TSM - Microsoft: Profits Skyrocket

2023-07-25 16:48:35 ET

Summary

• Microsoft Corporation announced its fiscal Q4 2023 earnings results that beat the estimates as revenues and profits skyrocketed.
• At the same time, thanks to its dominant position in the generative AI field, Microsoft could continue to exceed expectations in the future.
• However, there are also reasons to believe that it’s too late to accumulate a long position in the company at the current levels at this stage.

Microsoft Corporation's ( MSFT ) aggressive expansion within the AI field thanks to its close cooperation with OpenAI, which led to the increase in popularity of generative AI applications, was partly responsible for the market rally that we've experienced in recent months. As the current leader in the generative AI space, Microsoft has already made fortunes for its shareholders as its stock has greatly appreciated recently and now trades close to its all-time highs.

At the same time, the company's successful performance in Q4 made it possible for its business to end the fiscal year on a high note and ensure that Microsoft continues to create additional shareholder value in the long term as there are no major roadblocks that could prevent it from exceeding the expectations in the future. Add to all of this the fact that its cloud business also gains more ground while its gaming business is about to increase by two-fold thanks to the anticipated acquisition of Activision Blizzard, Inc. ( ATVI ) and we could conclude that there's nothing not to like about Microsoft in its current form.

However, while Microsoft continues to make fortunes for its shareholders, there's a case to be made that its stock has now reached unsustainable levels as the potential decrease in demand for chips along with a tighter monetary policy could kill the current AI momentum and create short to near-term headwinds for its shares. Therefore, I still think that Microsoft is a good long-term investment, but also believe that it's better to wait for a major pullback before beginning to accumulate its shares.

Microsoft Continues To Exceed Expectations

Moments ago, Microsoft reported its Q4 earnings results, which showed that the company managed to end the fiscal year on a high note as its revenues and profits have skyrocketed in recent months. In Q4, Microsoft's revenues were up 8% Y/Y to $56.2 billion, while its net income increased by 20% Y/Y to $20.1 billion. Thanks to such growth, Microsoft's revenues in FY23 were up 7% Y/Y to $211.9 billion, while its GAAP net income was up 6% Y/Y to $72.4 billion.

Considering such a performance in recent months, there's no denying that Microsoft has everything going for it to continue to create additional shareholder value in the long run. Its dominant position in the generative AI field alone could help the business continue to exceed expectations in the future. That's why Microsoft is racing against Alphabet/Google ( GOOG , GOOGL ) and others to incorporate various AI tools into its own productivity applications to ensure that it remains a leader in the field.

The company's latest decision to increase the price for its upcoming AI assistant feature for Microsoft 365 called Copilot could very well greatly increase the company's incremental revenues in the following years. Some analysts believe that such a move could generate over $20 billion in additional revenues, while others think that Copilot could help double Office 365 revenues in the following years.

In addition to various monetization opportunities within the AI field, there are also reasons to believe that Microsoft would be able to continue to successfully monetize its vanilla software as well. The latest data from Gartner reveals that the annual spending on computer software is expected to increase at a double-digit rate this year and top $1 trillion next year despite all the macroeconomic challenges. This is certainly good news for Microsoft, which is also one of the leaders in the computer software industry.

At the same time, Microsoft has also been actively expanding its presence in the cloud business and even increased its market share there at the expense of its competitors last year after its Azure platform gained a 2% market share in 2022 and ended the year with a 23% share. Add to all of this the fact that the cloud computing market is expected to continue to grow at an aggressive rate and be worth over $1 trillion by 2027, and it becomes obvious that Microsoft has more than enough opportunities to continue to grow and exceed expectations in the future.

Finally, it's also very likely that Microsoft is about to complete the purchase of Activision Blizzard in the following months, which would expand the company's gaming business and greatly increase the number of users within its ecosystem of products and services. Earlier this month it became clear that both the FTC and CMA are highly unlikely to block the deal. As a result, the latest decision of both Microsoft and Activision Blizzard to extend the deadline for the purchase until October 18 won't require the Redmond-based company to pay $3 billion in breakup fees as both sides work on the completion of the acquisition. While there have been a lot of discussions about whether the deal makes sense, I noted half a year ago that Activision Blizzard certainly brings lots of value to the table as its business grows at a double-digit rate even in the current environment, while over 350 million of its monthly active users could be easily monetized.

All of those developments along with the latest earnings results indicate that Microsoft's growth story is far from over.

Some Headwinds To Consider

While Microsoft certainly has more than enough opportunities to continue to grow, there are nevertheless some risks that made me postpone adding the company's shares to my portfolio at this stage.

Currently, there's an indication that the ongoing AI momentum that pushed the shares higher in recent months could be coming to an end. The biggest chipmaker in the world Taiwan Semiconductor Manufacturing Company Limited ( TSM ) recently lowered its revenue outlook for the year, which signals that a stock market correction could be around the corner as the AI hype train could lose its momentum soon. Add to all of this the fact that a tighter monetary policy could remain for longer than expected while a soft recession is still very much in play, and it becomes obvious that the pullback in Microsoft's and other shares could be around the corner.

Considering that the Street believes that Microsoft's stock represents an upside of only ~8% while Seeking Alpha's Quant system gives it a rating "F" for valuation, it's likely best to wait for a major pullback before accumulating a long position at the current levels with a minimal margin of safety.

The Bottom Line

The potential decline of chip demand along with a tighter monetary policy could kill the current AI momentum, prompt a market correction, and result in the depreciation of Microsoft Corporation shares in the short to near term. That's the main reason why I'm currently reluctant to open a Microsoft position at the current levels at this stage but would certainly consider doing so in the future if we witness a major pullback of Microsoft's shares. This is mostly due to the fact that the expansion of AI capabilities could very much lead to the expansion of the overall economy in the future, while Microsoft's dominant position in the generative AI field could result in the creation of additional shareholder value in the long run.

For further details see: