MorningWord 12/14/16: Home For the Tax Holidays

by Dan December 14, 2016 9:45 am • FREE ACCESS

Following their better than expected fiscal Q1 results on October 20th, shares of Microsoft (MSFT) broke out to a new all time high:

MSFT since 1998 from Bloomberg

Since their earnings report the stock has been consolidating a bit, having initially filling in the earnings gap, and in the last few days making a new all time high, rising 5% in the last week and gaining nearly $25 billion in market capitalization. That makes it the third most valuable company in the world behind Apple (AAPL) and Alphabet (GOOGL):

MSFT ytd from Bloomberg

With yesterday’s new highs came a flurry of call activity, with calls outnumbering puts 3 to 1, with total options volume nearly 4x average daily volume. There appeared to rolling up and out of prior bullish bets with traders selling to close Jan17 (now) in the money and near the money upside calls with opening buyers of July17 and Jan18 upside calls.


While MSFT is now a few percent above its prior 2000 bubble highs, it’s important to remember just how much stock they have retired, and how much cash they have paid to shareholders since, from my post in April (Partying Like it’s 1999):

Capital Return remains one of the largest reasons to stay long and strong.  But here is a little fun fact, the last time MSFT sniffed $60 it was the day before Y2K, the year the company reached $20 billion in annual sales. They are expected to have close to $95 billion this year. While that is truly remarkable, it is not an apples to apples comparison when you consider just how much stock the company has returned (about $95 billion) to shareholders in the form of buybacks and dividends in just the last 6 years, from Microsoft Investors Relations:


So… what to do with MSFT at new all time highs? The company just closed their largest acquisition ever, of LinkedIn for $26 billion and now the company faces the potential to repatriate more than $100 billion in offshore cash under new tax rules in 2017. That could lead to more m&a or possibly increased cash return.  For those who are expecting repatriation of offshore cash to help spur tech job growth in the U.S. you might want to think again, especially for a software company that is pushing further into cloud based services.  The technologies that MSFT hopes to be at the forefront of innovation in the next decade or two is clearly a headwind to traditional job creation. The company is well aware of this, and will not likely agree to any major contingencies to repatriation. They will ultimately do what (they deem) is best for their shareholders.

As was the case following the Federal tax holiday in 2004, the largest single corporate beneficiary at the time, MSFT, promptly paid their shareholders (including the two largest holders at the time Bill Gates and Steve Ballmer who pocketed $4 billion combined) a massive special dividend, per the WSJ on July 21, 2004:

In an extraordinary move to shower its cash hoard upon shareholders, Microsoft Corp. said it will make a one-time dividend payment this year of $32 billion and buy back up to $30 billion of the company’s stock over the next four years. The company also said it will double the dividend it pays out annually to $3.5 billion, or 32 cents a share.

Let’s step in the Wayback Machine and look at what MSFT stock did in ’04 after the tax holiday and the declaration of the massive special dividend:

It got a boost on the news in July, sold off into the Fall then got another boost as the dividend approached in October. Any new tax holiday and announcements of what these companies will do with the cash will be treated similarly. But MSFT is also a good example of why it doesn’t really change much long term as MSFT had other issues. The stock basically flatlined for the next few years after the ’04 tax holiday and finally broke out… just in time for the ’08 crash:

Lastly, shares of MSFT trade 21x fiscal 2017 expected eps of $2.95, which would be 6% yoy growth on only 2% sales growth, approaching its pre 2008 valuation highs.