INVESTMENT CASE

GROUP 8

PREPARED BY:

MS SEBOKO 220073505 L NDLOVU 2200538

HI TSHIKOTA 217029741 TB DUBE 219056251

N KONSTABULA 216010320 TP MAPHOTO 219056251

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 TABLE OF CONTENT

Contents
INVESTOR DESCRIPTION………………………………………………………………………...………..3
MICRO-ECONOMIC ANALYSIS………...………………………………………………………………..4
SENSITIVITY OF IT INDUSTRY TO BUSINESS CYCLES ..................................................................... 6
IT LIFECYCLE .............................................................................................................................................. 7
INDUSTRY ANALYSIS .............................................................................................................................. 8
INDUSTRY 5 PORTER ANALYSIS ........................................................................................................... 8
SWOT ANALYSIS ..................................................................................................................................... 10
FINANCIAL RATIOS…………………………………………………………………………………………
PROFITABILITY RATIOS………………………………………………………………………………..11
LIQUIDITY RATIOS……………………………………………………………………..………………..13
LEVERAGE RATIOS ................................................................................................................................. 14
ACTIVITY RATIOS ................................................................................................................................... 15
VALUATION RATIOS ............................................................................................................................... 16
P/E RATIO: 𝑀𝑎𝑟𝑘𝑒𝑡 𝑐𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑠𝑎𝑡𝑖𝑜𝑛/ 𝐸𝑎𝑟𝑛𝑖𝑛𝑔 ........................................................................................ 16
INTRINSIC VALUE USING FREE CASH FLOW TO EQUITY…...……………………………………...17
INTRINSIC VALUE USING FREE CASH FLOW TO FIRM ...................................................................... 19
2021 CALCULATIONS……………………………………….……………………………….……….……19
2021 PROFITABILITY RATIOS CALCULATIONS……………………….……………………………....20
INVESTMENT RECOMMENDATION………………………….………………….………………………21
REFERENCES…………………………………………….…………………………………………….……22

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INVESTOR DESCRIPTION

We have chosen a high-net-worth investor (wealthy person), Mr. Greene who is 31-year-old U.S
citizen with an investment time horizon of 4 to 6 years. He has no dependents and has a high-risk
appetite. His primary aim is to have the value of his investment grow substantially overtime and
is willing to expose his investment to a considerable level of risk as he can with stand market
volatility in pursuit of higher total returns.

His investment objective is to grow his investment faster than inflation as this will allow him to
recover from market downturns. If investment grows faster than inflation, the inflation will have
a small effect on his investments, and this is also mainly because inflation causes the value of
currency and the purchasing power to decrease.

Mr. Greene anticipates an annualized return of 15% to 20% and he plans to retire at the age of 60
years, therefore he has 30 more years to generate income. The investor generates a substantial
excess income every month of $500 000 which allows him to make riskier investments. However,
the macroeconomic indicators and market fluctuations will determine whether his cashflows will
decrease or increase.

Therefore, this type of investor will be classified as an aggressive investor.

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 MACRO-ECONOMIC ANALYSIS

United States is the most powerful economy in terms of technology, and it is at the forefront in
technological advances and business investments continues to grow rapidly onInformation processing
and software. With growth remaining high in 2021 as vaccinations allows continuation in shut-down
sectors, indicators of economic activity and employment have continued to strengthen. The stock
market is slowly steady and has recovered very well after the pandemic, with S&P 500 hitting new
highs and being up by 17.16%. On the business side, companies are dependent on innovations coming
out of the technology industry to create their enterprise software, manage their logistics,protect their
databases, and generally provide the critical information and services that allow companies to make
strategic business decisions.
The technology industry is regularly the most attractive investment destination in any economy. The
U.S. technology sector boasts of organisations like Apple, Google, Amazon, Facebook, Netflix, IBM,
and Microsoft. These organisations drive the development in the tech area and the intensity around
their drawn-out potential makes them trade at price to earnings multiplies that look ludicrous
compared with almost every other sector (Frankenfield, 2021). Tech organisations invest heavily in
research and development and may attempt more riskier projects with more prominent future potential
and is also one of the most attractive growth investments in an economy.

