Microsoft Corporation (MSFT): External vs. Internal CEO Debate

Morgan Stanley analysts Keith Weiss, Melissa Gorham and Jennifer Swanson Lowe give Microsoft Corporation (NASDAQ:MSFT) an equal-weight rating.

The CEO transition debate centers around two potential outcomes; an external CEO focused on efficiency versus an internal candidate keeping to the current growth strategy. The range of outcomes may be narrower, in analysts’ view, and the march towards Devices & Services likely continues.

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Microsoft facing the fork in the road

Recent investor debate on the CEO transition bifurcates around two scenarios; Microsoft Corporation (NASDAQ:MSFT) brings in an external candidate focused on opex reductions that quickly bolsters the EPS profile or an internal candidate keeps the ship on the current strategic course, potentially garnering more sustainable long-term growth (and higher EPS down the road). After spending time with Microsoft’s Director of Investor Relations Chris Suh analysts from Morgan Stanley come away believing 1) the board appears firmly behind the Devices & Services strategy, 2) spinning out assets like Bing or XBox may be more difficult than many investors imagine and 3) Devices & Services represents a solid strategy for keeping Microsoft relevant in the evolving tech landscape longer-term. Trading near peak multiples of 14x EPS with further transitions likely ahead, analysts see a balanced risk/reward.

Growth vs. Efficiency

To garner some context around these outcomes analysts at the research firm drafted a scenario where a new CEO reduces overall opex by 10% from FY13 levels. While the revenue growth profile likely slows, it’s not hard to see a path to $3.70-3.75 in EPS by FY16 (a 13% CAGR). To achieve a similar EPS outcome by FY16 under the existing strategy, growth in emerging opportunities would likely have to accelerate from ~20% in FY13 to ~30% growth thru FY16. While the ‘growth’ path appears more difficult, investors may pay a higher multiple for the resulting EPS.

Microsoft bridging the Gap

Assuming the board remains committed to the Devices & Services strategy, perhaps the ideal CEO is one who runs the existing strategy more effectively. Additionally, with ~$90B in cash, of which ~90% remains offshore, earning ~1% interest, Microsoft Corporation (NASDAQ:MSFT) can still bolster EPS with the balance sheet.