Microsoft Corporation is a multinational computer technology corporation that develops, manufactures, licenses, and supports a wide range of software products, including operating systems and applications for servers, personal computers, consumer applications and intelligent devices; server applications for distributed computing environments; information worker productivity applications; business solutions applications; high-performance computing applications; software development tools; Internet software and technologies and video games. Headquartered in Redmond, Washington, USA, its most profitable products are the Microsoft Windows operating system and the Microsoft Office suite of productivity software. The company also provides consulting, product and solution support services, and training and certifications for computer system integrators and developers. Microsoft also designs and commercializes hardware including the Xbox 360 video game console, the Zune digital music and entertainment device, and peripherals. Other online offerings are: Bing, Windows Live, Office Live, MSN, Microsoft Dynamics CRM Online, Exchange Hosted Services, Exchange Online, SharePoint Online and adCenter platform. Present in more than 100 countries, Microsoft Corporation employed as of June 30, 2009, approximately 93,000 people on a full-time basis, 56,000 in the United States and 37,000 internationally. Microsoft Corporation business is divided into five operating segments: Client, Server and Tools, Online Services Business, Microsoft Business Division, and Entertainment and Devices Division. In this study, the Microsoft Corporation annual reports ended respectively June 30, 2008 and June 30, 2009 are used to compute financial ratios in order to assess the financial position and performance of the company. Those reports, the consolidated financial statements and accompanying notes they contain were prepared in accordance with accounting principles generally accepted in the United States of America and are expressed in US Dollar ($). The audit of independent registered public accounting firm was conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), and an unqualified opinion on the Company’s internal control over financial reporting was expressed for both reports. The following figures contain the selected data from the annual reports 2008 & 2009 that were used for ratios calculation, and the different ratios that have been computed together with some industry averages taken from Reuters and Infinancials websites and the ratios’ formulae used. A study of the profitability, liquidity, efficiency, investment and capital structure ratios is then presented. Finally, using a recent share price of Apple inc., the price earnings ratios of the two companies are computed and compared. Profitability A 3.39% decrease in sales and a 4.58% increase in cost of revenues led to a small decrease of the gross margin of Microsoft corp. from 2008 to 2009. As stated in 2009 10K report, the revenues of Microsoft decreased in this period across all segments due to the global PC market decline and the bad economic environment. During this period, the revenues from Windows operating systems and from the Entertainment and Devices Division all decreased. Although server and server application revenue increased, the overall profitability of the company declined a little. A reported decrease of general and administrative and sales and marketing expenses, mixed with an increase in headcount-related expenses, cost of revenue, and employee severance charges led to a stable operating expenses. But the decrease in revenues led to a lower operating margin in 2009 in comparison with 2008. The gap is bigger when comparing the return on sales between 2009 & 2008. This is explained by the 21.36% decrease in Microsoft net income. Indeed, the company reported a $125 million loss in net investment (compared to $346 million gain in 2008), a $558 million loss on derivatives (compared to $226 million gain in 2008) and a $509 million loss on foreign currency re-measurements compared to $226 million gain in 2008. Microsoft began in July 2008 presenting gains and losses resulting from foreign currency re-measurements as a component of other income (expense) rather than as a component of sales and marketing expense. The return on assets ratio further decreases due to higher assets in 2009 and the increase in liabilities sets the difference between the return on capital employed ratios to around 10 points lower in 2009 than in 2008. An overall decrease in the profitability ratios of Microsoft corp. is noticed in 2009 compared to 2008 due to several conditions, the most important being the PC market decline, the global economic environment and an increase in expenses like headcount-related expenses. Microsoft expects however for the upcoming years, a revival of the economic market, higher income with the new operating system (Windows7) release and a decrease in overall expenses thanks to the implemented resource management program in January 2009 to reduce discretionary operating expenses, employee headcount, and capital expenditures. Microsoft announced, as part of this program, the downsizing of its human resources by the elimination of up to 5,000 positions by June 30, 2010. And when comparing the profitability ratios with the industry averages, Microsoft seems to remain and to continue to be a very profitable company. Liquidity & Efficiency The current ratio and the acid test ratio are higher in 2009 than in 2008. This is explained by the fact that Microsoft is having higher assets and lower liabilities. Furthermore, Microsoft seems to better handle the payable and receivable accounts. Indeed, the credit control ratio (DSO) and the credit taken ratio (DPO) both decreased, and DSO is maintained to be much lower than the DPO. Inventory turnover or DIO is equal to 25.20 days in 2009 in comparison to 32.78 days in 2008, which means a faster moving stock and a less tied up capital. Those better liquidity results are mainly due to the Client operating segment of Microsoft corp., where the changes in the mix of original equipment manufacturer (OEM) Windows premium edition operating systems, and the lower cost of netbook PCs, which are sold with a lower cost version of Windows, helped in increasing the rate of inventories turnover. And in comparing with industry averages, we can notice that Microsoft holds good liquidity conditions. Capital structure In September and November 2008, Microsoft corp. board of directors authorized short-term and long-term debt financings. This represented in 2009 a $2.0 billion short-term and