GDP (Gross Domestic Products)

• The United States real GDP increased at an annual rate of 6.5% in the second quarter of 2021,
showing a continued economic recovery. This growth brings theUS economy back to its pre-
pandemic level.
• At 1.9 trillion, the IT industry accounts for 10% of the total US economy, making it the third largest
sector in the economy behind only manufacturing and government.

INFLATION
• It is an important economic indicator as it shows how fast prices changes.
• The current U. S inflation rate is 5.4% hitting a fresh high since August2008(during the financial
crisis).
• Inflation is also expected to moderate with consumer price inflation (CPI) predicted to slow from its
current year on year rate of 5.4% to 4.1% by Decemberand to 2.5% by December 2022.
• Technology is usually the driving force behind the low inflation.
• IT industry tamps down the profoundly on price increases.

UNEMPLOYMENT
• Unemployment is a lagging indicator and it’s used to confirm trends. The U.Seconomy has
added 850 000 jobs in June.
• IT industry has played a significant role in reducing the level of unemployment inthe US by
creating about 11.8 million jobs.
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 • According to Classicals school of thought the IT industry will cause
unemployment, but it will not be long term unemployment.
• Basically, any unemployment is short term and in the long term, job losses aremore
than offset by five mechanisms known as compensation factors.

INTEREST RATE

• The U.S interest rate range is between 0.00% to 0.25%.

• The interest rate is low as policy makers are trying to stimulate demand.

THE IMPACT OF MICRO-ECONOMIC INDICATORS ON MR GREENE’S

INVESTMENT.

• The investment may be sensitive to the macroeconomic factors like inflation which has
hit a fresh high of 5.4% and this may reduce the purchasing power and it will ultimately
harm the investment.

• An increase in interest rates will mean that the opportunity cost of investment increases
which will inevitably discourage the investor to invest or if the interest rate decreases the
cost of investment also decreases which will stimulate the investor to invest more.

• The increase in annual GDP of 6.5% will stimulate investment opportunities.

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JUSTIFICATION OF INDUSTRY SELECTION

Information technology is the sector chosen. Reason for the selection of this industry is that this
is one fast-growing industry that comprises of firms that make software, hardware, semiconductor
equipment, or firm that provides Internet or related services. The global IT market is segmented
by computer hardware, software products and telecommunication. It has the most advanced
software and technology services in the world. The information technology makes up almost 28%
(27.48%) of the S&P 500 index and hasoutperformed other sectors in 2020. The global market is
expected to grow from
$7850.57 billion in 2020 to $8370.95 billion in 2021.

SENSITIVITY OF IT INDUSTRY TO BUSINESS CYCLES

The information technology is known to be sensitive to the business cycle as it is a cyclical
industry. It's performance, profits and revenue are tied to the business cycle meaning that the IT
industry will perform well when the economy is growing and suffer when the economy
stagnates. Although the IT industry may be a cyclical industry it has started to behave like a
defensive sector during the global pandemic and economic recession during its downturns, as it
has outperformed other cyclical sectors. Its relative success was in relation to COVID-19 and
maintaining social distancing as households and businesses have stated to rely on technology
more than ever to stay connected andto continue working.

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 IT LIFECYCLE
All technology, including hardware and software, has a period within which it operates atits best
before it becomes obsolete. The period begins for each piece of equipment once a company
acquires and deploys it, and it enters its usable stage. The technology lifecycle of a particular
piece of equipment depends on several factors besides how longa business has had it. It can be
shorter or longer based on what kind of tech it is, how the company uses it, the parameters of
your business’ IT system and how often you conduct maintenance. By paying attention to the
lifecycle of your technology, you can understand when the best times is to make upgrades and
keep up to date with maintenance.

