Microsoft Q2 preview: Where next for Microsoft stock?

Graphic of trading data chart
Josh Warner
By :  ,  Market Analyst

When will Microsoft release Q2 earnings?

Microsoft is scheduled to publish second quarter earnings covering its performance during the last three months of 2021 on Tuesday January 25.

 

Microsoft to buy Activision Blizzard

Microsoft has agreed to buy Activision Blizzard for $75 billion. That includes almost $6.4 billion worth of cash on the video game maker’s balance sheet, giving Activision Blizzard a valuation of $68.7 billion.

Microsoft will pay $95 a share, some 45% above where Activision shares settled last Friday. However, there is little doubt that Microsoft is capitalising on Activision’s share price weakness considering the stock had lost almost 30% in value over the 12 months before the announcement was made. Activision Blizzard shares were trading at an all-time high of $104 less than a year ago, before sentiment was hurt after the company was hit by a lawsuit filled with allegations of sexual harassment and issues with gender pay gaps.

The deal is expected to close before the end of Microsoft’s financial year running over the 12 months to the end of June 2023.

 

Why is Microsoft buying Activision Blizzard?

Microsoft is buying Activision to accelerate growth in its gaming business and to ‘provide the building blocks for the metaverse’, which has emerged as the next big race within the tech space.

Activision Blizzard was itself created through a merger when Activision acquired Blizzard Entertainment when it combined with Vivendi Games back in 2007. Activision is known for the Call of Duty shooter series. Blizzard Entertainment boasts the Diablo, Starcraft and World of Warcraft titles within its portfolio, and King is the mobile games giant that brought us Candy Crush that was acquired for almost $6 billion back in 2016.

Microsoft, which owns Xbox, is keen to bolster its content with Activision Blizzard’s popular titles and give it more ammunition as it starts serious work on creating a metaverse. It also provides Microsoft with a notable presence in the mobile gaming market, which is the fastest growing part of the industry. Microsoft said the deal will make it the third largest gaming company in terms of sales, trailing only behind Chinese giant Tencent and Japanese outfit Sony, the maker of the PlayStation console.

Activision Blizzard is expected to provide a boost to Microsoft’s adjusted EPS immediately upon completion.

Activision’s existing CEO Bobby Kotick will continue to lead the business after the merger is completed and report into the boss of Microsoft’s gaming division, Phil Spencer. However, some media reports have suggested Kotick will not stay in the job long after the combination is completed considering Microsoft is likely to have different ambitions for the business.

 

Microsoft Q2 earnings preview

There will be a lot of excitement around the Activision Blizzard deal, but it will not impact Microsoft’s financial performance for the remainder of its financial year. So, let’s turn to the results and what to expect on Tuesday.

Wall Street forecasts Microsoft will report an 18% rise in revenue to $50.74 billion from $43.08 billion the year before. While that expansion would be impressive, it would mark the slowest rate in topline growth in 12 months.

Below is a breakdown of revenue expectations by Microsoft’s three key divisions. Notably, analysts believe Microsoft will hit the top-end of its guidance range across the board. As a reminder, Productivity & Business Processes homes the company’s suite of digital Office and Dynamics products and its consumer-facing cloud operations, as well as social media network LinkedIn. Intelligent Cloud accounts for Azure cloud-computing and its server business, while More Personal Computing houses its physical devices, Xbox gaming and search advertising.

Revenue ($, billions)

Q2'21

Q2'22E

Growth

Productivity & Business Processes

13.35

15.91

19.2%

Intelligent Cloud

14.6

18.32

25.5%

More Personal Computing

15.12

16.67

10.3%

Total

43.08

50.74

17.8%

 

Azure is expected to remain the fastest-growing part of the business with analysts anticipating sales can grow over 40% year-on-year in the second quarter, marking a slowdown from the 50% rise booked in the last quarter. Demand remains strong from corporations as they continue to digitise their businesses. However, investors should keep an eye on the overall margin of its cloud division considering Azure is lower margin, meaning the division’s overall profitability will be squeezed as more customers shift to the platform.

