Microsoft: A Fat Pitch

10/23/2013 8:00 am EST


Stephen Mauzy

Income-Investing Specialist, Wyatt Investment Research

Baseball fans understand that no pitch is easier to hit than the fat pitch. They are rare in Major League Baseball and even rarer in the investment world; in the nearly three years we've been publishing, I've yet to run across the fat pitch...until now, asserts Steve Mauzy in High Yield Wealth.

This fat pitch I'm referring to is Microsoft Corp. (MSFT); it has a top-five world brand. Powerful brands engender customer loyalty and pricing power. Companies with powerful brands sport high margins and possess an exceptional ability to generate cash.

It sports high margins and it generates cash at a rate few companies can match. Each year it generates billions of dollars of free cash flow, which has swelled its cash account to more than $77 billion.

Just as important, this fat pitch returns cash to shareholders at a rate few companies can match. During the past ten years, its dividend has increased at an average annual rate of 18.7%.

This fat pitch does a lot right, but it doesn't do everything right, which is why it is a value-priced stock. Management has repeatedly failed to anticipate change. Since 2007, the company has spent more than $25 billion on acquisitions that were supposed to help it catch the competition. Yet they haven't.

Also among its problems is finding a new CEO. Recently, Ford CEO, former Boeing VP, and Seattle native Alan Mulally has been chatted up as a lead candidate.

Meanwhile, Microsoft's future growth resides in cloud computing, an industry term for Internet-based software systems. Cloud computing allows individuals and businesses to use software without storing it on their own computers.

Office 365 is Microsoft's cloud version of the Office suite, and the business is growing hand over fist. Revenue growth has been staggering, increasing 350% to $1.5 billion year over year.

Microsoft's other cloud service offers even greater growth potential. Microsoft Azure allows business clients to build databases, using Microsoft cloud-based software, that reside on Microsoft-owned and managed data centers.

Azure commands 20% of the cloud market, and already counts 50% of Fortune 500 companies as clients. With Azure, Microsoft has the potential to reboard the growth train.

The infrastructure cloud—Azure's market—is the fastest-growing segment of the cloud market. Gartner Inc. estimates that sales of infrastructure services will surge to $30.6 billion by 2017 from $6.17 billion in 2012.

I see little downside risk in Microsoft. The stock is priced like the good parts don't exist and management is tone-deaf to the bad parts. Nothing could be further from the truth; change is on the way.

At the same time, I see a lot of upside. The good, the bad, and the uncertain all coalesce to make Microsoft the first fat pitch recommendation for the High Yield Wealth portfolio. I recommend taking a swing.

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