Microsoft's excellent quarter provides a good test for this sinking market

Published Tue, Apr 26 20227:47 PM EDTUpdated Tue, Apr 26 20228:27 PM EDT

Microsoft (MSFT) reported better-than-expected results for its fiscal third quarter of 2022. On the top line, total revenue of $49.4 billion (up 18% year over year) exceeded the consensus estimate on FactSet of $49.02 billion. Gross margins of 68.4% were slightly ahead of the 68.2% expectation and operating margins of 41.3% were slightly ahead of the 40.8% estimate. On the bottom line, Microsoft earnings per share of $2.22 (an increase of 9% year over year) exceeded estimates of $2.19. Bottom line It was a strong quarter from Microsoft, with a beat on nearly every single line. Management's forecast for the next quarter was also better than expected, and the even better news was that it factored in the impact of some of the market's biggest uncertainties, like how much revenue will be lost due to the war in Ukraine and the China Covid-19 lockdowns. At the time this was written, MSFT shares were trading more than 4% higher in after-hours trading. The software maker will be a great test tomorrow for this sliding market: If a high-quality stock like this — which is already down more than 20% from its high — can't rally off of an excellent quarter and outlook, we might be in for a long earnings season. We have had a 2 rating on Microsoft since we trimmed our position at around $315 per share in late March. After seeing how resilient the business model is against current uncertainties — and with shares down about 10% (including tonight's after-hours pop) from our sale — we are interested in buying back what we sold higher. But we are keeping our rating at a 2 for now as we continue to evaluate what the aggressively hawkish Federal Reserve means for tech valuations. Productivity and business processes Revenue of $15.79 billion (up 19% year over year in constant currency) edged estimates of $15.75 billion and operating income of $7.18 billion (a gain of 23%) edged estimates of $7.13 billion. (Constant currencies help strip out fluctuations in foreign currency to provide a clearer financial picture.) Within the segment, office commercial products and cloud services revenue increased 14% year over year in constant currency. Office consumer products and cloud services revenue grew 12% year over year in constant currency and the number of Microsoft 365 Consumer subscribers increased by roughly 2 million quarter over quarter to 58.4 million. Dynamics products and cloud services revenue grew 25% year over year in constant currency. LinkedIn, which has been a beneficiary of a strong labor market, saw its revenues increase 35% year over year constant currency with sessions up 22% with record engagement. Intelligent cloud Revenue of $19.05 billion (a jump of 29% year over year constant currency) exceeded estimates of $18.89 billion, and operating income of $8.28 billion (up 33% year over year constant currency) was higher than expectations of $7.95 billion. The single most important line item in this segment, and perhaps the entire company, is revenue growth for Azure and other cloud services. Investors were hoping to see a slight acceleration from the 46% constant currency growth rate last quarter, and Azure did the number with revenues growing 49% year over year. On the call, CEO Satya Nadella said the number of $100 million or better Azure deals more than doubled year over year. More personal computing Revenue in this segment was $14.52 billion (a rise of 13% year over year constant currency), beating estimates of about $14.3 billion, while operating income of $4.9 billion (up 10% year over year constant currency) was in line with estimates. Window OEM revenue growth increased 11% year over year, thanks to continued strength in the commercial personal computer market, which has higher revenue per license. Windows commercial products and cloud services revenue grew 19% year over year in constant currency, In Gaming, total revenue increased 8% in constant currency. Xbox content and services revenue increased 6%, while Xbox hardware sales grew 16% in constant currency. Search and news advertising revenue excluding traffic acquisition costs (TAC) increased 25% year over year in constant currency. Guidance As always, management provided its outlook for the next quarter during the conference call. Segment revenue guidance was as follows: Productivity and business processes: $16.65 billion to $16.9 billion, which at a midpoint of $16.78 billion is higher than estimates of $16.68 billion. Intelligent cloud: $21.1 billion to $21.35 billion, representing a big beat even at the low end relative to consensus estimates of $20.8 billion. Management expects Azure revenue growth to be lower sequentially by roughly 2 percentage points on a constant currency basis. More personal computing: $14.65 billion to $14.95 billion, which at a midpoint of $14.8 billion was a slight miss against estimates of $14.95 billion. Management expects gaming revenues to decline in the mid-to-high single digits due to lower engagement hours year over year and constrained console supply. These comments — along with the weaker-than-expected forecast from Texas Instruments after the bell tonight — could hurt shares of Advance Micro Devices (AMD) and Nvidia (NVDA) tomorrow. Adding that all up, we get a total revenue guide of $52.4 billion to $53.2 billion, which at a midpoint of $52.8 billion is slightly higher than estimates of $52.75 billion. Factored into guidance is a $110 million impact to revenue from the ongoing war in Ukraine. Also, the current impact of the lockdowns in China is reflected in guidance, though an extended shutdown into May would negatively impact this outlook. In addition, management expects another quarter of operating margin expansion. Capital allocation and cash flow Microsoft returned $12.4 billion to shareholders in the quarter, with $7.8 billion from buybacks and $4.6 billion in dividends. The company is still generating a ton of cash. Free cash flow of $20 billion (up 17% year over year) topped estimates of $17.7 billion and operating cash flow of $25.4 billion (up 14%) exceeded estimates of $23.68 billion. Capital expenditures including assets acquired under finance leases were $6.3 billion. This was slightly more than the $5.9 billion expected but the spending is necessary to support Microsoft's growth in its cloud offerings. (Jim Cramer's Charitable Trust is long AMD, MSFT, NVDA. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. 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Microsoft CEO Satya Nadella attends the Viva Tech start-up and technology gathering in Paris on May 24, 2018.

Christophe Morin | IP3 | Getty Images

Microsoft (MSFT) reported better-than-expected results for its fiscal third quarter of 2022.

On the top line, total revenue of $49.4 billion (up 18% year over year) exceeded the consensus estimate on FactSet of $49.02 billion.
Gross margins of 68.4% were slightly ahead of the 68.2% expectation and operating margins of 41.3% were slightly ahead of the 40.8% estimate.
On the bottom line, Microsoft earnings per share of $2.22 (an increase of 9% year over year) exceeded estimates of $2.19.

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