THE STAGES OF THE IT LIFECYCLE

➢ Procurement- Includes planning, negotiation, and acquisition.

➢ Deployment- Once you have your new hardware and software assets, you canbegin
installing and integration them into your current systems.
➢ Management-Includes insource and outsource, help desk, and remote supportservices
and data backups.
➢ Decommission and Disposition- Involves the responsible removal of
technological assets once your company replaces them
➢
THE EXPECTED OUTLOOK OF THE IT INDUSTRY
➢ The IT industry is expected to reach $5 trillion market value by the end of 2021.
➢ About 71% of consumers consider texting to businesses an effective form of
communication.
➢ 5G networks are projected to cover over 40% of the world in 2024.
➢ Artificial intelligence is projected to add 15.7 trillion to the global economy by
2030.

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 INDUSTRY ANALYSIS

INDUSTRY 5 PORTER ANALYSIS

It is an effective business analysis tool used determine whether a certain strategy has the
potential to be profitable in a firm’s competitive industry. It also provides insight into a firm’s
competition and how much power does a firm hold to adjust its strategy for success.

THE THREAT OF NEW ENTRANTS (MODERATE FORCE)

• Is the threat that new competitors pose to existing competitors in the industry.
• The high cost of brand development of technology business weakens the effect of new
entrants on firms like Microsoft.
• Switching costs which are moderate also contribute to potential success of new players
competing against Microsoft.
• New entrants bring desire to gain market share and usually have significant
resources.
• Their presence may force prices to decrease and put pressure on profits.

INDUSTRY RIVALRY (STRONG FORCE)

• Refers to the competition among existing firms.

• Microsoft needs to effectively compete to remain successful.
• Moderate switching cost have a corresponding influence on Microsoft’s business.
• High aggressiveness of its competitor’s results a strong force that affects Microsoft’s industry
environment.
• The IT industry is known for its constant change, rapid growth, and competition.
• Market share is unevenly distributed among existing players, like Adobe, Intel and Apple
who are usually inadvertising battles with one another.

Products in this industry are well branded and tend to have a strong customer base.

BARGAINING POWER OF BUYERS (MODERATE FORCE)

• Is the power that consumers can exert on businesses to get them to provide higher quality of
products, to reduce prices and play industry participants off oneanother.
• In the IT industry there are so many choices for a buyer and there are minimalswitching
costs, so customer is not locked into one firm.
• Customers are sensitive to price, but Microsoft’s products and services are needed for a
success of a business so therefore they are willing to spend more money to get good quality
products.

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 BARGAINING POWER OF SUPPLIERS (WEAK FORCE)

• The bargaining power of supplier describes the degree of control a

provider/supplier of goods and services can exert on its buyers.
• Microsoft’s business depends on supply conditions, and a factor like moderate
size of suppliers maintains a weak force of bargaining power of suppliers on
Microsoft Corporation.
• New suppliers find it difficult to enter The IT industry as a supplier because of theexisting
relationship between the current supplier and the Microsoft.
• Microsoft is very important to its suppliers because they are the primary customer.
• Suppliers are not locked into deals with specific firms but most of the relationshipbetween
Microsoft and suppliers in the industry are well established and would not want to end their
relationship with Microsoft in the first place

THREAT OF SUBSTITUTES (WEAK FORCE)

• There is not much of a threat from substitutes to the IT industry, mostly becausethere are not
true substitutes. However, substitutes can reduce Microsoft’s market share.
• Manual mechanical processes, tend to have lower performance in comparison to Microsoft’s
products.
• Hence Microsoft has no direct substitutes based on their wide range of productsand services
they offer.
• The weak force of threat of substitutes is a small issue in Microsoft’s industry environment.
• The lack of substitutes makes the IT industry less competitive and increases theprofit
potential for Microsoft.

