Why This Microsoft Analyst Expects Dividend Hike Of More Than 10%

Software giant Microsoft Corporation (NASDAQ: MSFT) customarily announces a dividend hike by the middle of September. An analyst at Morgan Stanley is expecting a 10%-plus dividend increase this time around, bringing the dividend yield to about 0.8%.

Why Morgan Stanley Says 10% Hike A Safe Bet: Microsoft could increase its dividend per share from 56 cents to 62 cents, in line with the past three years, analyst Keith Wiess said in a note. 

This translates to a 10% increase, which is a conservative estimate, the analyst said.

There is leeway for a bigger dividend increase, given the company reported another year of 20%-plus operating income growth, he said. 

The analyst outlind  four reasons that could support a dividend increase of over 10%.

1. Secular Positioning: Microsoft's portfolio is well-positioned to key secular trends and could see sustained growth in the coming years, Weiss said. Key growth drivers, including cloud, gaming, security, LinkedIn and others should yield durable double-digit revenue growth, the analyst said. 

2. Margin Improvement Intact: Even without the impact of accounting changes, Microsoft's gross margin would have expanded 120 basis points year-over-year in the fourth quarter of 2021, the analyst said. The company sees scope for improving efficiency by reallocating resources toward higher growth business areas, he said. 

"The combination of strong and durable revenue growth and expanding margins should result in mid to high teens growth in operating income going forward, which should provide support for a dividend increase beyond 10%." 

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3. Balance Sheet Strength: Microsoft has $130 billion in cash and equivalents on the balance sheet and consistent levels of cash flow generation, Weiss said.

Assuming a 10% dividend increase for fiscal year 2022, the analyst estimates $18 billion outgoing for dividend payments relative to the $66 billion in free cash flow.

Even if Microsoft increases its dividend above 10%, the company would likely have plenty of liquidity remaining, the analyst said.

4. Anchoring To Dividend Yield Of Less Than 1% With shares around all-time highs, a 10% dividend increase would only result in a dividend yield of 0.8%, which would be below historical levels, the analyst said.

Microsoft Rating/Price Target: Weiss maintained an Overweight rating on Microsoft shares and increased the price target from $305 to $331.The analyst reasoned that the estimated dividend increase, combined with high-teens EPS growth, supports an 20% total return profile for the company.

In premarket trading Tuesday, Microsoft shares were up 1.16% at $300.43. 

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