Analysts at UBS have updated their models for Microsoft Corporation (NASDAQ:MSFT) to account for its acquisition of Activision Blizzard Inc (NASDAQ:ATVI), which closed earlier this month, ahead of the company’s first quarter fiscal 2024 earnings report due on Tuesday, October 24.
“We’re assuming that Microsoft will offer pro forma guidance to reflect the ATVI deal, obviously impacting the Gaming segment as well as the overall margin and cash flow outlook,” they wrote in a note to clients.
They highlighted that when Microsoft announced the acquisition in January 2022, it stated that it would be immediately accretive to non-Generally Accepted Accounting Principles (non-GAAP) earnings per share (EPS), excluding purchase accounting adjustments and integration costs.
They have raised their non-GAAP EPS forecasts for fiscal 2024 from $12.39 to $12.71 and for fiscal 2025 from $13.78 to $14.21.
On a GAAP EPS basis, they expect the impact to be almost neutral in fiscal 2024, up to $11.15 from $11.11, and in fiscal 2025, up to $12.50 from $12.48.
“Excluding ATVI, Microsoft has guided to flat earnings before interest and taxes (EBIT) margins in fiscal 2024 and we’re expecting Microsoft to offer apples-to-apples ex-ATVI margin guidance (we’re assuming a reaffirm) on the call, as well as color on margins with ATVI,” they wrote.
They assume that Activision will drag on the company’s GAAP EBIT margins and, even assuming some improvements in cost of goods sold and operating expenses, expect Microsoft to guide pro forma fiscal 2024 EBIT margins to be down about 100 basis points.
“As Microsoft absorbs materially more amortization and one-time deal-related other costs, potentially widening the difference between GAAP and non-GAAP EPS, we wonder if the ATVI deal serves as a catalyst to swing the Street more towards a non-GAAP EPS valuation methodology,” they wrote.
On Microsoft’s valuation, analysts at the Swiss bank reaffirmed their US$400 price target and ‘Buy’ rating on the stock.
Microsoft shares traded hands at about $US$330 on Monday.
“On our 2024 calendar year estimates, Microsoft shares trade at 35x free cash flow, 28x GAAP EPS and 24x non-GAAP EPS, in our view reasonable multiples given the prospect of material artificial intelligence (AI) traction in 2024,” they explained.
“We reaffirm our price target of US$400, based on an assumed estimated 2025 calendar year free cash flow multiple of 39x, a deserved premium to the peer group.”
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