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 SWOT ANALYSIS

SWOT ANALYSIS

A SWOT analysis is a planning technique used to assist a business in identifying the below
mentioned factors. It’s very effective in gathering information about a firm.

S W O T
Strengths Weaknesses Opportunities Threats

Microsoft is the biggest Cybersecurity Consumers Competitive

company in the world. continues to impact who run legacy forces will
Microsoft’s software will continue to
It has one of operations. update to threaten
the largest newer Microsoft’s
market-reach The continued
software. market
struggle of internet
out of any position.
Explorer impacts the
technology Microsoft brand Microsoft
company. could intensify Piracy undermines
its research and Microsoft’s
Microsoft’s development profitability.
environmental efforts.
policies are Disruption
world leading. in the
The wearables and
smartphone technology
industries are both industry
set for great growth. severely
impacts
firms that
do not
innovate.

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 Financial Ratios

PROFITABILITY RATIOS
Gross Profit Margin: Gross Margin
Revenue

YEAR Microsoft Intel Adobe Average

2016 64.04% 60.94% 86.01% 0.70
2017 64.52% 62.25% 86.15% 0.71
2018 65.25% 61.73% 86.77% 0.71
2019 65.90% 58.6% 85.16% 0.70
2020 67.78% 56.0% 86.62% 0.70

Microsoft ‘s gross profit margin increased from 65.90% in 2019 to 67.78% in 2020. This may be
due to a change in net income. Adobe Inc has had the highest gross margin in comparison to its
peers this could be that Adobe manages its finances properly.

Return on Assets: Net Income

Total Assets

YEAR Microsoft Intel Adobe Average

2016 11.28% 9.36% 9.56% 0.05
2017 11.17% 7.87% 12.35% 0.04
2018 6.57% 16.49% 14.15% 0.03
2019 14.72% 15.29% 14.76% 0.06
2020 15.42% 16.59% 23.50% 0.07
Adobe is the first peer company with high ROA over the years apart from 2016, Microsoft
outplayed it with a ratio of 11.28%. But then nevertheless the higher ROA of Adobe indicates
that the company was able to successfully utilize the resources provided by its equity
investors and its accumulated profits in generating income.

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Operating profit margin: Operating Income
Net Sales

YEAR Microsoft Intel Adobe Average

2016 28.61% 30.48% 25.50% 0.16
2017 30.06% 30.11% 28.69% 0.17
2018 31.77% 32.82% 31.45% 0.18
2019 34.14% 28.05% 29.25% 0.19
2020 37.03% 29.97% 34.37% 0.22

All the above companies have a high operating profit margin however, Microsoft has the highest
operating profit margin of 37.03% which implies that Microsoft outperformed its peers as it is
earning enough money from its daily operations to cover all its cost in maintaining the corporation.

Return on Equity: Net income/average shareholder’s equity

YEAR Microsoft Intel Adobe Average

2016 27.29% 16.38% 16.11% 0.12
2017 34.37% 13.94% 21.16% 0.11
2018 20.09% 20.32% 29.13% 0.23
2019 41.57% 26.01% 29.09% 0.23
2020 39.45% 30.52% 45.42% 0.24

Return on equity of Adobe In increased by from 29.09% in 2019 to 45.42% in 2020 this indicates
that Adobe’s Return on Equity Doubled implying that investors were satisfied with the returns
produced by Adobe Inc. Intel Corp return on equity has increased significantly from 20.32%, to 26.01%
and 30.52% through 2018 to 2020. Microsoft’s Return on equity is fluctuating through the 5-year period.

.Net profit margin: 𝑅𝑒𝑣𝑒𝑛𝑢𝑒−𝐶𝑜𝑠𝑡

𝑅𝑒𝑣𝑒𝑛𝑢𝑒

YEAR Microsoft Intel Adobe Average

2016 22.53% 17.84% 19.96% 0.11
2017 26.39% 20.60% 23.20% 23.40
2018 15.02% 20.06% 28.68% 21.25
2019 31.18% 28.05% 26.42% 0.17
2020 30.96% 29.97% 40.88% 0.19

In the year 2020 Microsoft’s net profit margin is 30.96% and Intel Corp was 29.97% this shows
how each dollar in revenue of both companies translates into profit.

