How Microsoft's Expensive Cloud Bet Is Paying Off

Instead of sitting on its cash hoard like so many of its competitors, the company finally recognized that to survive - let alone grow - it had to invest in the future of the enterprise.

That realization - and the decision to fund it - is paying off in terms of growth and stock price performance. What is curious is how many other businesses continue to behave as if they believe avoiding risk is a sustainable strategy. JL 

Steven Russolillo reports in the Wall Street Journal:

The cloud formed a large part of Microsoft’s $8.3 billion in capital expenditures last year, 40% higher than a year ago. That has yielded results. Microsoft’s “Intelligent Cloud” made up 30% of total revenue in 2016, up from 25% in 2014. It also experienced the strongest growth of Microsoft’s segments, underscoring it’s transition from selling software licenses to selling on-demand computing services. It’s multiple sits at a nine-year high and 25% richer than a basket of five competitors.
Unlike Bill Belichick, there is plenty for Microsoft Corp. MSFT 4.21 % shareholders to like beneath the surface.
The grouchy New England Patriots head coach went on a five-minute tirade this week saying he would no longer use the company’s tablets. That followed a video from a game earlier this month showing him slamming a Surface tablet in frustration. Microsoft defended the tablet’s reliability.
While Surfacegate became an internet meme, it won’t overshadow what should be decent quarterly results for Microsoft on Thursday. Analysts polled by FactSet predict fiscal first-quarter earnings of 68 cents a share, up a penny from a year ago. Revenue for the period ended in September is expected to tick slightly higher to $21.7 billion. All eyes will be on the company’s continued shift to the cloud.Microsoft’s cloud services have been a bright spot, helping offset weakness in its businesses tied to personal computers. Like rivals Amazon.com Inc. and Alphabet Inc. GOOGL 0.30 % ’s Google, Microsoft has been spending heavily on new data centers and infrastructure. The cloud formed a large part of Microsoft’s $8.3 billion in capital expenditures last year, which were 40% higher than a year ago.That expensive bet has yielded promising results so far. Microsoft’s “Intelligent Cloud” segment made up nearly 30% of total revenue in fiscal 2016, up from 25% in 2014. It also experienced the strongest growth on a year-over-year basis of Microsoft’s main segments, underscoring Microsoft’s key transition from selling software licenses to selling on-demand computing services. The cloud has also recently dictated how the stock has performed immediately following earnings. In April, when Microsoft’s cloud business missed expectations, the stock suffered its worst one-day drop of the year. In July, when its cloud business was surprisingly strong, shares jumped. The stock has added to gains ever since, leaving it within about 3% from its December 1999 record.
One roadblock to further gains could be valuation. Fetching 19 times projected earnings over the next 12 months, Microsoft’s multiple sits at around a nine-year high and about 25% richer than a basket of five competitors. But that valuation is much more reasonable than in its dot-com heyday.
Unless something goes seriously haywire, neither Mr. Belichick’s ire nor cloud results will deflate that multiple.