Microsoft Corp. (MSFT, Financial) recently reported financial results for the first quarter of 2020, and it was another solid performance for the company after a stellar 2019.
Revenues in the quarter increased 14% to $33.1 billion (+15% on a constant currency basis), driven by growth in each of the company’s three segments and across all geographies. Operating income grew at a faster pace due to margin expansion (up 415 basis points year-over-year to 38.4%, a level Microsoft hasn’t seen since fiscal 2012), with diluted earnings per share (EPS) up 25%. Anybody who has followed Microsoft would tell you that this kind of growth seemed unfathomable a few years ago. Kudos to the company and its 144,000 employees for delivering these results.
Commercial Cloud revenues (O365 Commercial, Azure, Dynamics Online and LinkedIn Commercial) were $11.6 billion, up 39% year-over-year in constant currencies. By the end of fiscal 2020, run rate Commercial Cloud revenues will cross $50 billion – nearly three times higher than the run rate at the end of fiscal 2017 ($17 billion).
In addition to significant revenue growth, commercial cloud continues to benefit from economies of scale and increasing mix shift towards premium services, with gross margins up 400 basis points to 66% (“material improvement in Azure gross margins”). As a result, gross profit dollars in the fourth quarter increased by 45% to $7.7 billion.
Digging into the segment results, Productivity & Business Processes revenues increased 15% (constant currency) to $11.1 billion. Customer growth continued for Office 365 Commercial (21% seat growth to more than 200 million active users), with higher average revenue per user (ARPU) from continued mix shift leading to 28% revenue growth in the quarter. Office 365 Consumer continues to grow as well, with 35.6 million subscribers at quarter end (+10% year-over-year).
Dynamics reported another strong quarter of mid-teens revenue growth, with Dynamics 365 growing 44% year-over-year. Finally, LinkedIn revenues and sessions both increased by more than 20%, with another quarter of record engagement among the service's 660 million members. In addition to revenue growth, Productivity & Business Processes operating margins expanded 350 basis points 43.2%; as a result, segment operating income increased 23% in the quarter to $4.8 billion.
Intelligent Cloud revenues were $10.8 billion (+29% in constant currencies), driven by a 63% increase for Azure. As shown below, growth in the segment has accelerated in recent years despite tougher comparisons. Goldman Sachs estimates that annualized revenues for Azure are $17 billion, with 95% of Fortune 500 companies trusting Azure for their mission-critical workloads.
In More Personal Computing (MPC), revenues increased 4% due to 19% growth for Windows OEM Pro, with higher demand for Windows 10 in advance of the end of support for Windows 7.
Results in gaming were weak, with revenues down 7% year-over-year, but that is largely due to timing as customers await a new Xbox console, which will launch in late 2020. More importantly, Xbox Live active users reached a new high, which points to the continued engagement with the service among gamers (and fuels continued growth for Game Pass).
In the first quarter, cash flow from operations increased 1% to $13.8 billion, with capital expenditures (inclusive of finance leases) up 12% to $4.8 billion (adjusted for the impact of one-time tax payments, cash from operations increased in-line with the growth rate in profitability). Despite the significant ramp in capital expenditures (CapEx) in recent years - with the investment in 2019 of $13.9 billion more than doubling from 2015 - free cash flow (FCF) per share has increased by nearly 60% cumulatively over the past three years.
Capital returns to shareholders were $7.9 billion in the quarter, up 28% YoY (dividend recently hiked 11% to $0.51 quarterly). That said, the share count only declined 0.7% to 7,710 million shares due to significant issuance for employee compensation, as well as the impact of issuance related to the $7.5 billion all-stock deal for GitHub that closed in October 2018).
The balance sheet remains in great shape, with $70 billion in net cash on the books ($9 per share). They are generating a ton of cash and are having a difficult time figuring out how to intelligently spend it (trailing 5-year cumulative FCF of $150 billion). As I’ve noted in the past, I believe the balance sheet positioning remains conservative. We’ll see if that changes over the coming years.
Conclusion
I’ll close with a quote from Satya that speaks to Microsoft’s long-term opportunities:
“The world’s leading companies are choosing our cloud to build their digital capability. We are accelerating our innovation across the entire tech stack to deliver new value for customers and investing in large and growing markets with expansive opportunity… I am proud of how we are helping organizations of every size in every industry innovate and thrive using our platforms and tools.”
As long time readers know, I’ve owned a meaningful position in Microsoft since 2011. It’s interesting to think about what has happened in the years since then. Currently, I think you would be hard pressed to find any large company that matches Microsoft in terms of its long-term growth prospects, high-quality leadership and financial strength. I think that’s funny because on two of those three metrics (the growth prospects and management quality), most people would argue that Microsoft had serious issues five or ten years ago. That just goes to show you how companies – and the stories that investors tell themselves about them – can change over time.
Disclosure: Long MSFT
Read more here:
- Amazon: Investments Fueling Accelerating Growth
- Comcast: Marching Ahead With Connectivity
- Chipotle: The Recovery Continues
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