Using the financial statements in Microsoft's 10-Q, we have now updated a set of Cash Management, Growth, Profitability and Value metrics. This post reports on the metrics and the associated financial gauge scores.
Some background information about Microsoft and the business environment in which it is currently operating can be found in the beginning of our look-ahead. Windows 7 became available on 22 October.
In summary, Microsoft's latest quarterly results has produced the following changes to the gauge scores:
- Cash Management: 21 of 25 (unchanged from June)
- Growth: 5 of 25 (up from 1)
- Profitability: 13 of 25 (up from 12)
- Value: 14 of 25 (down from 18)
- Overall: 57 of 100 (down from 61)
The current and historical values for the financial metrics that determine the gauge scores are listed below, with some brief commentary.
|Cash Management||Sep 2009||Jun 2009||Sep 2008||5-Yr Avg|
|Days of Sales Outstanding (days)||58.7||77.4||54.8||60.8|
|Working Capital/Invested Capital||224.0%||160.5%||86.3%||238.6%|
|Cash Conversion Cycle Time (days)||-3.2||-10.0||0.6||-1.9|
|Gauge Score (0 to 25)||21||21||14||18|
Microsoft added long-term debt to its capital structure for the first time in May 2009, when it issued debt securities with a face value of $3.75 billion. The amount is hardly significant as the company's Balance Sheet now lists $36.7 billion in cash, cash equivalents, and Short-term investments. In fact, Cash Flow from Operations averaged $4.76 billion per quarter in fiscal 2009.
Given these figures, no one should be surprised that Microsoft joined the elite ranks of non-financial entities with a AAA rating bond rating.
Microsoft may have issued the debt to exercise a means of raising much larger amounts of cash should the company decide to pursue a large acquisition.
After the June quarter, we noted rising Days of Sales Outstanding and wondered if there was an issue involving Accounts Receivable. Shorter periods are preferred because it indicates the company is getting paid faster. Receivables and DSO returned to more normal, seasonal figures during the September quarter, although an upward trend remains apparent. A bigger concern might be that the Allowance for Doubtful Receivables shot up from $242 million to $451 million and has only backed down to $436 million. Is a big customer having trouble making payments?
|Growth||Sep 2009||Jun 2009||Sep 2008||5-Yr Avg|
|Operating Profit growth||11.2%||13.7%||20.4%||12.4%|
|Net Income growth||-22.5%||-17.6%||19.4%||6.1%|
|Gauge Score (0 to 25)||5||1||17||16|
The Operating Profit rate is the annualized rate of growth in Operating Profit after Taxes over the last 16 quarters.
Fiscal 2009 was the first year in which Microsoft's Revenue was less than the year before. Declining Revenue (and Net Income) continued into the first quarter of fiscal 2010, but we would assume the release of Windows 7 will now lead to a sales surge.
Some Revenue previously deferred will also be realized.
After increasing for about four years, Revenue/Assets has been contracting modestly. However, this ratio is still higher than it had been for most of the last decade.
Cash Flow from Operations surged tremendously in the September quarter, from $3.4 billion to $6.1 billion, turning around lackluster performance for this metric in fiscal 2009.
|Profitability||Sep 2009||Jun 2009||Sep 2008||5-Yr Avg|
|Free Cash Flow/Invested Capital||150.0%||120.2%||123.2%||173.1%|
|Gauge Score (0 to 25)||13||12||12||17|
Operating Expenses as a percentage of Revenue have been negatively affected by the lower margins on software for inexpensive netbooks and the decline in Revenue. However, Microsoft's cost-cutting actions announced at the beginning of 2009 have gained traction, as seen in September's quarterly results, and should help reduce the expense ratio in the future.
Although the ROIC is still impressive, it is down considerably from last year and before.
The surge in Cash Flow from Operations in the most recent quarter quickly and substantially reversed the downturn in Free Cash Flow to Invested Capital. It also helped reduce the Accrual Ratio, which we would like to see continue.
|Value||Sep 2009||Jun 2009||Sep 2008||5-Yr Avg|
|P/E vs. S&P 500 P/E ||0.6||0.6||0.8||1.1|
|Enterprise Value/Cash Flow (EV/CFO)||9.2||9.8||11.8||13.1|
|Gauge Score (0 to 25)||14||18||19||15|
Microsoft's share price continued to rebound during the September quarter. It rose 8.2 percent, from $23.77 to $25.72, which followed a 29 percent gain during the April-to-June quarter.
When coupled with the declines in sales and earnings during the last few quarters, the Price to Earnings multiple (among other metrics of this type) has expanded. It should be no surprise that the Value gauge has been succumbing to the resulting downward pressure.
The inverse of Enterprise Value/Cash Flowis the annual cash flow return (1/9.2 = $0.11) for each dollar of Enterprise Value. The figures are based on Cash Flow from Operations of $21.8 billion during the last four sequential quarters. We're impressed Microsoft could generate that much cash flow when information technology spending is down and suspect the coming year will be even more lucrative.
The Value gauge had perfect 25-point scores after the December 2008 and March 2009 quarters. The share price was under $20 at that time. There was no way to know how the future would unfold, but the Value gauge certainly did its job after those earlier periods.
|Overall||Sep 2009||Jun 2009||Sep 2008||5-Yr Avg|
|Gauge Score (0 to 100)||57||61||63||65|
The Overall gauge lost four points because the decline in the double-weighted Value gauge offset stable-to-positive scores in the other categories. However, 57 points is still a good score, and we would not be surprised to see it get back over 60 points again soon.
Full disclosure: Long MSFT at time of writing.