Microsoft is expected to experience a tougher time when it comes to hardware sales of computers as supply continues to lag behind demand, mainly due to a shortage in components. But sales of digital computing products such as its commercial Office suite could continue to deliver double-digit growth as companies continue to embrace remote working.

Operating income is expected to increase to $20.92 billion from $17.90 billion the year before. Below is a breakdown of profit expectations from each segment:

Operating Income ($, billions)

Q2'21

Q2'22E

Growth

Productivity & Business Processes

6.18

7.29

18.0%

Intelligent Cloud

6.49

7.49

15.4%

More Personal Computing

5.22

5.81

11.3%

Total

17.9

20.92

16.9%

 

Net income is forecast to grow to $17.38 billion from $15.46 billion. Adjusted EPS is expected to climb to $2.27 while reported EPS at the bottom-line is seen rising to $2.32. Both metrics came in at $2.03 last year.

All of Big Tech is expected to see a slowdown in revenue growth and the majority are set to experience a marked slowdown in earnings growth following the record numbers reported last year. Analysts currently believe annual revenue will grow 17% over the full financial year that runs to the end of June 2022. Although EPS growth is forecast to slow to 18% this year from the 40% jump delivered in the last financial year, that would be considerably better than the tepid single-digit growth forecast for Apple, Alphabet and Meta in 2022.

You can read our Big Tech outlook for 2022 here to find out the challenges the industry could face this year.

 

Where next for MSFT stock?

The acquisition news failed to spark excitement around Microsoft shares, which have been trending lower since late last year and currently sit at $302.65, marking their lowest level since mid-October.

We have seen a number of long upper shadows form in the last two weeks, including yesterday, showing bulls have struggled to push the stock higher and suggesting the bearish trend could continue, supported by the bearish RSI and the fact volumes have been above average since the start of 2022 compared to last year. Strong volumes during a market move signals that a strong majority of traders are selling the stock, making it more likely for the current trend to continue.

As a result, we could see Microsoft shares continue to trend lower toward $292, in-line with the 200-day sma and the brief level of support provided last October before deciding where to go next.

On the upside, the first target for the stock is the 100-day sma at $316, then the 50-day sma at $330, which would open the door to $344, a ceiling hit in both November and December and its all-time closing high.

Microsoft stock could trend lower before deciding where to head next

Big Tech stocks may have come under some pressure since the start of the new year as sentiment wanes amid higher interest rates and slower growth this year. But brokers remain extremely bullish on Microsoft and see 22% potential upside from the current share price with an average target price set by 48 brokers of $371.23. And we could see upgrades over the coming weeks as brokers get a chance to digest and analyse the takeover of Activision Blizzard.

 

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What about ATVI stock?

Activision Blizzard shares soared higher on the acquisition news and recouped all the losses incurred over the past three months. The stock is currently trading at $82.54, providing some upside potential versus the $95 offer price – which is likely to act as a ceiling until the deal is wrapped up, potentially increasing toward that level as confidence the acquisition will be completed increases.

The single biggest risk to the Activision Blizzard share price now is if the deal faces any hurdles to completion, or any adjustment is made to the deal that impacts its valuation.

 

Keep an eye on gaming stocks

Traders should be keeping an eye on other gaming stocks after the news injected some volatility into the sector yesterday on expectations that consolidation in the space will continue. Microsoft has not been the only player on the hunt this month, with the maker of popular video game Grand Theft Auto, Take-Two Interactive, announcing just last week that it is buying mobile game Zynga for $12.7 billion.

Shares in EA briefly jumped to a three-month high yesterday on the news before giving back most of those gains to close up 2.7%, while Ubisoft has also rallied almost 19% since the announcement was made.

Meanwhile, Sony shares plunged 7.2% yesterday to close at a three-month low on fears Xbox will gain ground over the PlayStation thanks to its bolstered portfolio of content through the deal.

 

 

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