a $3.75 billion long-term debts that are intended to be used for general corporate purposes, including funding for working capital, capital expenditures, repurchases of capital stock, and acquisitions. This led to a leverage ratio of 14.53% in 2009 versus 0% in 2008. The decrease in equity in 2009 however compensated these new debts, and the total debt to equity ratio decreased from 100.61% in 2008 to 96.90% in 2009. Although the total debt to equity is slightly higher than industry average, the leverage ratio is greatly lower then the industry average and the company pays no interest. Investment With a lower income and a higher equity, the return on equity ratio falls from 52.48% in 2008 to 38.42% in 2009. This is explained by the significant increase in the assets due to short term investments. Cash, cash equivalents, and short-term investments represent $31.4 billion at June 30, 2009, compared with $23.7 billion as of June 30, 2008. Microsoft reports the investments to consist primarily of fixed-income securities, diversified among industries and individual issuers. However, the return on equity ratio of Microsoft remains well higher than the industry average. A higher dividend per share and a lower share price (taken at June 30, 2008 and June 30, 2009) led to a higher dividend yield ratio. To compensate the decrease in net income that led to a decline in the earnings per share, Microsoft corp. board of directors approved two shares repurchase programs during the first quarter of fiscal year 2007 to buy back up to $40.0 billion of Microsoft common stock. Microsoft repurchased 318 million shares during the twelve months ended June 30, 2009. Finally the earnings per share moved from 1.9 in 2008 to 1.63 in 2009. Taking the share price at June 30, 2008 & 2009, the price earning ratio of Microsoft increases from 13.71 to 14.59. Even if it remains lower than the industry average, it means that the market confidence in the future of Microsoft corp. business is higher in 2009 than in 2008. The price earning ratios, when computed using share price as by January 17, 2010, are 16.28 for 2008 and 18.95 for 2009, which means that investors are more confident in Microsoft’s ability to generate profit than in 2009 and are expecting a better growth of Microsoft during 2010. The 2009 price earning ratio becomes higher than the industry average (17.4), which means that Microsoft is now considered as a worth-investing company. This is probably explained by the apparent world economic situation recovery, and the release of the new Windows7 operating system. Apple inc. A comparison can be made between Microsoft corp. and Apple inc. using their relative price/earning ratios. In order to do the comparison, the annual financial report of Apple inc. is used. The earning per share (EPS) for 2009 is reported to be 6.39. The share price as by January 17, 2010 for Apple inc. is $205.93 (taken from Reuters website). This leads to a price earning ratio of 32.23. The price/earning ratio of Microsoft corp. taking the share price at the same date is 18.95. It is clear that the price earning ratio of Apple inc. is well higher that the ratio of Microsoft corp., which means that investors predict Apple to have greater growth in the futures in comparison to Microsoft. Indeed, even though Apple generated $36.537 billion revenue and $5.704 billion net income in 2009 (taken from Apple inc. 2009 annual report), which is lower than the $58.437 billion revenue and $14.569 billion net income generated by Microsoft in 2009; net sales during 2009 increased $4.1 billion or 12% compared to 2008, whereas Microsoft corp. reported a 3.39% decrease in sales from 2008 to 2009. This growth in sales and net income of Apple inc. is explained by the fact that the iPhone revenue and net sales of related products and services increased of $4.9 billion or 266% compared to 2008. iPhone handset unit sales also grew by 78% during 2009 compared to 2008. The net sales of other music-related products and services also grew by $696 million or 21% during 2009 compared to 2008. Those 2 major products of Apple inc. are expected to grow further during the coming year and are contributing to the recognized good financial health of Apple inc. It is however important to mention that, even though Apple inc. 2009 annual report has been prepared in accordance with accounting principles generally accepted in the United States of America and are expressed in US Dollar ($) like for Microsoft corp., the reported financial data correspond to a closing accounting date as by September 26, 2009, whereas Microsoft corp. closing accounting date is June 30, 2009. This difference might bias the earnings per share reported ratios and thus the price earning ratios. It is also important to notice that although the high share price of Apple inc. in comparison to its earnings and in comparison to Microsoft corp., a prospective investor has to take into account the fact that Apple inc. did not declare nor pay any cash dividends in either 2009 or 2008, and that Apple anticipates that for the foreseeable future it will retain any earnings for use in the operation of its business; whereas Microsoft corp. paid $4.468 billion in 2009 and $4.015 billion in 2008 to its shareholders. Last, we can notice that Microsoft corp. and Apple inc. are supposed to be in the same industry as both are developing software and hardware products. However, Microsoft corp.’s main revenues are generated by the software segment (Microsoft Windows operating system and Microsoft Office suite of productivity software), whereas the most profitable products of Apple inc. are hardware related (Desktops, portables, iPod and iPhone). Conclusion In this report, the financial data of Microsoft Corporation for fiscal years 2008 & 2009 have been studied. Relevant financial ratios have been computed in order to compare the company’s health over the two years. The profitability of the company fell a little from 2008 to 2009. However, it remains highly profitable in comparison to industry peers. Microsoft corp. presents a better liquidity and is more efficient in 2009 than in 2008, and remains over the industry averages. Debts issued in late 2008 deteriorated the company leverage, but an increase in company’s equity limited its effects. The investment ratios grew from 2008 to 2009 and are higher than industry averages. The comparison with a competitor, namely Apple inc. seems to prove that the latter is expected to have a higher growth in the future; however, Microsoft Corporation seems to still represent a good investment opportunity.
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