Finance

Microsoft Corporation (MSFT) vs. AT&T Inc. (T): Which is the Better Investment?

Microsoft Corporation (NASDAQ:MSFT) shares are up more than 24.11% this year and recently decreased -5.43% or -$6.1 to settle at $106.16. AT&T Inc. (NYSE:T), on the other hand, is down -15.51% year to date as of 10/10/2018. It currently trades at $32.85 and has returned -3.15% during the past week.

Microsoft Corporation (NASDAQ:MSFT) and AT&T Inc. (NYSE:T) are the two most active stocks in the Business Software & Services industry based on today’s trading volumes. We will compare the two companies based on the strength of various metrics, including growth, profitability, risk, return, and valuation to determine if one is a better investment than the other.

Growth

Companies that can consistently grow earnings at a high compound rate usually have the greatest potential to create value for shareholders in the long-run. Analysts expect MSFT to grow earnings at a 12.42% annual rate over the next 5 years. Comparatively, T is expected to grow at a 6.25% annual rate. All else equal, MSFT’s higher growth rate would imply a greater potential for capital appreciation.

Profitability and Returns

Just, if not more, important than the growth rate is the quality of that growth. Growth can actual be harmful to investors if it comes at the cost of weak profitability and low returns. To adjust for differences in capital structure we’ll use EBITDA margin and Return on Investment (ROI) as measures of profitability and return., compared to an EBITDA margin of 30.63% for AT&T Inc. (T). MSFT’s ROI is 17.60% while T has a ROI of 5.00%. The interpretation is that MSFT’s business generates a higher return on investment than T’s.

Cash Flow



The amount of free cash flow available to investors is ultimately what determines the value of a stock. MSFT’s free cash flow (“FCF”) per share for the trailing twelve months was +0.54. Comparatively, T’s free cash flow per share was +0.32. On a percent-of-sales basis, MSFT’s free cash flow was 3.77% while T converted 1.22% of its revenues into cash flow. This means that, for a given level of sales, MSFT is able to generate more free cash flow for investors.

Liquidity and Financial Risk

Liquidity and leverage ratios are important because they reveal the financial health of a company. MSFT has a current ratio of 2.90 compared to 0.80 for T. This means that MSFT can more easily cover its most immediate liabilities over the next twelve months. MSFT’s debt-to-equity ratio is 0.97 versus a D/E of 1.04 for T. T is therefore the more solvent of the two companies, and has lower financial risk.

Valuation

MSFT trades at a forward P/E of 21.55, a P/B of 9.86, and a P/S of 7.42, compared to a forward P/E of 9.08, a P/B of 1.14, and a P/S of 1.51 for T. MSFT is the expensive of the two stocks on an earnings, book value and sales basis. Given that earnings are what matter most to investors, analysts tend to place a greater weight on the P/E.

Analyst Price Targets and Opinions

When investing it’s crucial to distinguish between price and value. As Warren Buffet said, “price is what you pay, value is what you get”. MSFT is currently priced at a -14.08% to its one-year price target of 123.55. Comparatively, T is -7.1% relative to its price target of 35.36. This suggests that MSFT is the better investment over the next year.

Risk and Volatility

Analyst use beta to measure a stock’s volatility relative to the overall market. Stocks with a beta above 1 tend to have bigger swings in price than the market as a whole, the opposite being the case for stocks with a beta below 1. MSFT has a beta of 1.28 and T’s beta is 0.33. T’s shares are therefore the less volatile of the two stocks.

Insider Activity and Investor Sentiment




The analysis of insider buying and selling trends can be extended to the aggregate level. Short interest, which represents the percentage of a stock’s tradable shares currently being shorted, captures what the market as a whole feels about a stock. MSFT has a short ratio of 1.76 compared to a short interest of 2.10 for T. This implies that the market is currently less bearish on the outlook for MSFT.

Summary

Microsoft Corporation (NASDAQ:MSFT) beats AT&T Inc. (NYSE:T) on a total of 10 of the 14 factors compared between the two stocks. MSFT is growing fastly, is more profitable, generates a higher return on investment, has higher cash flow per share, has a higher cash conversion rate, higher liquidity and has lower financial risk. MSFT is more undervalued relative to its price target. Finally, MSFT has better sentiment signals based on short interest.

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