Microsoft (MSFT) reported financial results for the fourth quarter of fiscal 2019 on Thursday.
It was another quarter of impressive growth, with revenues up 12% to $33.7 billion (and 14% on a constant-currency basis). Operating income grew at a faster pace due to margin expansion, with non-GAAP net income ($10.6 billion) and non-GAAP diluted earnings per share ($1.37 per share) both up 21% year-over-year (and up 24% on a constant currency basis). For fiscal 2019, non-GAAP diluted earnings per share increased more than 20% to $4.75 per share. Anybody who has followed Microsoft closely would tell you that this kind of growth seemed unfathomable a few short years ago. Kudos to management and the company’s employees for delivering these astounding results.
In 2015, Microsoft set an ambitious target for run rate commercial cloud revenues of $20 billion by the end of fiscal 2018. They met that goal early (in the first quarter of fiscal 2018) and have kept charging ahead: Run rate commercial cloud revenues are now at $44 billion. On that sizable base, they’re still growing the top line at roughly 40% year-over-year. In addition to significant revenue growth, the commercial cloud business continues to benefit from economies of scale and increasing adoption of premium services, with gross margins up 600 basis points to 65% (led by “another quarter of material improvement in Azure gross margins”). As a result, gross profit dollars in the fourth quarter increased by 53% to more than $7 billion.
Digging into the segment results, Productivity & Business Processes revenues increased 17% (constant currency) to $11 billion. Customer growth continued for Office 365 Commercial (23% seat growth), with higher average revenue per user (ARPU) from continued mix shift to E3 and E5 leading to 34% constant currency revenue growth in the quarter. Office 365 Consumer continues to grow as well (revenues increased 8%), with nearly 35 million subscribers at year-end.
Dynamics reported another strong quarter (revenues up 15%), with the Dynamics 365 growth rate accelerating sequentially (to up 48%). Finally, LinkedIn revenues increased 28%, with another quarter of record engagement among its nearly 650 million global members (sessions up 22% year-over-year). In addition to mid-teens revenue growth, Productivity & Business Processes operating margins expanded by 340 basis points in fiscal 2019 to 39.4%; as a result, segment operating income increased by 25% for the year to more than $16 billion (up 31% in constant currency).
Revenues in the Intelligent Cloud segment increased by more than 20% to $11.4 billion, led by nearly 70% year-over-year revenue growth from Azure (analysts at Goldman Sachs estimate that annualized revenues for Azure are roughly $17 billion). As CEO Satya Nadella noted on the call, “Our differentiated approach -- from developer tools and infrastructure to data and analytics to AI -- is driving growth. The world’s leading companies trust Azure for their mission-critical workloads, including more than 95% of the Fortune 500.” This quarter marked the conclusion of a solid year for Intelligent Cloud, with segment revenues and operating profits both up over 20% in 2019.
In More Personal Computing (MPC), revenues increased mid-single digits to $11.3 billion on the back of 9% growth for Windows OEM (with higher demand in advance of Windows 7 end of support, as well inventory due to uncertainty around the potential impact of tariffs). For the year, MPC revenues rose 8%, and operating income increased 21%.
In fiscal 2019, cash flow from operations increased 19% to $52 billion. After accounting for $14 billion in capital expenditures (up 20% year-over-year), the company generated $38 billion of free cash flow (nearly $5 per share). The company returned more than $30 billion of capital to owners in fiscal 2019 through $19.5 billion of share repurchases and $13.8 billion of dividends. (The diluted share count declined less than 1% for the year, which reflects the impact of issuance related to the $7.5 billion all-stock deal for GitHub that closed in October 2018.)
At year-end, Microsoft held $134 billion in cash and short-term investments. After accounting for long-term debt (including the current portion), the company had more than $60 billion in net cash (roughly $8 per share). Considering the strength of the business and the fact that they’re generating more than $3 billion of free cash flowevery month, the balance sheet positioning remains incredibly conservative. We’ll see if that changes over the coming years.
Conclusion
I’ll close with what Nadella said in the conclusion of his prepared remarks on the call:
“I’m proud of what we have accomplished over the last 12 months, and I’m energized by the tremendous opportunity ahead. Every day we work alongside our customers to help them build their own digital capability - creating new businesses with them, innovating with them, and earning their trust. This commitment to our customers’ success is resulting in deeper partnerships, larger, multi-year cloud agreements and growing momentum across every layer of our differentiated technology stack.”
As long-time readers know, I’ve owned a meaningful position in the stock for more than five years. While it doesn’t sound cheap at 28x trailing earnings, I’ve been investing long enough to know that high-quality businesses with huge addressable markets and best-in-class leadership are a rare bird (and that’s before considering the company’s fortress balance sheet). While I have not bought additional shares of Microsoft in a long time, I have not sold recently either. Honestly, I don’t see that changing anytime soon. I continue to like the idea of owning this company – and being partnered with this management team – for many years to come.
Disclosure: Long Microsoft.
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