Microsoft (MSFT -0.79%) is the U.S.'s second-largest company by market cap, behind only Apple. This makes it one of the most important companies to keep track of during earnings season. Even if you don't own it directly, it still affects you.
Fortunately for investors everywhere, Microsoft reported a solid third quarter (ending March 31, 2022). It also gave upbeat guidance for the last quarter of its fiscal year, but why does this matter to investors who don't own the stock?
A massive component of indexes
Odds are you own an index fund, whether it's through a 401(k) or in another investment account. Two of the major indexes, the S&P 500 and the NASDAQ 100, have a significant Microsoft stake.
|Index||Microsoft Percent Composition of Index|
If Microsoft were to cease all sales and operations, the S&P 500 and NASDAQ 100 would immediately lose that much value. However, given how many businesses use Microsoft's products (practically every business and consumer in the world), everyone would feel the effects.
Microsoft is an essential component in today's digital infrastructure, and all types of investors can benefit from its strong results.
Another impressive quarter
Digging deeper into Microsoft's quarter, its revenue increased 18% year over year (YOY) to $49.4 billion. This growth is pretty much in line with what Microsoft has produced over the past year. However, Microsoft's revenue guidance for Q4 marks a slowdown in growth.
|Segment||Q4 2021 Revenue||Q4 2022 Revenue Guidance||Growth|
|Productivity and business processes||$14.691||$16.775||14.2%|
|More personal computing||$14.086||$14.800||5.1%|
Microsoft's more personal computing segment seems likely to struggle the most. Management is primarily pointing toward constraints caused by the COVID shutdowns in China. With this segment, which includes Surface laptops and Xbox consoles, consumers who want the products may wait until they can get them. If this happens, Microsoft will realize the revenue later.
Its most prominent and fastest-growing division, intelligent cloud, is being led by Azure. During Q3, Azure grew its sales 46% YOY, making it Microsoft's fastest-growing product. Azure is one of the best reasons to invest in Microsoft. Anyone looking to understand the stand of the cloud industry should also compare Azure to Amazon Web Services (AWS), the largest cloud infrastructure provider. While Microsoft makes a direct comparison difficult for investors because it doesn't break out Azure revenue, the platform is growing faster than AWS, which grew quarterly sales by only 37% YOY.
This slowdown isn't a nail in the coffin for AWS, but investors should watch this trend. If Azure can consistently grow faster than AWS, Microsoft may be able to topple Amazon as the cloud infrastructure leader.
Is Microsoft a buy?
I don't own Microsoft shares directly because I own enough of it through index funds. I don't want to overexpose myself to Microsoft, but if I feel it can beat the market over the next three to five years, then it's worth owning individually.
From a price-to-earnings (PE) standpoint, Microsoft isn't the cheapest stock around.
Because it is priced above its pre-pandemic levels, I'm concerned the stock may see some multiple contractions as growth reverts to its usual 12%-to-15%-per-year range. Still, with Microsoft's near-1% dividend yield and given that it repurchased just under $10 billion in its stock in the quarter (about 0.4% of its market cap), the company is also rewarding shareholders nicely. With the market returning an average of 10% per year, Microsoft could easily beat the market with above-average growth, dividends, and buybacks.
I won't be buying shares at this point, but for investors looking to give their portfolio some stability, Microsoft is a great place to start. However, investors need to consider how much Microsoft exposure they already have through index funds.