Advanced Valuation Report FNCE201 - Corporate Finance AY 2021/2022

FNCE201 – Corporate Finance (G6)
AY 2021/2022 Term 1
Advanced Valuation Report
Prepared for: Professor Margaret Zhu
Prepared by: Group 5
Name Student ID
Tan Kian Boon 01367795
Koh Yuan Zhang 01356209
Shaun Seow Guo Feng 01358556
Darren Wong Jun Lin 01356425
Ho Chen Shen 01373925
Xiong Yuyang 01450517

Table of Contents
1. Introduction............................................................................................................................1
1.1 Company Overview..........................................................................................................2
1.2 Industry Overview...........................................................................................................3
1.3 Acquisition and Partnership.............................................................................................4
2. Capital Structure.....................................................................................................................4
3. Estimating Equity Beta............................................................................................................5
3.1 Capital Asset Pricing Model.............................................................................................5
3.2 Company Comparable Analysis........................................................................................5
3.3 Dividend Discount Model.................................................................................................6
4. Possible Estimation Error........................................................................................................7
5. Valuation................................................................................................................................7
5.1 Dividend Discount Model.................................................................................................7
5.2 Discount Cash Flow Model...............................................................................................8
5.3 Relative Valuation..........................................................................................................10
6. Risk associated with Microsoft..............................................................................................11
7. Recommendations................................................................................................................12
8. Sources.................................................................................................................................12
9. Appendix..............................................................................................................................13
SWOT Analysis.......................................................................................................................15
Strength..................................................................................................................................15
Weakness................................................................................................................................15
Opportunities..........................................................................................................................15
Threats....................................................................................................................................15

1. Introduction
Microsoft Corporation (NASDAQ: MSFT) is a technology company that transforms businesses to
lead in the new era of intelligent cloud and intelligent edge. In 2021, Microsoft Corporation
generated over USD 168 Bn of sales and grew 18% from the previous year. We believe that
Microsoft Corporation should have a Strong BUY rating with a potential upside of 13% due to the
following reason:
1. Strong Natural Growth Drivers Favouring Microsoft’s Revenue Generating Products
 Intelligence Cloud Segment (Azure and Microsoft Cloud Services) – We believe that with the appeal
of cloud computing to a variety of businesses and increased adoption rates will help ensure that
Microsoft, being the second largest provider of Cloud Infrastructure, will continue to experience
demand for their products and sustained growth. By 2021, 73% of organizations will be using all or
mostly cloud solutions. Nearly 85% of small companies have already invested in cloud options
(Luxner, 2021). With 95% of Fortune 500 companies now using Azure, this highlights a dominant
and growing position Microsoft can credit to decades of trust built upon major corporation reply on
their Windows Operating Systems and Servers (Kindig, 2020).
 More Personal Computing Segment - Gaming going Digital – Microsoft revolutionized the Gaming
Industry with their Game Pass, which is like a Netflix for Xbox, allowing gamers downloads from an
extensive digital library of games for a monthly fee (Microsoft, 2021). This is a competitive edge over
their biggest rivals Sony within the Gaming Industry and has shown promise, with 23 million
subscribers since January 2021. With their growth in the Gaming Industry likely to Digital and
Subscription based, Microsoft is positioned to profit and grow from increased margins and valuable
recurring subscriptions (Weldon, 2021).
 Productivity and Business Processes Segment (LinkIn) - Microsoft also has a promising
future with LinkedIn, their largely unmonetized professional social network. Within the
rapidly changing digital economy, people are increasingly needing a platform where they can
acquire new skills, expand their network, and connect with employers. Today, LinkedIn has
more than 774 million members and is a leader in B2B advertising, corporate learning, and
professional hiring. The advertisement revenue generated by LinkedIn in 2020 increased by
over 60%, generating $3 billion in revenue. In addition, unlike YouTube or Medium,
LinkedIn still does not pay for views. A direct monetization system on LinkedIn would lead
to a rapid influx of traffic, which would lead to substantially higher advertisement revenue
(Hempel, 2017).
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2. Competitive Advantage Protecting Microsoft From Rivals
 Microsoft is essentially the landlord of technology as much of the world’s technology depends on the
systems for a place to live and work. Microsoft possess a wide competitive moat (Downie, 2021).
Switching costs, which include factors like time lost retraining a workforce on new software, translate
to a significant competitive advantage for Microsoft. Additionally, although Teams is a free product,
it contributes to Microsoft's competitive moat by introducing users to the Microsoft 365 software
suite, which makes up 22% of the company's total revenue with higher margins than its traditional
software sales, and encouraging paid upgrades for security, additional storage, and collaboration with
other Microsoft apps. Their ecosystem of mutually reinforcing products not only discourages users
from switching to competitor products, and also helps Microsoft build a long-term customer base.
 Lucrative Contract Deals serve to strengthen Microsoft’s competitive advantages by reducing
capital requirements, granting Microsoft greater financial resources to extend their economic
moats, reducing financial risk at the same time. Microsoft has secured a contract worth $10
billion to provide Cloud Services for the US Department of Defence, beating out Amazon. In
addition, they secured another contract to outfit the US army with AR headsets worth $22
billion (Microsoft Annual Report, 2021).
3. Strong Leadership
 Ever since Nadella’s Leadership, shares of Microsoft have more than doubled. Their share
price grew by 327% since he took over, evening beating Apple’s 212% increase by a
significant margin (Miller, 2019). Nadella's tenure has been characterized by a return to Wall
Street prominence, outperformance, revenue diversification and his biggest theme: Cloud
Computing. Microsoft is primed to experience more growth under Nadella’s watchful
leadership
1.1 Company Overview
Microsoft Corporation is the world’s largest software maker with a market capitalisation of USD 2.5
trillion that transforms businesses to lead in the new era of intelligent cloud and intelligent edge
(Bloomberg, 2021). Its revenue can be divided into three parts: Intelligent Cloud (IC), Productivity
and Business Processes (PBP), and More Personal Computing (MPC). In terms of market share,
Microsoft dominates the PC operating systems and office tools and is also a top 3 leading company
in the cloud computing industry (Dignan, 2021).
In 2021, Microsoft achieved sales of USD of 168 billion, an 18% growth from the previous year and
a 13% CAGR from 2016 in Appendix Figure 1 and 3. It also has relatively equal revenue generated
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