Skip to main content

Microsoft: Who's Laughing Now?

Shares win respect after the company gets back to growth.

Updated from 1:07 p.m. EDT

It's been an uphill battle, but


(MSFT) - Get Microsoft Corporation Report

is finally winning back the Street's love.

The day after Microsoft reported third-quarter revenue growth of 32% and net profit growth of 65%, its stock moved to a 12-week high. Microsoft's profit beat the Street's estimates by 3 cents a share (4 cents excluding extraordinary items like a tax benefit).

Microsoft shares were recently up $1.13, or 3.9%, to $30.48. Earlier, it had moved as high as $30.74. If the stock manages to lift above the $31.39 high point it set in January, it would be at its highest level in more than five years.

That could happen as managers of growth funds have been underweight Microsoft's stock believing that Microsoft isn't much of a growth company anymore. Now that the company is seeing double-digit growth in revenue and profit, they may feel the need to buy more of the stock, which makes up 3.5% of the Russell 1000 index but a smaller portion of many growth funds.

Microsoft's conference call was clearly spun to deliver that message. CFO Chris Liddell and other Microsoft executives on the Thursday afternoon conference call mentioned growth -- that is, used the words "grow," "growth," "grew" or "grown" -- 109 times in the call. Analysts only mentioned it three times.

Are you getting it, Wall Street? Microsoft is growing. Revenue will grow 11% to 12% in fiscal 2008, operating profit will grow even faster, growing 12% to 14%. That growth is faster growth than revenue growth. As for net profit, it will grow 14%, or maybe grow 15%, which means growth faster than operating profit growth. And therefore growth that is faster than revenue is growing. Oh, and did we mention growth?

The message stuck, however, mainly because Microsoft's numbers came in ahead of analyst expectations, and 2008 guidance was higher than analysts were expecting. Of course, they had lowered their expectations in February after CEO Steve Ballmer warned that some of their forecasts were too rosy. Now they have to raise their estimates again. So it goes.

A 4% rise in Microsoft's stock may not seem like much compared with the gains of

(AMZN) - Get, Inc. Report

TheStreet Recommends

, whose stock exploded 40% in the two days following its blowout earnings report earlier this week.

But Microsoft's run-up translated into an awful lot of money pouring into the stock.

The gains this morning from Microsoft's stock have brought $13.5 billion into its market cap, nearly double the $7.5 billion that has moved into Amazon's market cap since its earnings.(On Friday, Amazon shares had given back 1.1%.)

There were some weak points in Microsoft's third quarter. Its online business continued to show mixed results. While overall online-ad revenue was up 23% last quarter and is projected to grow 20% this quarter, Liddell said "We aren't happy, clearly, with the market share we have."

Sales of the Xbox 360 video game console also declined 21%, although the drop was consistent with Microsoft's guidance. Microsoft sold 500,000 consoles in the quarter. The launch of

Halo 3

, the next iteration in its popular game franchise, could put a little wind back in the sails of Xbox 360 consoles during the coming year.

Other areas, notably ones that could become important revenue drivers in the future, saw decent growth. Microsoft unveiled its Windows Mobile 6 last quarter, helping to push revenue in that division up 30%. Server and tools gained 25%. Beyond Office 2007, Microsoft is looking to programs like SharePoint to help keep the business-software division expanding.

There were some crucial data points that didn't find their way into Microsoft's earnings release or its conference call -- notably the number of Vista units sold, especially in retail stores where early reports were that consumer demand for the new software was lukewarm.

Even so, the degree to which Microsoft surprised the Street left analysts feeling almost apologetic. "We Were Wrong" read the frank headline on a post-earnings note from CIBC. The firm, which doesn't have an underwriting relationship with Microsoft, raised its rating on the stock to sector performer from sector underperformer, although it held its price target at $29.10.

"The company's core businesses are performing solidly, with the Vista and Office 2007 product cycles in early stages, and ... the upcoming Longhorn server cycle could provide even more market share gains and revenue upside versus current expectations," wrote CIBC analysts Brad Reback and Renaud DeVreker in a Friday note.

Not only could measured R&D spending add to operating margin over the long term, but direct returns to shareholders are likely to continue. "With the company aggressively returning cash to shareholders in the form of dividends and buybacks, we believe it is taking all the right steps in the interest of creating long-term shareholder value, " they wrote.

Over at Citigroup, which has received investment banking compensation from Microsoft, analyst Brent Thill boosted his Microsoft stock rating to buy from hold and lifted his price target to $36 from $33.

Signs that consumers and companies are taking to Vista coupled with the strong fiscal 2008 guidance suggest that Microsoft's stock is more likely to move higher than lower, he wrote.

With Office 2007 and Vista along with server software SharePoint already on tap, there are a number of product launches ahead: Not just Halo 3, but the new Windows Server codenamed Longhorn, a Vista Service Pack, and CRM software Titan CRM Live. "MSFT is in the early innings of its strongest product cycle in 10 years," wrote Thill.