Why Wall Street Is Expecting a Strong Report and Guidance From Microsoft

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The fanfare for second-quarter earnings season has been mixed. While many companies have seen mixed results and reactions around earnings so far, some companies will have no choice but to exceed expectations and have good news. After all, if the S&P 500 was at all-time highs and up 20% so far in 2019 alone, and if your shares are up far more than the market, investors likely will have built-in high expectations.

Microsoft Corp. (NASDAQ: MSFT) is due to report earnings after the closing bell on Thursday, and its shares were the second-best Dow performer on last look, with a gain of 34% so far in 2019.

Microsoft had a $1.04 trillion market cap heading into Thursday, the largest in the world, and the shares were within 3% of their all-time high. This report also will mark the company’s fiscal fourth-quarter report for 2019. While much of the market can talk endlessly about valuations being stretched and can point out that many top companies can hide behind slowing global growth and China trade war risks, expectations remain high here.

The consensus estimates from Refinitiv were calling for $1.21 in earnings per share (EPS) and $32.75 billion in revenues for the fourth quarter alone. That would compare to EPS of $1.13 and $30.1 billion in revenues a year earlier.

For guidance ahead, Refinitiv shows the coming quarter consensus estimates as $1.19 EPS on $32 billion in revenues, and fiscal year 2020 consensus estimates are $5.11 EPS on revenues of $138.7 billion.

As you would expect with performance of this magnitude, Wall Street analysts have been talking up expectations for Microsoft shares ahead of earnings. It’s important to consider that this stock’s strength has not been in a straight line up either. The shares dipped from $130 at the start of May down to $120 or so as the “sell in May and go away” theme was strong. Then Microsoft turned around in June and went on to hit new highs above $139 in recent days. That values Microsoft at just over 27 times expected earnings for the entire next fiscal year.

With Microsoft still sitting on over $130 billion in cash and investments at the end of its most recent quarter, some investors may want it to continue chipping away at that $72.5 billion in long-term debt, while it keeps buying back stock (over $16 billion on buybacks in calendar year 2018 alone).

Microsoft is no longer just about software sales and personal computers. It took years to shed that tie, but the company is in a very different place now that it has the highest market cap of all companies. After a recent cloud win, another huge opportunity is the pending all-or-none JEDI $10 billion cloud deal with the U.S. Department of Defense. It can be argued that Microsoft should be considered the only eligible company to handle the deal from a security aspect, but this is a government contract and those outcomes can in some instances be harder to predict.

In terms of Wall Street’s strong expectations, in July and June alone, Wells Fargo raised its target to $160 from $145, Cowen started coverage with a $150 target, Credit Suisse assigned a $145 target and Deutsche Bank raised its target to $155 from $145. In the past 48 hours, Nomura/Instinet raised its target price to $161 from $131.

Credit Suisse issued a preview on Wednesday, with an Outperform rating and a $145 price target. It is expecting that Microsoft will report solid earnings as it continues to execute against its vast opportunities. The firm’s recent CIO survey also showed that 64% of chief intelligence officers expect to spend more of their IT budgets on Microsoft in calendar 2019 than they had initially budgeted. One issue that Credit Suisse did warn about is that Microsoft is entering a period when it has increasingly difficult comparisons of prior strength through the end of this calendar year. The firm sees Microsoft’s fiscal year 2020 guidance to be in line with its preliminary views of double-digit revenue and operating income growth with stable margins.