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 LIQUIDITY RATIOS

Current ratio

YEAR Microsoft Intel Adobe Average

2016 2.35 1.75 2.08 2.06
2017 2.48 1.69 2.05 2.07
2018 2.90 1.73 1.13 1.92
2019 2.53 1.40 0.79 1.57
2020 2.52 1.91 1.48 1.97

Adobe Inc.’s current ratio deteriorated from 2018 to 2019 but then improved from 2019 to 2020
exceeding 2018 level. Microsoft Corp’s current ratio deteriorated from 2019 to 2020 and from 2020
to 2021. In the year 2021 the Microsoft current ratio is 2.08 which indicates good short term
financial strength.

Quick ratio

YEAR Microsoft Intel Adobe Average

2016 2.22 1.07 1.99 1.76
2017 2.37 1.13 2.00 1.83
2018 2.74 1.11 1.06 1.64
2019 2.35 0.93 0.70 1.33
2020 2.33 1.24 1.34 1.64

Intel Corp’s quick ratio decreased from 2018 to 2019 but then improved by 0.31x from 2019 to
2020 exceeding 2018 level. Microsoft Corp’s quick ratio deteriorated from 2019 to 2020 by 0.02x.
Adobe Inc.’squick ratio decreased in 2019 but then improved in 2020 by 0.64x.
Cash ratio

YEAR Microsoft Intel Adobe Average

2016 1.91 0.84 1.69 1.48
2017 2.06 0.80 1.65 1.50
2018 2.29 0.70 0.75 1.25
2019 1.93 0.59 0.51 1.01
2020 1.89 0.97 1.09 1.32

Microsoft Corp.’s cash ratio increased by 0.15 times from 2016 to 2017,0.23 times from 2017 to
2018, and however, it witnessed a steep decline by 0.36 times from 2018 to 2019. The change in the
value ofthe cash ratio from 2016 to 2018, it most likely contributed to the rise in the amount of
available cash.

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LEVERAGE RATIOS
Debt-equity ratios; Total debt/Stockholders Equity

YEAR Microsoft Intel Adobe Average

2016 0.75 0.45 0.31 0.50
2017 1.19 0.37 0.39 0.65
2018 0.92 0.35 0.44 0.57
2019 0.71 0.39 0.22 0.44
2020 0.54 0.38 0.26 0.39
Adobe has been demonstrating great performance over the years in terms of these ratios
compared to Microsoft. The higher debt-equity ratio of Microsoft indicates that there is more
creditor financing that is being used than investor financing. A ratio like 1.19 indicates higher
risk of bankruptcy, and 0.22 from Adobe indicates lower leverage
Debt-capital ratio: Total debt/Total capital
YEAR Microsoft Intel Adobe Average
2016 0.43 0.28 0.20 0.30
2017 0.54 0.28 0.18 0.33
2018 0.48 0.26 0.31 0.35
2019 0.41 0.27 0.28 0.32
2020 0.35 0.31 0.24 0.30
Debt-capital ratio for Microsoft worsened from 0.43 in 2016 to 0.54 in 2017

Debt-Assets Ratio: Total debt/Total assets

YEAR Microsoft Intel Adobe Average
2016 0.28 0.22 0.15 0.22
2017 0.36 0.22 0.13 0.24
2018 0.29 0.21 0.22 0.24
2019 0.25 0.21 0.20 0.22
2020 0.21 0.24 0.17 0.21

Over the years the Adobe ratios have been below the peer companies average, and in 2018and
2019 the Intel ratios were also lower than the average apart from Microsoft. The lower debt-asset
indicates that most of the assets are funded by equity. The low ratios of Microsoft will be a threat
to the overall solvency position of the company.
FINANCIAL LEVERAGE

