Nokia Write-Off Torpedoes Microsoft Earnings

Judging by its stock price performance alone, one might think Microsoft (NASDAQ: MSFT) had a terrible quarter. The stock fell as much as 4% in after-hours trading Tuesday after Microsoft’s fiscal fourth-quarter earnings report was released. It spent most of Wednesday morning down more than 3%.
On the surface, it certainly looks like Microsoft’s quarter was one to forget. The company lost $3.2 billion, which amounts to the biggest loss in the company’s history. But beneath the surface, investors need to put the results in the proper context.
Microsoft’s big loss was already known by investors for some time. This was not news, and should not have surprised the market. Furthermore, Microsoft is excelling in the higher-value areas that will fuel the company’s future growth.
As a result, the last thing investors should do after the Microsoft earnings report is sell the stock.

Give Credit Where It’s Due

Microsoft took a huge $7.8 billion write-off for its Nokia devices and services business, and a significant restructuring charge. In all, impairment charges totaled $8.4 billion.
The Nokia write-off made Microsoft’s results look much worse than they actually were. Excluding all these charges, the company would have earned $0.62 per share. That would have represented 10% year-over-year growth.
Plus, as it pertains to the write-off, while it’s painful to see in the short term, it was the right thing to do for the long term. Put simply, the Nokia handset acquisition hasn’t worked. The Lumia is not a successful device.
Satya Nadella actually deserves credit for righting Steve Ballmer’s wrong. The impairment charge and the subsequent restructuring are exactly what Microsoft needs to do to put this mistake behind it. As far as its mobile handset business is concerned, Microsoft needs to slim down and refocus its efforts elsewhere.
Going forward, Microsoft can do just that. It can stop wasting time and resources on its mobile handset business, and instead keep investing in its higher-growth businesses, namely the cloud.

Head in the Cloud

Microsoft is hitting it out of the park with the cloud. Last quarter, cloud revenue grew 96% excluding foreign exchange effects, and reached an annualized rate that exceeds $8 billion, due to strong sales of Office 365, Azure, and Dynamics.
Separately, Microsoft is performing well in hardware outside mobile. Surface revenue grew 117% year-over-year, Xbox revenue increased 27%, and even search revenue rose 21% as Bing captured an additional 100 basis points of search share year-over-year.

Cash Returns

Microsoft stock is very attractive because the company generates a lot of cash and returns a great deal of it to shareholders through buybacks and dividends. In fiscal 2015, Microsoft generated $23 billion of free cash flow. The company repurchased $14.4 billion of stock and paid another $9.8 billion of dividends.
Microsoft pays a strong 2.8% dividend and has increased its dividend at double-digit rates for the past several years. These tremendous cash returns are the much more important story when it comes to Microsoft, not the one-time impairment charge that is currently getting all of the attention.
Going forward, Microsoft’s earnings results will likely look much better. It can finally put the Nokia mess behind it, and investors will likely be very impressed with where the company is going.

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