To The Moon

Has Microsoft Bottomed Out?

Despite Microsoft's ( $Microsoft(MSFT)$ ) strong fundamentals, it appears that the stock has not yet fully bottomed. Year-to-date, Microsoft has underperformed the NASDAQ by 11 percentage points. This underperformance is linked to investor concerns over increased capital expenditures (CapEx) for AI developments, which are expected to pressure gross margins. Historically, similar periods of high CapEx have led to short-term stock weakness, only followed by a recovery once growth in its cloud segment, Azure, reaccelerated.

Technically, Microsoft’s stock is showing signs of stabilization, but there’s little evidence that it has fully bottomed out. Concerns around AI profitability, potential losses from its OpenAI investment, and broader macroeconomic conditions continue to weigh on investor sentiment. While the release of Blackwell in November could serve as a catalyst, it’s unclear whether this will be enough to trigger a sustained rebound in the short term.

Fundamentals: A Strong Core Business

Microsoft remains a fundamentally sound company. The Azure cloud segment, expected to grow by 33.5% in constant currency, continues to outperform. Revenue growth of 14% is projected, aligning with the consensus, and earnings per share (EPS) are forecasted at $3.14, slightly ahead of the consensus estimate of $3.10. Additionally, Microsoft’s ongoing partnership with Resolve AI and its ambitious expansion into AI and cloud infrastructure through a $4.8 billion investment signal a solid commitment to future growth.

However, these aggressive investments come with increased costs. Goldman Sachs recently adjusted its price target for Microsoft from $515 to $500, citing revised free cash flow (FCF) projections and heightened CapEx expectations for fiscal years 2026 and 2027, particularly in AI. While these investments are expected to pay off long-term, they are likely to compress margins in the near term.

Financial Metrics: Valuation Concerns

Microsoft is trading at a 29 times calendar year 2025 price-to-earnings (P/E) ratio, representing a 34% premium over the S&P 500. This valuation reflects the market's optimism about Microsoft's long-term potential, but it also raises concerns for investors seeking short-term gains, especially given near-term pressures on margins. Despite potential losses from its OpenAI investment ($2-3 billion projected for fiscal years 2025 and 2026), analysts like Goldman Sachs remain bullish, pointing to long-term EPS growth that is expected to outpace the broader market by 3%.

Outlook: Short-Term Pain, Long-Term Gain

Microsoft's long-term growth drivers—Azure, AI, and strategic partnerships—remain intact. However, the current challenges, such as higher CapEx and losses from AI-related ventures, suggest that near-term stock performance could remain sluggish. Historically, periods of underperformance due to high CapEx have been followed by stronger growth, especially once cloud momentum picks up. With Azure expected to gain momentum in the second half of fiscal year 2025, a recovery could be on the horizon.

Is It a Good Time to Buy?

While Microsoft is a solid long-term investment, it may not be the ideal time to buy for those seeking a short-term bounce. The stock’s current valuation, combined with the potential for further downside due to AI-related spending, suggests that investors could wait for a more favourable entry point. The outlook for Microsoft's stock in the short term is cautious, and the price may dip further before finding a solid bottom.

For long-term investors, starting or adding to positions during any pullbacks could prove fruitful. However, those seeking a lower entry price may benefit from holding off until clearer signs of a bottom emerge.

@TigerWire