YEAR Microsoft Intel Adobe Average

2016 2.69 1.71 1.71 2.04
2017 3.33 1.79 1.72 2.28
2018 3.13 1.72 2.00 2.28
2019 2.80 1.76 1.97 2.18
2020 2.55 1.89 1.83 2.09

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ACTIVITY RATIOS
Inventory turnover

YEAR Microsoft Intel Adobe Average

2016 24.74 4.16 -
2017 33.02 3.38 -
2018 31.15 3.73 -
2019 45.83 3.41 -
2020 24.31 4.06 -

Microsoft’s Inventory turnover increased by 11.28x in 2017 from 24.74 in 2016.During 2018, the
ratio decreased to 31.15 than the previous year. However, higher efficiency in 2017 and 2019 might
be a result of a rise in the cost of goods sold. Adobe Inc has no inventory turnover which could
possibly mean that the is a weak sales team performance or a decrease in popularity of their
products.

Receivable turnover

YEAR Microsoft Intel Adobe Average

2016 4.67 12.66 7.03 8.12
2017 4.54 10.19 5.99 7.24
2018 4.17 10.54 6.86 7.19
2019 4.26 9.39 7.28 6.98
2020 4.46 11.48 9.20 8.38

Microsoft’s Corp.’s receivable turnover in the year 2017 was 4.54x less than in the year 2016 as it
was 4.67x.The Ratio from 2017 to 2019 is continuously declining until 2020 where it improves by
0.20 in the year 2020. Intel Inc receivable turnover seem to beat its peers as it ranges from 9.36 to
12.66. Adobe Inc Receivable turnover fell in the year 2017 to 5.99 from 7.03 in 2016.

Total asset turnover

YEAR Microsoft Intel Adobe Average

2016 0.44 0.52 0.53 0.50
2017 0.37 0.50 0.54 0.47
2018 0.43 0.55 0.48 0.49
2019 0.44 0.52 0.50 0.49
2020 0.47 0.51 0.46 0.48
Microsoft’s total asset turnover slowed down by 0.37x in 2017 in contrast to 2016 where it was
0.44x. Intel Adobe Total Assets turnover fluctuates between 0.50 to 0.52 and Adobe Inc’s total
turnover.

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 VALUATION RATIOS

P/E ratio: 𝑀𝑎𝑟𝑘𝑒𝑡 𝑐𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑠𝑎𝑡𝑖𝑜𝑛/ 𝐸𝑎𝑟𝑛𝑖𝑛𝑔

YEAR Microsoft Intel Adobe Average

2016 29.73 16.6 51.5 32.4
2017 25.9 15.1 56.2 32.4
2018 48.1 14.1 50.7 37.6
2019 29.4 13.5 53.9 32.3
2020 33.4 9.3 59.4 34.0
Microsoft in 2020 had a 33.4 PE ratio which is regarded as good compared to the United States
software industry average of 52.9x. Adobe Inc had a PE ratio of 59.4x which ultimately beats the
industry average of 52.9x of the US software industry and the average between the three
Companies.

From the graph illustrated above it shows that Microsoft Corp’s Price to Earnings ratio significantly
increased from 2019 to 2020 to 33.4.
EV/EBITDA

YEAR Microsoft Intel Adobe Average

2016 15.05 7.0 29.5 17.1
2017 15.0 8.3 37.1 20.1
2018 16.2 6.9 38.6 20.6
2019 18.9 8.4 40.7 22.7
2020 23.2 5.8 50.2 26.4

Adobe Inc has a high EV/EBITDA in comparison to its peers which could imply that Adobe Inc is
potentially overvalued, whereas Intel Corp has EV/EBITDA that ranges from 5 to 8, which could
imply that Intel Corp is more attractive as a potential investment.
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 Price to sales

YEAR Microsoft Intel Adobe Average

2016 5.13 2.90 8.86 5.22
2017 6.19 3.39 12.44 7.08
2018 7.51 3.09 13.84 8.08
2019 8.38 4.07 13.64 8.44
2020 10.85 2.96 18.06 10.52
In 2020 an investor paid 10.85 in Microsoft, 2.96 In Intel Corp and 18.06 in Adobe Inc. The average
that an investor was expected to pay for a share compared to the sales generated by a firm per share
is 10.52.

