the report
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.)
the stock
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.
In 2015, MSFT will continue to move clients to its cloud offerings – moving its services of MS Office to Office365 (I have done it and am very happy; it ensures that MSFT will get the equivalent of an MS Office license from each person in my offices every year instead of every fifth year); building its MS Windows Server licenses (yearly upgrades and assurance packages roughly make this an annuity for MSFT), XBOX continues to gather momentum (my kids say its the pinnacle of gaming) but doesn’t add much to the bottom line, and its Internet offerings keep it relevant but not on the forefront of technology.
All in all, the MSFT stock will perform as a cash cow but won’t give anyone “tech company” sizzle anymore.
Hi I have very short experience in market. U mentioned this year will be sideways. Can u pls explain more how do we tune our aggressiveness in relation to market conditions? Is it like during bull market, small miss of earnings will be ignored? Whereas during sideways market, small miss will result in sharp drop in share price? Thx
“Sideways” is the best description I have. Usually a bear market in stocks is triggered by anticipation of a recession. That doesn’t seem likely to me now. Stocks rarely move in a straight line, however–they either go up or they go down. So you might argue that since stocks aren’t likely to go down a lot, they’re probably going to go up.
But stocks are no longer clearly undervalued in the way they have been since early 2009. Yes, the US economy is strong, and getting stronger–but neither the EU nor Japan is in such great shape, and the rise in the US dollar means the value of foreign earnings to a US company has declined. Already reasonable valuation + present complex jumble of positives and negatives suggests to me that stocks will have a hard time going up, as well.
In a market like this, professional investors will be more content to hold cash and less willing to chase after stocks that are already performing well. As you suggest, they’ll also be more worried about poor-performing stocks (less chance to make up for losses) and quicker to sell them.