Microsoft's Lackluster Q2 Report Triggers Mixed Ratings

Microsoft Corporation MSFT released its much-anticipated second quarter earnings report for fiscal year 2015 Monday, January 26. The lackluster report has investors worrying if the computer software giant is becoming outdated or if the company is just experiencing some growing pains as it restructures itself.

The Q2 report was generally in-line with analyst estimates. Microsoft posted revenue of $26.47 billion, slightly over analysts’ estimates of $26.3 billion. This represents an 8 percent year-over-year increase; however this is the first report that reflects revenue derived from Nokia mobile business, which Microsoft acquired in April. Operating income was $7.78 billion, down 2 percent year-over-year. Microsoft posted diluted earnings per share of $0.71, in-line with estimates though a 9 percent year-over-year decrease.

Microsoft highlighted that revenue derived from the Devices and Consumer segment grew 8 percent year-over-year to $12.9 billion. Within this segment, revenue from Microsoft’s Surface tablet increased 24 percent year-over-year. Commercial revenue also grew 5 percent to $13.3 billion. Within this segment, Microsoft’s Commercial Cloud revenue grew 114 percent year-over-year, pointing to the company’s efforts to improve and expand cloud services with Office 365, Azure, and Dynamics CRM Online.

Some feel that Microsoft is throwing potential revenue out the window by giving away Windows 10 as a free upgrade to those who already have Windows 7 or 8. Windows 10 was announced on January 21st as Microsoft boasted its HoloLens feature, allowing users to interact with holograms through a headset.

Looking forward to Q3FY2015, Microsoft CFO Amy Hood stated that she expects a stronger U.S. dollar to “negatively impact revenue growth by approximately 4 points,” primarily in the Commercial Business.

Analysts were eager to weigh in on the tech giant following the report.

According to SmarterAnalyst, analyst Shaul Eyal of Oppenheimer reiterated an Outperform rating on Microsoft with a $50 price target on January 27. Eyal highlighted that the Commercial Cloud business grew 114%, but noted that “it wasn’t a clean quarter due to declines in PCs following the XP refresh cycle and weakness in Japan and China.” He continued, “F3Q15 guidance is weighed down by current FX pressure which poses a 4 pt. headwind, even impacting MSFT’s high momentum businesses. Despite NT issues, we remain positive.” Eyal concluded, “We believe that MSFT continues marching down the correct path leveraging business momentum. While NT headwinds will create some weakness, we would add to positions as a firm base and clear direction is the tune of the ‘new’ MSFT.”

Shaul Eyal has rated Microsoft 13 times since September 2012 with a 100 percent success rate recommending the stock and a +22.9 percent average return per Microsoft recommendation. Overall, Eyal has a 67 percent success rate recommending stocks with a +8.4 percent average return per recommendation.

Separately, Walter Pritchard of Citigroup cut his Microsoft rating from Neutral to Sell and lowered his price target from $50 to $38. Pritchard noted that even though Microsoft blames a strong U.S. dollar for stifling revenue, he believes “there is more to the weakness than this.” He explains, “While FX does weigh on revenue and EPS (as well as help OpEx), revenue guidance comes down by ~12% vs. street for Q3 while FX impact is just 4% of this. We chalk up most of the rest (~$1B vs. our est) to Windows (~40% of it) as well as lower hardware revenue (coupled with lower GM). It is now clear that WinXP expiration had boosted results in FY14 much greater than anyone anticipated (and was messaged by MSFT).” The analyst revised his guidance, noting “FY16/17 EPS comes down to $2.91 / $3.07 from $3.00 / $3.22 (street $3.15 / $3.45).”

Walter Pritchard has rated Microsoft 29 since times April 2011, earning a 76 percent success rate recommending the stock and a +14.2 percent average return per Microsoft recommendation. Overall, Pritchard has a 69 percent success rate recommending stocks and a +13.4 percent average return per recommendation.

On January 27, analyst Rick Sherlund of Nomura Equity Research lowered his rating on Microsoft from Buy to Neutral with a price target of $50, down from $56. Sherlund noted that Microsoft’s cloud restructuring plan is proving to be harder than anticipated, noting, “Cloud revenues continued to show robust growth, but underlying trends in Windows and Office suggest a more challenging transition ahead (at least through our fiscal 2016 time horizon), likely exacerbated by tougher comparisons for the next 2–3 quarters that benefited from the PC refresh cycle associated with the end of support for Windows XP.” Sherlund concluded, “We reduced estimates to reflect a significantly more challenging transition ahead, with difficult comparisons ahead for traditional Office and Windows given evidence of the end of the benefits realized over the past year from the Windows XP related PC refresh cycle, some mix issues driving lower ASP’s, FX and macro issues in a few geographies.”

Rick Sherlund has rated Microsoft 69 times since September 2011, earning a 69 percent success rate recommending the stock and a +12.2 percent average return per Microsoft recommendation. Overall, Sherlund has a 70 percent success rate recommending stocks with a +11.6 percent average return per recommendation.

On average, the top analyst consensus for Microsoft on TipRanks is Hold.