The above graph illustrates that the Price to Sales Ratio of Intel Corp’s increased in the year 2018 to
2019 but then declined significantly from 2019 to 2020.

Price to free cash flow

YEAR Microsoft Intel Adobe Average
2016 15.14 12.87 25.98 17.9
2017 16.27 19.70 33.25 23.07
2018 22.97 14.47 33.21 23.55
2019 26.60 15.15 37.82 26.52
2020 34.17 9.89 43.72 29.26

Generally, a price to free cash flow with a value less than 15 to 20 is regarded as good however, for
the three firms the price to free cash flow is above the mentioned range except for Intel with a price
free cash flow of 9.89 which indicates that its stock is relatively cheap.

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 Intrinsic value using Free Cash Flow to Equity
FCFE = Cash flow from operations – Fixed capital investment + Net borrowings

Microsoft Corp FCFE calculation 2020 (US$ in millions)

Net income 61 271

Net noncash charges 16 405
Changes in operating assets and liabilities (936)
Net cash from operations 76 740
Cash premium on debt exchange (1 754)
Repayments of debt (3 750)
Additions to property and plant and equipment (20 622)
Free Cash Flow to equity (FCFE) 50 614

Required rate of return using CAPM (K)

𝑬𝑹𝒊 = 𝑹𝒇 + 𝑩𝒊(𝑬𝑹𝒎 − 𝑹𝒇)
= 1.99 % + 0.88 (11.86 – 1.99%)
= 10. 65%

Retention rate= (net income – common stock cash dividends) ÷ net income

= (61 271 – 16 871) ÷ 61 271

= 0.72
This is the percentage of net income that is retained or reinvested by Microsoft to fund future growth

G using Gordon growth model

G= 100× (P0× r -D0) ÷(P0+D0)

= 100× ($289.10 × 10.65% - $2.19) ÷ ($ 289.10 + $2.19)

= 9.80%

Microsoft Corp will be able to grow at a rate of 9.80% without having to borrow money to fund its growth.

P0= current price of share of Microsoft common stock

D0= the last year dividends per share of Microsoft common stock

r= required rate of return on Microsoft common stock

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Intrinsic value using Free cash flow to Firm

Year Value FCFF or terminal value

0 FCFF0 54,552
1 FCFF1 59,557= 54,552× (1+9.18%) 53 963

2 FCFF2 64,811= 59,557× (1+8.82%) 53 207

3 FCFF3 70,299= 64,811× (1+8.47) 52 292

4 FCFF4 76,003= 70,299× (1+8.11%) 51 224

5 FCFF5 81,900= 76, 003× (1+7.76%) 50 014

5 Terminal value (TV5) 3,385,639= 81,900× (1+ 7.76%) (10.37%-7.76%) 2 067 514

Intrinsic value of Microsoft Corp capital 2 275 279

Less: debt and finance lease liabilities (fair value) 82 541

Intrinsic value of Microsoft Corp’s common stock 2 192 738

Intrinsic value of Microsoft Corp’s common stock per share $298.83

Current share price $ 289.10

Equity (fair value) =No. shares of common stock outstanding × current share price

= 7 514 891 248× $ 289.10

= $2 172 555 059 796.80

The current share price is $289.10 which is less than the Intrinsic value of $298.83, the stock is
undervalued therefore the investment demand is not strong as market value is less than intrinsic
value.

