Microsoft Blog Commentary

Some Intros

So before you begin to find some objects why are we trying to look at the intrinsic value of this company. The purposes are twofold: Firstly, I want to try to do a little bit of preparation for CFA examination and the topics that have always interested me are in-depth financial analysis and the techniques to use to do comparable valuation, so I thought I’d start there first. Secondly, I have some spare time on my hands and I thought perhaps looking at the current state of Microsoft could perhaps give me a larger viewpoint of the overall health of the financial market such as the S&P 500 index and taking a close in work as specific firm before zooming out  to look at the larger overall state of things in terms of stock investing. I know before I’ve said before that I was prepared to value Nvidia NVIDIA Corporation (NASDAQ: NVDA) the last blog, but I think the majority of their price increases half can largely be attributed to their 40 billion takeover of Arm, and to be frank, I haven’t spent much time doing M&A Valuations before. So, instead I’ll be valuing sticking to a more traditional tech company like Microsoft where a lot of people will also be analyzing it when you so in the least we’ll benefit from this as a learning process by knowing whether we are that far off the mark in terms of finding an ‘accurate’ intrinsic value.

Starting with the Stock Price

Some interesting things to know about Microsoft stock performance is that — starting from 2016 — within 1 year of  holding onto gives you roughly 63% returns, for 3 years 223%, and for 5 years 450%. While on the revenue side for the year-over-year 2020 to 2021 Microsoft has a revenue increase of 17.5%, for 3 years it's 52.2%, for 5 years it’s 84.2%. I think this gives you very interesting insight into investor expectation of revenue increases relative to the stock price performance in the long-term future. Just from this small string of data you can make out (and to an extent reverse engineer) the general public expectation of the stock prices performance in the long-term future. Further, You can observe an interesting relationship between the stock price of the common stock and the magnitude of how it’s annual revenue growth affects the also “second-order” growth in the growth of the company’s stock price aswell.

Math:

1.00*(1+0.059)*(1+0.143)*(1+0.14)*(1+0.136)*(1+0.175) = 1.842

1.00*(1+0.14)*(1+0.136)*(1+0.175) = 1.522

1.00*(1+0.175) = 1.175

Breaking down their Revenue into Segments

In order to provide for more accurate values for the specific components of Microsoft’s business, instead of restoring to common “price/earnings” ratios that give you no useful information whatsoever about the competitiveness of their product line. Let’s break down their Revenue by specific segments. So primarily, on their relations they break down their revenue by 3 segments: Productivity and business processes,  intelligent cloud, and more personal computing. However I think we could go a little bit more specific into that.  We know Microsoft is famous for their operating systems windows,  that's why we can assume the majority of their revenue comes from. Then we have consumer Communications platforms like Microsoft teams, where the major competition comes from Discord, Zoom Communications, Facebook Messenger, etc. A lesser known product is Dynamic 365, which operates in a business to business environment providing data analytics for companies. Last but not least gaming which has the new Halo as came out. I personally have bought the new Halo infinite which is very fun to play on but they're Xbox system sales seems to stagnate compared to other competition like PlayStation Nintendo switch even.

Growth of Costs versus Revenue 

Let’s compare their long term “growth rate of operating income with growth rate of operating cost” This is the data I’ve compiled showing the growth rate of their operating income vs operating cost. Interestingly, from 2020 to 2021 Microsoft increased their PP&E and Operating right-of-use lease by 35% and 26% respectively. Does this mean their are perhaps expanding in some sectors? Probaly. In which one? Super computers? Data centers? Giga factories? One can only guess... Before I know more, I will intuitively guess that this is a substain increase specifically both horizontally (comparable in it's own year in the asset category) and vertically (comparable to it's previous historic years). And... I was correct. This is really intriguing then, saving this for later.

