At one point in time, Microsoft (NASDAQ:MSFT) was considered behind the curve in the technology world. That time is long gone. Ever since Satya Nadella took over as CEO in early 2014, Microsoft has pivoted its entire business to the cloud. In so doing, Microsoft stock has rushed ahead of the curve.
Net result? MSFT stock is up more than 250% since Nadella took over versus a 60% gain for the S&P 500.
In other words, cloud tailwinds have caused Microsoft stock to more than triple over the past five years. This will continue. The global-cloud growth narrative is still relatively young and has a lot of runway left. Ultimately, so long as that narrative remains robust and Microsoft innovates to expand share in the cloud market, then shares will head higher.
To be sure, Microsoft stock won’t triple over the next five years. The valuation today is significantly richer than the valuation of five years ago. Thus, there’s less room for multiple expansion going forward.
Still, there is potential for MSFT stock to nearly double over the next five years. In the big picture, shares are heading for $200. Therefore, any growth investor should place this equity on their must-watch list.
Cloud Tailwinds Will Persist
When it comes to Microsoft stock, it’s all about the cloud.
The overriding narrative here is that Microsoft has aggressively pivoted its suite of services from on-premise to the cloud. In so doing, the company has aligned itself with secular-growth tailwinds across the cloud sector. Those tailwinds have propelled robust growth at all of Microsoft’s cloud businesses. As those businesses have scaled, they have made a more meaningful impact toward total revenue; thus, overall revenue-growth rates have consequently improved.
Consider this: the company’s revenue growth was -2% in 2016. A year later, it improved to 5%. In 2018, it shot higher to 14%. And to start this year, revenue-growth rates surged to 18%. This uptrend shows the power and potential of Microsoft’s cloud business.
Moreover, double-digit growth is here to stay for the long run. Although cloud has been all the craze over the past several years, only 20% of enterprise workloads have shifted to the platform. Over time, that number will run toward 100%, given the cloud’s price and convenience advantages over on-premise solutions. Naturally, the way to look at the cloud market is as a growth market that still has 80% growth runway left.
And that’s a huge runway. Indeed, it’s enough to support continued robust growth in Office 365, Dynamics 365, and Azure. So long as those businesses continue to grow at a healthy pace, then Microsoft’s revenue-growth rate will remain in the double-digit range.
Cloud tailwinds propelled MSFT stock higher over the past five years. As the evidence shows, they will propel shares over the next five years too.
$200 Is Doable In 5 Years
The one issue with Microsoft stock here is valuation. But even a rich valuation won’t keep this equity down long term.
Five years ago, MSFT stock was trading at just 16-times forward earnings. This was roughly in line with the market-average multiple. The trailing-cash flow multiple was down around 12, and the dividend yield was up at 2.5%, above the market-average yield.
In other words, five years ago, sentiment surrounding Microsoft stock was depressed. That depressed sentiment laid the groundwork for explosive share gains through a double tailwind of multiple expansion and profit growth.
Today, we have a very different situation. The forward earnings multiple is closing in on 30, which is nearly double the market-average multiple. The trailing-cash flow multiple has surged above 20, while the yield has dropped to 1.4%, well below average.
Thus, sentiment surrounding Microsoft today is very optimistic. This translates to limited room (if any) for multiple expansion over the next several years. All share price gains will be powered by profit growth. Broadly, that means that Microsoft stock over the next five years, will rally less than it did over the past five years.
Still, I think that double-digit revenue growth on top of gradual margin expansion should produce around $10 in earnings per share by 2025. Based on a 20x forward earnings multiple — an average rate for growth stocks of this nature — we can expect a $200 price target for Microsoft stock by 2024. In the long run, strong profit growth will offset a rich valuation, and shares of MSFT will trend higher.
Bottom Line on Microsoft Stock
When it comes to MSFT stock, it’s all about the cloud. Luckily, the global-cloud growth narrative is still in its early stages. As such, the growth narrative for Microsoft is likewise still in its early stages. In the long run, continued cloud tailwinds will push MSFT stock to $200.
As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.
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