Past Performance: Microsoft (NASDAQ:MSFT) has only missed EPS expectations once in the past three and a half years. For a mature company in the technology sector, that is quite an impressive feat. The last time Microsoft missed earnings estimates was the third quarter of 2012, or its first quarter of 2013 based off of Microsoft's year ending calendar. Shortly after missing EPS expectations, Microsoft fell to a fresh 52-week low of $26.26. Since reaching that new 52-week low, Microsoft has been on a steady climb back to current levels north of $28 per share.
Fundamentals: Microsoft has current valuations cheaper than both the technology sector and the S&P 500 average. Currently, Microsoft trades with a current P/E of 15.54, a forward P/E of 9.01, a P/S of 3.22, and a PEG of 1.18. Meanwhile, the technology sector trades with a current P/E of 22.1 and a forward P/E of 13.3. The S&P 500 is trading with a current P/E of 20.6 and a forward P/E of 17.5. Based solely off of the current and forward P/E ratios, Microsoft looks much cheaper than both the technology sector and the S&P 500 average.
Attention needs to be paid to the forward looking fundamentals, the P/S ratio and the PEG ratio. The P/S ratio of 3.22 is worrisome to say the least. The PEG ratio of 1.18 also shows that Microsoft is in need of a pullback. Combine those inflated numbers with a continual loss of market share and it looks like Microsoft is in store for a further pullback.
The Story: Microsoft still has a firm hold on the business software market with products such as Excel, PowerPoint, Word, and other business focused products. However, the Microsoft Surface tablet has yet to make a significant impact as far as market share goes. Between the R&D expenses and the costs inherited with bringing the product to market, Microsoft still has a long way to go to catch up to competitors Samsung (OTC:SSNLF), Apple (NASDAQ:AAPL), and Google (NASDAQ:GOOG).
The Windows Phone 8 also lost market share during the fourth quarter of 2012, going from 3.6% in September of 2012 to just 2.9% of the smart phone market in December of 2012. Microsoft is trailing Google, Apple, and BlackBerry (NASDAQ:BBRY) in the smartphone market. Again, the cost of R&D and bringing the phone to market may soon outweigh the benefit of Microsoft's balance sheet. Microsoft is showing signs of breaking out of the behemoth mindset and offering more consumer demand driven products, but it is yet to capitalize on the attempts to do so.
How to Play It: Microsoft's recent price action suggests that a run to $30 per share is possible. Combined with Microsoft's past earnings performance, it may appear that an EPS beat is in store. However, Microsoft needs to start gaining market share in the consumer demand driven product space (tablets and smartphone) if it wants to continue being a leader in the technology space. With innovation coming in leaps and bounds from Apple and Google, it could be a matter of time before Microsoft loses market share with its Microsoft Office suite of products. My personal 52-week price target: $27.68.
Disclosure: I am long AAPL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Always consult with a registered financial professional before adding a new position to your portfolio. Investing involves a significant risk of loss, as such never invest more than you can afford to lose.