EBIT

So EBIT (Earnings before Interest Taxes) can be simplified as Operating Income. For the year 2021, EBIT is 69,916 adding back depreciation & amortization 10,900. We won't be using EBIT as a driver in this model, but rather but summing up all the Net Income of the subsquent years and using Excel's built in net present value formula of =npv().

Our Assumptions

The following numbers are the crucial numbers for our valuation. The numbers next to the blue marked text indicate it is a future forecast value, while anything prior to it is historical.

	Q122	Q222	Q322	Q422			2021	2022	2023	->
R y/y	22	17	15	30			18	21	10	3
GM%	70	70	70	75			69	71	63	63
OM%	45	41	45	51			42	43	34
Tax%	0	0	15	15			14	15	15

Conclusion

Briefly looking at Quant Metrics, here's what I got. Keep in mind there are baseless predictions, and simply premises a reversion to the mean.

Conclusion

The entire market is overvalued right now, Microsoft moreover is leading this "overvaluation". If you want to buy stocks, fine, just find something more fairly valued. I have done this DCF valuation from the ground up, there is no bull or bear case that will justify this lack of a margin of safety. If you buy Microsoft and hold it, don't expect astronomical gains.

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Run-in with the SEC

Run-in with the SEC

On the 3rd of December 2021, TD Ameritrade (Toronto-Dominion Bank), a partner of Schwab (Charles Schwab Corporation) made the unjustified decision (unceremoniously, I might add) to "illegally" seize my account, this was premised on the reason that it was done to protect the client's interest, for the purposes of fraud and money-laundering investigations. This happening to me was rather strange, as I was absolutely positive that I had indeed submitted all the necessary required documents, and all the information was reported correctly. Further, I had used TD Ameritrade before back in 2019, and I've had a pretty good experience with the ThinkOrSwim platform, so such a drastic action with no forenotice nor follow up semmed — out of place. 

I should note this was done unceremoniously aswell, as the S&P 500 had falled by 4% since peak, prior to this occuring, thus, I wanted to take advantage of the (hopefully) temporary drawback. 

The service represenatives informed me that they will have to contact the fraud represenative departments to verify my (the client's) identitfy, before they can properly give an answer as to why my account was closed. To say I was shocked, would be understating it. I'd thought given my past experiences with TD Ameritrade, that, as a broker they would be atleast responsible to send me an notification, or give me a call to inform me that something was awry with my account and further communication was needed before I can trade. None these things happened. Thus, I thought, this must have been a unique occurance to me. 

So, in the meanwhile, I'd thought to take a look in community chat forums to hoping find some advice or solance in other users that had previously experienced such a frustrating issue. I didn't have to look far. Wikipedia, Quora, Reddit, the more places I look, the more shitty news I hear about TD Ameritrade, the more acqusitions I heard of TD's utter negligence and malpratice them demonstrate in handling client accounts and how lack-luster their communication skills are with their clients, and the more distrust grew inside me. Here are a few examples:

In a post made by u/CasualCorona titled "Locked out of my $54,000 account for over 3 weeks, TD Ameritrade has been radio silent. ", a fellow commenter stated

"I kept calling and badgering customer service / the fraud department until they finally looked into it and re-opened the account. Unfortunately, unless you're in direct contact with them I doubt you'll hear anything / have any sort of status change"

   riticalcreader - Reddit, 8 months ago

Here's more disgusting evidence... Another commented on TD's actions to restrict and shut-off a client's ability to buy and sell their holdings.

"Then, ... I have tried to start buying all the sudden to being restricted. I freaked out and started reading comments how bad is that scam from TD Ameritrade."

Finally, one hits it right on-the-money.

"They love to use the method of falsely claiming there's fraudulent activity on accounts that are net positive and in good standing so they can freeze and or close them."

    thelsuera - Reddit, 8 months ago

So ... what... Am I fucked? Can I really trust no one going forward? Even one's that are meant to "keep it professional" and one's that you will last expect to resort to shady tactics to support the profitability of hedge funds and big banks? Can I (as a consumer ) still reasonably expect a level of respect and regard to be kept for client privlleges? Unforunately, I can't come to this conclusion in this blog post, but it did reinforce this notion: Brokers aren't your friends.