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2021 CALCULATIONS

Retention rate= (net income – common stock cash dividends) ÷ net income

= (61 271 – 16 871) ÷ 61 271

= 0.72

Profit margin=100×Net income÷ Revenue

= 100× 61 271÷ 168 088
=36.45%

Asset Turnover= Revenue÷ Total assets

=168 088÷ 333 779
= 0.50

Financial leverage=Total assets Stockholder’s equity

= 333 779 ÷ 141 988
=2.35

Microsoft has a financial leverage of 2.35 which can be considered as a risky

investment for potential investors like Mr Greene.

G=Retention rate× Profit margin ×Asset turnover× Financial leverage

= 0.72 ×36.45%× 0.50× 2.35
= 30.83%

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Profitability ratios calculations 2021

Cash ratio= total cash assets ÷ current liabilities

=130 334 ÷88657
=1.47

Quick ratio= total quick assets ÷ Current liabilities

=168 377÷ 88657
=1.90

Current ratio= current asset ÷current liabilities

=184 406 ÷ 88 657
=2.08

2021 Calculation

EPS= Net income ÷ number of shares of common stock outstanding

= 61 271 000 000 ÷7 514 891 248
= 8.15
This EPS indicates what would be earned per share if profits were to be paid out to
Microsoft’s shareholder’s

PE Ratio= Share price÷ EPS

= $289.10÷ 8.15
= 35.47
The PE ratio of Microsoft is considered to be a good PE compared to the software industry in the
united states as it is somewhat close to the industry average of 52.

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 INVESTMENT RECOMMENDATION
After analysing the financial ratios of Microsoft Corp, Adobe Inc and Intel Corp we
recommend Mr Greene to invest in Microsoft, the reasons are as follows:
▪ In terms of Microsoft’s Profitability Ratio, its operating profit margin and Return on
Equity has increased in 2019 and 2020.The operating profit margin has reached a
peak of 37.03% which indicates that its being well managed and that its less of a risk
than Intel and Adobe.
▪ Its liquidity ratios namely current ratio and quick ratio are above 2, which is higher
than Adobe Inc and Intel Corp liquidity ratios. This indicate that Microsoft can satisfy
its current obligations and it can cover its current liabilities two times over.
▪ With current ratio and quick ratio being above 2 and a cash ratio above 1 it shows that
Microsoft is at a low risk of becoming bankrupt.
▪ Microsoft’s activity ratios especially the inventory turnover imply that Microsoft is
efficient in managing its inventory and that they sell and restock their inventory
frequently.

Microsoft Corp Intel Corp Adobe Inc

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 SUMMARY OF THE IINVESTMENT CASE
High net-worth investor is the type of investor chosen with high-risk appetite. He wants the
value of his investment to grow substantially overtime and expects 15% to 20% return on his
investment. Macroeconomic indicators will have varied impact on his investment, for instance
a rise in GDP will stimulate his investment opportunities, increase in interest rates will
discourage investments or have negative effects on the already running investments. IT
industry accounts for 10% of the total US economy. IT industry is one of the industries which
are fast-growing, so investing in it is great for his future. But one should bear in mind that IT
is very sensitive to the business cycles since it is a cyclical industry. This means it will respond
very much aggressively to the then phases.

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 REFERENCES

Corporate Finance Institute. 2021. Liquidity Ratio. (online) Available from:

<https://corporatefinanceinstitute.com/resources/knowledge/finance/liquidity-ratio/>
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Panmore Institute. 2021. Microsoft Corporation’s Five Forces Analysis (Porter’s Model) &
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(Accessed 22 September 2021)
Stock Analysis on Net. 2021. Intel Corp. (NASDAQ:INTC) | Analysis of Profitability Ratios.
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Corp/Ratios/Profitability> (Accessed 1 October 2021).

Stock Analysis on Net. 2021. Microsoft Corp. (NASDAQ:MSFT) | Analysis of Profitability

Ratios. (online) Available from: <https://www.stock-analysis-
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Worldwide Services. 2021. What is the IT Life Cycle? | IT Life Cycle Management. (online)
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