Is Microsoft Still Undervalued After Its 25% Post-Earnings Rally?
Key Points
Multiple parts of Microsoft's AI business are growing quickly and gaining market share.
Cloud revenue is still surging, which can support double-digit revenue growth rates throughout fiscal 2027.
The stock still trades at a lower P/E ratio than the S&P 500 despite growing faster than most stocks in the index.
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Microsoft (NASDAQ: MSFT) flipped the script pretty quickly. The beleaguered tech stock briefly fell below $350 per share after trading above $553 per share less than one year ago. Then earnings came out, and Microsoft is suddenly charging back up toward $500 per share.
The tech leader looked extremely undervalued before earnings as investors ignored the company's history of high revenue growth, potentially in favor of hotter artificial intelligence (AI) stocks. Now that Microsoft is back on investors' radars, it's worth assessing if the stock is still undervalued.
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Microsoft reported excellent earnings results
Microsoft Cloud continues to be the primary driver of the tech giant's financial results. Cloud revenue increased by 27% year over year in its fiscal 2026 fourth quarter, making up $59.3 billion of the company's $90 billion in total revenue. Across all business segments, overall sales were up 18% year over year.
Microsoft also told investors that it would achieve positive free cash flow in fiscal 2027, easing concerns about AI spending. The company also said that its AI platform, Foundry, reached 100,000 customers. There was also a 60% year-over-year uptick in the number of enterprise customers that use Foundry and Fabric, with the latter being an analytics tool. Revenue for Foundry more than doubled year over year.
The introduction of Web IQ was another highlight. It's a resource that gives agents access to real-world intelligence from across the web, and OpenAI's ChatGPT and other AI assistants already use it. This news signals that Microsoft is deeply embedded in the AI boom. Cloud computing plays a major role, but Microsoft's continued diversification should attract more investors in the long run.
The current valuation
Microsoft currently trades at a 27 P/E ratio, slightly lower than the S&P 500's 29 P/E ratio. Microsoft is growing faster than most S&P 500 companies, and its 18% year-over-year increase in operating income shows that the growth is sustainable.
Capital expenditures have reduced operating income, and Microsoft still anticipates high spending. However, its AI efforts have been paying off. The company is attracting more customers across its product lines while being deeply integrated with the most innovative technology available today.
Most of its other business segments also did well. LinkedIn, search advertising, and Microsoft 365 Consumer revenue all had double-digit year-over-year growth rates. The main laggard was Xbox sales, but that was just a small slice of total earnings.
Even though Microsoft rallied after its earnings (it jumped about 25%), the stock still looks undervalued. It's a testament to how much shares have been dragged down ahead of earnings. Microsoft's stock was down almost 30% from its 52-week high heading into earnings, even though it had consistently reported high-double-digit revenue growth. It is still down 11.8% from that high, but on its way up again, making now a good time to consider buying.
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Marc Guberti has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Microsoft. The Motley Fool has a disclosure policy.
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