Why is this important? Why should you care? If you're like me, a consumer stock investor, you should have very right to buy and sell the assets your assets. Stocks, derivatives, they are your property — yours to buy, to sell, and to do with as you please. The very fact that TD restrictions your right to do this, and tries to justifies this with the bogus claim on pre-emptive consumer protection is just absolutely unresonnable and quite scary to think about in the implications of Who can you trust? I knew brokers aren't your friends, but fuck me, this is wild.  

Timeline:

Midterms Interim: Fed Action + Nvidia DCF Valuation

23Nov21 

Hey guys! Hope you're doing well, it's been a while. Today, on 23rd November, 2021, we will be doing a quick macro analysis on Bonds and the effect on Index performance. I have a suspicion that the recent Fed announcement of dialing back purchases on Treasuries will lead to an uptick in nominal interest rates, thus a small decline in SP500 Index growth (in basis points). As a bonus, i'll be also doing a DCF analysis of Nvidia in the near future, so keep an eye out.

The PIMCO Study Summarized

The research conducted in 2013 by PIMCO can be summarized as follows: (1) Short term negative correlations between stock growth and bond growth can be observed. Meaning that generally, in the short term, if stocks fall, bonds rise. This has also confirmed my observations in intraday movements on VOO (a SP500-like ETF) and TLH (a Midterm ishare treasury bond ETF). (2) The negative beta between stocks and inflation may become less pronounced over longer horizons. From what I gather, the relationship between inflation and stock price growth is not immediately clear, as many have pointed out that the tremendous rise in Index value can be largely attributed to Fed Powell’s monetary policies, i.e. money printer go “BRRR”, and would seem to indicate that high inflation levels had indeed correlated positively with a high index. Even so, however, we must still be cautious as this assumption of continuous growth can only last up to a certain point. This inflation-driven ‘euphoria’ can only be sustained until the general market deems the inflation level at peak is severely imbalanced to the extent that the effects of a prolonged widened economic imbalance outweighs the nominal index basis point growth.

Since 2008, ST correlation (between stocks and bonds) has been negative. The ‘million dollar’ question PIMCO aims to answer is this: “Will higher interest rates or rising inflation in the future make the correlation less negative?” Thus, the majority of their research focuses on discovering whether a correlative relationship can be observed between four macroeconomic factors: real interest rates, inflation, unemployment and growth. Furthermore, to what extent can these relationships continue to be relied upon to make inference and predictions for future Index movements?

Practical Solution going forward

Stock-bond still provides a nice way to strategically allocate assets. However, if inflation volatility is predicted to (or show signs of) increases significantly, then the correlation between stocks and bonds can reverse from negative to positive, thus the quantitative strategies that hold this underlying assumption will have to be look at more carefully from here on out.

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Valuation Interim

Hello again, it's been a while since my last post. I hope you all have been well. When it comes to investing and finance, I am a big believer in self learning. To quote Sal Khan "The oldest way and most effective form of learning is to learn at a pace that's comfortable for you and them to master the concepts you go on." The idea that knowledge and education should be available freely and everyone is very important to me and I believe that every person should make the best efforts to educate themselves on the areas of economics, politics, finance and technical sciences. For those curious people interested in learning a bit more about valuation (or anything really...) on their own I would suggest these books. I think these have played a pivotal role in my life in shaping how I see financial sectors and my approach investing.

Value Investing

• Investment Valuation (Wiley Finance) - Aswath Damodaran
• Common Stocks and Uncommon Profits

Risk Management

• Margin of Safety
• Game Thoery for Applied Economists
• Dead Companies Walking Scott Fearson

Law

• The Art of Advocacy
• Fake Law: The Truth About Justice in an Age of Lies

STEM related

• Introduction to Logic - Irving M. Copi
• Acquisition of Complex Arithmetic Skills and High-Order Mathematics Concepts

DP signing off ✌️ ...

