As lockdown stretches on globally, 3 companies are at the forefront of enabling the primarily remote working environment most people find themselves in. You guessed it, Slack, Zoom and Microsoft (via Teams).
Our team has been working remotely since December 2019 so we had a bit of experience before remote was forced on most of the world. We use tools provided by all 3 of these companies, and as legendary investor Peter Lynch said – look at your every day life to guide you on what companies may be worth investing in! This is of course just a start, the research is of equal importance! Post 3 of 3 focuses on: Microsoft!
InvestSure have used the email and storage services of this technology giant from day 1, paying per user. Microsoft Teams is seen as their remote collaboration tool, a kind of ‘lite’ combination of Slack and Zoom. While we use the email services and storage services, Teams is a ‘free’ add-on, so no additional cost. We find we only use the offering when dealing via video with large corporatey-type companies. This is because it is the remote video meeting tool of choice, thanks to their security advantages over Zoom, as well as the fact that a lot of companies already use the email services of Microsoft, so this doesn’t come with any additional cost. In terms of a competitor to Slack, there is a big debate about this, but our experience (note – experience bias) is that they are not similar and shouldn’t be compared, as the Slack CEO has insisted on many times.
Our personal experience also indicates that Teams video isn’t as advanced as Zoom’s from a streaming perspective (often quality issues), but other features are very neat and easy to find. Microsoft is already a giant and so the question here is how may the growth of their Teams product impact the growth in share price. At the end of the day $1 billion growth to Microsoft is less impressive than $1 billion growth in Zoom or Slack, from a market cap (and thus share price) perspective.
Income statement items
Microsoft is a giant so we’ll focus mainly on the Teams aspect of Microsoft. Teams comes as part of the Office 365 package, which has passed 180 million users by October 2019, and over 100 million mobile users. These numbers are miles ahead of Slack and Zoom, but clearly show the potential customer base those organizations could reach. Microsoft 365 is also a paid service from day 1, with no free layer. Microsoft’s long history in technology and its brand allow them to launch paid offerings with massive take up. The Teams product had more than 13 million active daily users in October, which was up to 75 million by 31 March 2020!
Microsoft have incredibly strong distribution channels backed by the strength of their brand. Windows 10 for example is available on nearly 1 billion devices.
Other items driving their income statement include their cloud infrastructure, which has just surpassed $50 billion in annual revenue. Their total revenue for the year ended 30 June 2020 was $140 billion, resulting in $44 billion of profit, a huge increase on the 2018 number of $36.5 billion. Microsoft generate $8 billion from Office 365 and related cloud products.
Microsoft’s size gives them a huge advantage over the others, in total it is difficult to pinpoint the expenses on sales and marketing of Teams, but it appears to be in the range of $400 million JUST FOR TEAMS. In total Microsoft spend over $5 billion in marketing their various products, and the same amount into research and development. Their size gives them a massive advantage over Slack and Zoom, especially in terms of finding product / market fit and testing options to optimize sales.
Interestingly the nature of Microsoft’s fastest growing business lines are mostly higher gross margin businesses than their older products. In 2015 they operated at a gross margin of around 64%, compared to 67% in their latest year end results. When the company is generating $140 billion revenue, an extra 3% is an extra $4 billion – not something to be underestimated!
Balance sheet items
The balance sheet comparison is a bit unfair to the other 2 far younger companies. Cash and cash equivalents amount to $135 billion. Current liabilities only equate to $72 billion.
The total liabilities of Microsoft amount to $183 billion, which is almost equal to their current assets alone, of $182 billion. Needless to say Microsoft have a massive balance sheet to leverage, which currently has next to no pressure on it. Teams obviously benefits from the weight of the balance sheet at managements disposal, allowing them to research more comprehensively than their competitors.
The giant generated $60.5 billion cash from operations, and looks set to far exceed that for the year end 30 June 2021. As mentioned Teams doesn’t generate it’s own cashflows but is more of a stickiness feature, and largely thanks to Corona has seen adoption accelerate to the point where they have 75 million daily active users just of the Teams product.
As with Zoom, this is clearly a company you want to own, but the big questions is how much will that set me back? The company is trading for a total value of around $1.6 trillion, making it one of the most valuable companies in the world. On a PE of 35, with all earnings converting to cash, this is not the most ridiculous valuation in the world. With the stickiness of their revenue models, the improving gross margin and the massive balance sheet, Microsoft is a share you can stick in your portfolio and forget about for 10 years – they’re not going anywhere. The growth is expected to be more tempered than what you could get from Slack or Zoom, but the risks are incomparably less. If they wanted to they could easily acquire both Slack and Zoom without blinking, that is how big they are.
You can see the stock analysis for Slack here and Zoom here.
All 3 companies provide fantastic products, the question is which share price has the most upside for an investor. Based on the above we would conclude that Microsoft is too big for growth in Teams to move their share price materially, BUT it may increase the stickiness of an already sticky product, meaning recurring cashflows far into the future. With their balance sheet they are definitely a stalwart for your portfolio – with that said their share price has climbed from 40 to 200 in the last 5 years – amazing returns for a company this size. A 36 PE is of course considered to be high historically, but is often the type of thing you have to accept to buy a company that dominates the world. They are the largest of the 3 companies analysed, with the biggest balance sheet and dividend paying, so for investors who prefer stalwarts to growth stocks, Microsoft is the clear winner.
However, purely off the Teams product Microsoft won’t double in value, whereas Zoom and Slack are both well positioned for a lot of growth, are small enough to more than double in value if they achieve their growth milestones and both appear to be able to do it profitably (unlike UberEats for example). As far as growth stocks go these 2 are better placed than Microsoft, but come with more growth risk and balance sheets that can’t touch Microsoft.
While I like Slack best that is personal bias on price and what they are trying to achieve (trying to replace Office 365 as the workplace communication standard). No doubt Zoom as a momentum and growth play may be very appealing to a lot of investors who have a different investment strategy to mine. The easiness of conversion from free to paid for Zoom is really appealing, but the stickiness of the model makes me hesitate.
Word of mouth will have a huge impact on the price of Slack and Zoom, but Microsoft can rely on their brand and huge range of products to keep them ticking over. Overall 3 great companies, and I can’t see anything wrong with owning all 3!
Thanks for following this article series! A new theme may follow later in the year.
This article is not to be considered as financial advice, investors should do their own research before making investment decisions. The author owns an immaterial number of shares in Slack.
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