance sheet as deferred revenue before reaching the income statement (this is a long-winded way of saying that some currency losses won’t be booked for a while). And, of course, the euro is about 8% lower today than it was on December 31st. MSFT estimates the 3Q15 loss at 4% of revenue.
The net result of these two negatives will likely be that eps for MSFT will be flattish over the coming twelve months, rather than the +10% that most analysts appear to have been forecasting. (How they justified these numbers in the face of the strong dollar is another issue.)
As I’m writing this, MSFT shares are down by 10%, in a market that is off by a bit less than 2%.
It’s also a day on which I’m sure lots of people didn’t make into work (and those who did are in a bad mood), as well as one where a raft of negative-surprise earnings releases have been issued. So it’s not a good day to announce bad news.
Still, I’m personally a bit surprised by the extent of the negative reaction. I’m not sure quite qhat to make of it, other than it’s very negative.
I have no desire to sell the MSFT I own. On the other hand, I have no burning desire to buy more.
If I thought 2015 would be a sharply up year for stocks, I’d probably be thinking of selling to buy something with more upside potential. But I expect the market to basically move sideways this year. So I’ve got to be more concerned that this decline is just the first stop on a down elevator. Right now, I don’t think that’s right, either. But that’s where analysis has to be focused.
My biggest reaction is that I’ve got to look even more carefully through the stocks I own to uncover exposure to weak foreign currencies. Ultimately, I guess, I believe this is the cause of the sharp MSFT price drop.
The main thing the MSFT report tells me is that Wall Street is much less far along than I would have imagined in discounting currency losses to US-based multinationals from a declining euro. A second observation is that the European stock markets have probably been as poor at factoring in earnings gains that euro-based firms are achieving from their dollar exposure.