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Fueled by an artificial intelligence (AI)-driven rally, tech stocks have been leading the market higher so far in 2023. After coming under heavy pressure in 2022 amid the Fed's relentless rate hikes, the tech-centric Nasdaq 100 Index ($IUXX) has now recovered to gain more than 39.1% on a YTD basis. By comparison, the more broad-based S&P 500 Index ($SPX) is 15.9% higher on the year.
Notably, one of the outperformers in 2023 has been the long-time tech titan Microsoft (MSFT). Shares of the software giant are up 39.3% this year, outpacing the S&P 500 by a wide margin (and edging out the Nasdaq 100 ever so slightly as of this writing, too).
However, with MSFT joining in a wider Nasdaq pullback since mid-July, there's an opportunity to buy the dip right now for investors who are looking to build positions in this outperformer for the long term. Whether it's the growth prospects for AI or the consistency of its dividend yield, here are five reasons why Microsoft is worthy of a place in your portfolio now.
1. Consistent Earnings Beats
Microsoft's EPS has beaten the Street estimates over the recent quarters quite regularly. Over the past five quarters, its EPS has surpassed expectations on four occasions. In fact, the one instance where the earnings did not meet expectations was in July 2022, when various macroeconomic pressures converged to weigh on the company's bottom line. However, it should be noted that even on that occasion, MSFT rallied after earnings on the strength of its forward guidance.
In its latest quarterly results, Microsoft's EPS topped estimates by 5.5%, with solid revenue growth in the company's key revenue segments of cloud (+15.3% YoY) and productivity and business processes (+10.2% YoY).
2. AI Leadership
A key reason for the muted performance seen in Microsoft stock post its earnings has been the management's assertions that revenue growth from AI-led activities would witness a slowdown in the upcoming quarters. However, this remains a classic case of “missing the forest for the trees” as the company's AI-driven revenue generation capabilities have a number of drivers which evidently makes it one of the frontrunners in this rapidly growing space.
Firstly, Microsoft's investment in ChatGPT is expected to start yielding, as parent company OpenAI rapidly approaches $1 billion in annual sales. Moreover, Microsoft recently integrated ChatGPT onto its cloud platform for enterprise customers, with key partners like PwC, AT&T (T), and Moody's (MCO) set to benefit.
The company is also integrating AI into its tools in the “Productivity and Business Processes” segment, which made up almost a third of the company's revenue in the most recent quarter. Microsoft's Copilot, a generative AI-powered tool enabling users to give commands to the assistant in natural language, is expected to be added to Microsoft 365, which includes Microsoft's suite of Office apps, such as Word and Excel. The tech giant charges $30 as a monthly fee for Copilot from enterprise customers on top of the subscription fees for Microsoft 365, reflecting strong pricing power.
Copilot's capabilities should allow Microsoft to encourage developers to build apps that integrate with it seamlessly. Remember, Microsoft charges 30% on app sales through its Microsoft AppSource platform, making it another key revenue driver for the company.
3. Cloud Computing Strength
Microsoft is one of the leading players in the cloud computing space, along with Google (GOOGL) and Amazon (AMZN) AWS. In fact, these three behemoths have cornered about 66% of the global cloud market. Valued at $231.12 billion in 2023, the global cloud market is expected to reach a whopping $2.2 trillion by 2030, clocking a CAGR of 37% over the period.
Microsoft's strong capabilities in the cloud space, along with its leading market share, positions it well to benefit from the expected growth in the enterprise cloud market globally. In fact, along with enterprise software - a $1.2 trillion market, as of 2021 - Microsoft Azure is also poised to grab market share in the IT services ($1 trillion market) and communication services ($1.3 trillion market) segments as well.
4. Reliable Dividend Yield
Along with its impressive share price performance, Microsoft offers investors a dividend yield of 0.82%.
Compare this to some of its cash-hoarding peers like Amazon and Google, with whom Microsoft competes closely on AI and cloud computing; neither tech giant pays a regular dividend. And Microsoft's dividend yield is better than its fellow tech peer Apple (AAPL), which yields 0.51%.
Impressively, Microsoft has raised its dividend consistently over the past nine years, too.
5. Analysts Expect More Upside
Finally, analysts remain convinced about Microsoft's earnings growth prospects. The consensus is calling for earnings to improve 12.8% for the current quarter, and 11.1% for FY 2024.
Overall, analysts remain bullish on Microsoft stock, with a consensus “Strong Buy” rating and a mean target price of $383.49 - which indicates upside potential of about 15.7% from current levels. The Street-high target of $440 implies expected upside of nearly 33%.
Out of 35 analysts covering the stock, 29 have a “Strong Buy” rating, 3 have a “Moderate Buy” rating, 2 have a “Hold” rating, and just 1 has a “Strong Sell” rating.
Final Takeaway
All things considered, Microsoft's prospects look quite strong for continued outperformance. While competition is stiff in AI and the cloud - and macroeconomic challenges still remain - Microsoft's strong balance sheet, pricing power, and proven execution capabilities give it a strong footing and an operational edge. Consequently, the stock is a compelling bet for investors to buy on any weakness.
On the date of publication, Pathikrit Bose did not have (either directly or indirectly) positions in any of the securities mentioned in this article. All information and data in this article is solely for informational purposes. For more information please view the Barchart Disclosure Policy here.
