Microsoft (MSFT) is one of the leading companies in the technology sector. The media and the President may obsess over Amazon (AMZN), investors may follow Warren Buffett into Apple (AAPL), and the average Joe may spend half his day on Google (GOOG/GOOGL), Netflix (NFLX), and Facebook (FB), but Microsoft has been quietly expanding its empire far beyond its traditional PC business. It has everything from a popular video game system to a 500 million-member social network to commercial software and cloud services. Those products are generating growth and income for the company’s shareholders. Here are three reasons they are doing this so well.
1. Leadership: Satya Nadella, CEO
Satya Nadella started working as a program manager at Microsoft in 1992 after earning his electrical engineering degree in India and his computer science degree at the University of Wisconsin-Milwaukee and working at Sun Microsystems. He gradually worked his way up the chain until he became only the 3rd CEO of Microsoft in 2014.1
Nadella has pushed Microsoft into new areas of innovation and driven the company’s growth in cloud services. He wrote a book called Hit Refresh: The Quest to Rediscover Microsoft’s Soul and Imagine a Better Future for Everyone. “Empathy is what it’s all about,” he told Bloomberg BusinessWeek2. “We have to meet the unmet, unarticulated needs of the customers. That’s the source of innovation.”
2. Innovation: Deep Insight
Microsoft is an example of a company that has achieved success entering the twenty-first century by appreciating the power of its employees’ minds. It seeks leadership and innovation at all levels of the company and in every department. Its eleven “leadership competencies” are highlighted by “deep insight: the capacity to see systems, patterns, and connections beyond the obvious information contained in data” and “building organizational capability: …seeing organization as a competitive variable to build sustainable organizational success and self-renewing capability.”3
Microsoft wants its employees to be observing, evaluating, and proposing innovations for every aspect of the organization, from software development to finance to human resources. This approach has helped them grow from a start-up with a great idea–the graphic user interface–to a massive company whose competitiveness and sustainability has earned it a $753 billion market capitalization.
3. Capital Allocation: Smart Acquisitions
Since 1987, Microsoft has purchased six companies per year. Most of these have been small acquisitions that didn’t require large investments but added assets that the company could use to innovate. This has helped the company create growth without much leverage.
Some of Microsoft’s larger, more notable acquisitions include
- Skype Technologies, $8.5 billion (2011)
- Nokia mobile phones unit, $7.2 billion (2013)
- Mojang, creator of Minecraft, $2.5 billion (2014)
- LinkedIn, $26.2 billion (2016)
Conclusion
Shareholders can feel great about the culture at Microsoft. The company is managing to generate growth and return capital to shareholders while keeping its balance sheet in good shape. It has an annual dividend yield of 1.65% and a 3-year buyback ratio of 2.2%. It is a Dividend Achiever, meaning that it has raised its quarterly dividend every single year for more than 10 years. Microsoft is a company you can buy and hold for life, knowing that it will appreciate in value while rewarding you with dividends.
The only downside is that Microsoft’s stock is expensive right now. It’s P/E ratio is at a heavy 66.64. Its share price is sitting around $100 when I would put its intrinsic value is closer to $40-50. Market valuations are generally high right now, especially in the technology sector. Microsoft would be a great target for investment after a significant pullback brings technology stock prices back down to earth.
Footnotes
- Salem Press Biographical Encyclopedia.
- December 25, 2017.
- Gordon, J., “Microsoft’s Leading Edge,” Training, June 7, 2007.
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