The release ofMicrosoft’s outstanding first-quarter profitresult is an opportunity to look at what investors are willing to pay for one of the world’s top-performing software companies and compare it to investors in Australian technology stocks.
There are several tech companies in Australia with market valuation metrics higher than those of Microsoftincluding Xero, a cloud-based accounting software company headquartered in New Zealand, and Technology One, a software company based in Brisbane.
But the stock that puts Microsoft in the shade on the most closelywatched key ratios is WiseTech Global, which has been fighting off a short attack from a research group based inHong Kong, J Capital Research.
This comparison between Microsoft and WiseTech provides some insights into what to look for when investing in technology companies. The harder part is explaining why WiseTech commands a valuation so much greater than Microsoft.
First, it is worth looking at how Microsoft performed in the three months to September 30. The company beat market expectations thanks to the performance of Azure, its cloud business, which had a 59 per cent increase in sales.
Microsoft’s overall net income rose 21 per cent to $US10.7 billion ($15.6 billion) and diluted earnings per share rose 21 per cent to $US1.38.
Microsoft’s chief executive, Satya Nadella, and the company’s chief financial officer, Amy Hood, gave upbeat answers to questions from analysts on an earnings call on Thursday morning, Sydney time.
They said Microsoft was not only winning market share in cloud computing, it was lifting its profit margins through the sale of premium services to existing customers. The cloud strategy includes partnering with some of the world’s largest software companies including SAP and Oracle.
At the core of Microsoft’s resurgence is the bundling of an increasing number of products including software for security, compliance, workflow management and collaboration.
Nadella says Microsoft is riding a wave of demand caused by the rise of distributed computing. He says computing will migrate to where data is being generated and the company’s cloud services are designed to meet this growing demand. Artificial intelligence is only just starting to gain traction among customers.
When Hood was asked about the macroeconomic environment and how it was shaping the Microsoft strategy, she said there were plenty of opportunities for the company to grow in areas with large, expanding and durable total addressable markets.
Investors buying Microsoft shares are paying about seven times forecast full-year revenue and 27 times forecast full-year earnings.
When you compare that to WiseTech it is clear investors are willing to pay much more for revenue and earnings. The comparative numbers are 100 times forecast revenue and about 19 times forecast earnings.
The other measure that puts WiseTech in front of Microsoft is revenue growth. Over the past three years WiseTech has recorded revenue growth in excess of 77 per cent in Europe and more than 32 per cent in the Asia Pacific region, according to Bloomberg.
Microsoft’s revenue growth over the past three years has been about 11.4 per cent in the United States and 11.3 per cent in its international operations.
But when you dig a bit deeper and compare other valuation and performance ratios, Microsoft jumps ahead of WiseTech.
Microsoft has much higher gross profit margins and much higher margins on earnings before interest and tax.
Lack of alternatives
Microsoft is earning 42 per cent on its equity while WiseTech earns about 10 per cent. This difference is partly explained by Microsoft’s consistent purchase of its own shares. Microsoft returned $US7.9 billion to shareholders in the form of dividends and share repurchases in the first quarter of fiscal year 2020, an increase of 28 per cent compared to the first quarter of fiscal year 2019.
It is clear from the comparison of key statistics for Microsoft and WiseTech that investors in the Australian company are willing to pay a very high price for strong revenue growth. This may be because of the lack of alternative high-growth companies listed on the S&P ASX200.
Investors in WiseTech have been willing to pay an earnings multiple that is high by local standards and extremely high by world standards.
Local investors have put WiseTech on a valuation pedestal much higher than any of its comparable local software companies and much higher than Microsoft.
The confidence in the future of WiseTech has come into question this past week but it remains one of the most expensive software companies in the world.
Disclosure: The author’s self-managed super fund owns shares in Microsoft.