Note: This list is going to be continually update alongside my own learning experiences.

Distressed Equities 2: Fishing for undervalued stocks!

 Today, I'll be looking for value in SEACOR Marine Holdings (NYSE: SMHI) and Genco Shipping Limited (NYSE: GNK).

Their 10 yr bonds (the day their full principal has to be repaid) is due on 15th May 2030,

Business Model

For SEACOR, their revenue is derived mainly from supplying fast support to crews working on oil drilling operations across the Atlantic Sea. For Genco, their revenue ... In contrast to Genco Shipping, SEACOR's revenue is exposed heavily to oil drilling operations, and as a result, its stock price is exposed to shocks in oil price volatility. This can be seen in their Fast Support Vehicles (FSV), where utilization rates dropped from 67% to 52%

During this quarter (Q1 2021) their cash position improved significantly, standing at 68 million compared to last quarter of 32 million. This is primarily due to the sale of their business Windcat Workboat Holdings Ltd, which brought in an additional 22.8 million. Despite that, they seem to drop 10 billion in net cash every quarter.

Source: https://seacormarine.com/

A

Approaches to valuing negative earning companies

So how exactly do you value companies that have negative cashflows or earnings? Many of the commonly relied on metrics such as PE ratios or EPS can't be relied on. While the approach to valuing negative earning companies are more difficult, there is still inherent value in young growth companies, hence it is important to use the right approaches. Here is a typical outlook on prospective young growth companies.

In the early stages, companies are faced with heavy startup costs usually associated with building up a company. Initially, these costs will eat into their revenues giving them negative cash flows, but as time progress, these companies enjoy the benefits of economics of scale of generated revenue streams, while depreciating their original invested capital.

Depressing Outlook

Since their earnings are negative, we can't really rely on the income statements or any shortcuts such as Operating Margins, to help give us a clear picture of its intrinsic value in the future. So, we must look into the cash flows of this firm. From the past 4 quarters, we can see that they burn through roughly 10 million per quarter. In terms of survivability, I predict based off of their current situation that they can operate for 5 more quarters worry free. I say 'worry free' with air quotes, what I REALLY mean is that their company is failing. Why the hell are they still issuing such high compensation to their board of directors? We can tell by September 30, 2020 that the firm had issued 755 thousand shares to their directors. And on average, each director doesn't hold their shares for very long (source: pending investigation). To make matters worse, they aren't making any reinvestments to their firm. Compared to Genco Shipping, SEACOR is actually offloading their Windcat vessels and business. Sure, that cuts down on operating costs substantially, but its not like any other parts of their business was running efficiently anyways. Sure, direct vessel profits had an operating margin of 12% for the year 2020 (1.3/11.2 Million), but they kept losing money from their property, compounded with the problem of depreciating usefulness. (note Property Depreciation for Q120 - Q121)

Examining their fund raising methods

When looking for growth value in a stock, you must take care that the data you sourced are of quality and free of any errors. So before I turn to compute Earnings Per Share (EPS) or turn to look at the company's Earnings Before Interest, Taxes (EBIT), I examine whether the companies are running efficiently are ask myself whether these companies can cut down on these problems to stimulate higher growth.

Reinvestment: Genco's procurement of new vessels

Often, a good intuitive indicator of the insider management view on the 'longevity' of their company is by looking in reinvestment rates. In our scenario, the reinvestment can be found in business acquisitions of adding new ships to their fleets. Similar to R&D in a tech company, where money is pumped back into companies for to generate new tech and acquire patents for products. Vessel acquisitions, is where money is spent for these companies to acquire new ships in order to continue operating business and cut down on operating costs (think fuel and oil). Simply put, capital expenditures (CapEx) is as critical to Maritime Transportation Companies as R&D is as critical to Tech firms. 

