Is It Time To Sell Microsoft Stock?

Microsoft (MSFT -1.27%), the second-largest U.S. company by market cap, has had a remarkable decade, turning $10,000 invested into an incredible $108,000. That's a phenomenal return.

In its latest quarter, Microsoft revealed some cracks that concern many investors, even causing many to wonder whether it's time to sell the tech giant and look for greener pastures. So is Microsoft's run over? Or is it just taking a break? Let's find out.

Growth will be hard to come by in 2023

Microsoft's three business segments saw significantly different operating environments in the second quarter of FY 2023 (ending December 31). Productivity and Business Processes, which include LinkedIn and Office products, were up 7% to $17 billion. While that's not rapid by any means, it still outpaced Microsoft's companywide 2% growth.

Intelligent Cloud had a phenomenal quarter (surprise, surprise) for Microsoft and saw 18% growth to $21.5 billion. However, this segment is slowing down, as revenue grew at a 20% clip in Q1. Microsoft's cloud computing service Azure is a crucial contributor to this slowdown, as Q2's revenue growth of 31% was worse than Q1's 35%.

We won't know whether this is a Microsoft problem or an industry problem until Amazon (AWS) and Alphabet (Google Cloud) report their quarters. But if those two don't report the same level of cloud slowdown as Microsoft, it could be a huge warning signal.

Finally, Microsoft's More Personal Computing segment fell 19%. Consumers aren't buying as many computers or gaming consoles, and Microsoft's financials are taking the blow.

For the most part, the trends of Q2 are projected to continue into Q3, at least according to management's guidance.

Source: Microsoft. Chart by author.

Combined, Microsoft's revenue is projected to grow by 3.2% in Q3, so the slow growth will continue for at least another quarter, though this trend will likely continue. But more on that later.

While slowing revenue growth is a problem -- rising expenses can wreak even more havoc.

Microsoft's operating expense rose 19% over last year thanks to a heavy increase in the general and administrative line item. Some of this cost will come down as Microsoft cuts about 10,000 jobs, but these layoffs won't be fixed by a 19% rise in expenses (unless each person makes about $936,000 annually).

Ultimately, this operating expense increase helped Microsoft's earnings per share (EPS) to fall from $2.50 last year to $2.20. While it's easy to critique management for their decisions, the operating environment when many of these spending decisions were made was different. Regardless, investors are left with the same question: "Is Microsoft a buy, sell, or hold?"

Buy, sell, or hold the stock?

Wall Street analysts expect Microsoft to experience relatively slow growth this year, with 6% growth expected in FY 2023 (ending June 30, 2023). However, in FY 2024, Microsoft's revenue is expected to rise by 11.6%. This backs up CEO Satya Nadella's comment when discussing the tech sector in early January, stating that "the next two years are probably going to be the most challenging."

So if the next two years will be difficult, how does that relate to Microsoft's premium valuation?

MSFT PE Ratio data by YCharts. PE ratio = price-to-earnings ratio.

Although this valuation is less than 2021's peak, it's still higher than 2019's. With slowing growth and high interest rates, I wouldn't be surprised if this valuation comes down.

Unless a valuation is absurd, a premium valuation is never a reason to sell a stock (although it could be a reason to trim). However, I think there will be better entry points along the way, so I don't think Microsoft is a buy here, either.

If Nadella's predictions come true, there will be plenty of time to scoop up Microsoft shares over the next year or two -- so investors should exercise some patience and wait to buy Microsoft stock.