Announcement of Upcoming Dividends

One thing we take into consideration when calculating intrinsic value is dividends. Following the latest quarterly report, Genco Shipping Limited has announced that they would issue dividends.

Source: Genco Shipping 10-k Investor Relations

The dividends for the next quarter can be anticipated to be 0.05 per share. (Source: Guidance Report) We should take this factor into consideration when calculating our intrinsic value as it is an expense on our cash flows.

Analysis of Trends

We should begin by building a picture of what their earnings and expenditures look like, here is data from 2016 to 2020, detailing their trends of Revenue, SG&A, COGS, and Net Income.

Source: 10-K Genco Shipping Limited SEC data

Here, we can observe that net income improved substaintially compared to previous years. Although averages are not good indicators of future efficency, they can give us a rough estimate of what expenditures to expect for the next couple months.

The Forecast Begins

Now with the formalities out of the way, we can begin to forecast their growth (if any) for the next couple of years. Firstly, for the second quarter of 2021, I believe they will incur a total COGS of 76,109. I forecast for the year 2021, items 6-10 will inccur a 10% reduction, with an overall COGS reduction of 8% YoY. However, their General & Administrative and Managment fees, items 9 and 10 respectively, will grow in line with Revenue of 1 percent. 

The assumptions will be listed below:

(Lease R +1%, Spot R +2%, Total SG&A -10%, Total COGS -7%)

These previous stated assumptions will carry across the second and third quarters. Moving onto the year 2022, I maintain that their firm will struggle to gain footing for a while with Revenue at 355,560 and total Operating Expense at 456,630. This continues until 2026 (or Phase 1, if you would), where the firm becomes profitable (meaning their net income is non negative for the first time). Here, the firm's revenue continues to grow at 1 percent, while facing decreasings overall costs. Before, the firm was losing money and was not taxed, here we will assume they begin take a tax rate of 18%, the industry average. Moving onto the year 2030 (Phase 1.5), their SG&A and COGS stops decreasing and starts increasing at 1% in line with the revenue growth. In year 2022 (Phase 2) the firm reaches peak growth, and in the following year (Phase 3) the firm reaches stable conditions. With estimate their revenue will grow at a rate of 0.5%, with their SG&A and COGS growing at 1 percent and taxes at 10%. These forecast variable will continue to be used in perpetuity. 

Discount Rate

The most crucial part of the forecast model involves the discount rate. Discount rate is the interest rate you require for stock investments in order to account for its riskiness inherent in the concept of the time value of money. Since their financing of the 2 new vessels includes both debt and equity, I will be using Weighted Average Cost of Capital (WACC). To find the discount rate, you must find cost of equity, the cost of debt, and their relative proportions to their sums. The WACC is found to be 5.36%.

Source: 10-Q 2021 Genco Shipping Limited

Using the WACC (5.36%) as the discount rate, we arrive at the net present value of 915 million, deducting their current net cash of 269 million we get a terminal value of 646 million, or 15.42 dollars per share. 

Source: Author's Estimates

We see that the value we have arrived at is not far from their current value, and altough their growth is promising, I wouldn't buy into neither Genco at such a high price.

Concluding Thoughts

It would take 'half a miracle' to wrestle this company's profitability out of its current spiral. Genco Shipping on the other hand is a much better choice for long term prospects. This can be argued on three basis: (1) its operating efficiency, (2) its reinvestment rate, (3) its upcoming dividends. However, I sense heavy insider trading activity against this stock so I wouldn't bet against it. Secondly, I would not purchase Genco Shipping's company right now. As of 05-June-2021, their stock stands at 15.74. Our valuation model provides use with 17.26. I do not deem that there is a sufficent margin of safety. 

The model is free to download, and provides only raw data. For futher information & enquiries please call +852 9181-8099 or email me at dompatrick2021@gmail.com.  Download Model