Microsoft Corp. stands to become the Netflix Inc. of gaming, according to analysts.
Shares in Microsoft soared to a record high of more than $240 on Jan. 27, the first day of trading after the company reported record financial results. In its fiscal 2021 second-quarter earnings, Microsoft reported surpassing $40 billion in revenue and $15 billion in profit for the first time in the quarter ended Dec. 31, 2020. Analysts cheered the results, noting that the company continues to benefit from escalating demand for gaming and cloud services amid the COVID-19 pandemic.
Wedbush Securities analyst Dan Ives raised his price target on Microsoft's stock to $285 from $270 and reiterated his "outperform" rating, calling the company's fiscal second-quarter a "Picasso-like performance for the ages."
 Microsoft launched the Xbox Series X and Series S on Dec. 10, 2020. |
During the company's recent earnings conference call, Microsoft CEO Satya Nadella said the company surpassed $5 billion in gaming revenue for the first time in the quarter, with the new Xbox Series X and Series the most successful launch in the company's history. Nadella also revealed that the company's Game Pass service, which gives subscribers access to a range of games for a monthly fee, now has 18 million subscribers.
Michael Goodman, director of digital media strategies at Strategy Analytics, thinks that Microsoft's strategy to expand Game Pass to new devices will be a key differentiator for Microsoft in 2021 against rivals Sony Corp. and Nintendo Co. Ltd.
"Microsoft is preparing to bring Game Pass to smart TVs and set-top-boxes in the near future, which will immediately increase their addressable market well past the competition," Goodman said in an interview. "Let's say they get Game Pass on 500 million devices in 2021; if they get a 10% take rate that is an additional 50 million subscribers right there."
Goodman said Microsoft is following the same trajectory that Netflix was on when it pushed video streaming to the masses and helped change the entire pay TV market.
"If you asked cable networks about Netflix's model 10 years ago, they would have shrugged it off and continued their business as usual," Goodman said. "Then along came broadband and changed the dynamics, allowing streaming companies to take off. In a way, connected devices are doing the same in the gaming world, allowing Microsoft to create a new business model."
Goodman said while Microsoft was fairly successful at replicating the traditional video game console model that Sony and Nintendo still predominantly follow, it still fell behind its Japanese competitors. To take it to the next level, Microsoft had to change the rules of the game, and that is where Game Pass comes in, he said.
"Sony is still the market leader in console gaming, so completely overhauling their business model by releasing their first-party titles day-and-date on streaming services would risk cannibalizing their business," Goodman said. "Microsoft is not risking that as much, so they can take the risk and completely change the dynamics, which seems to be paying off for them so far."
Outside of gaming, analysts also note the strong growth in Microsoft's cloud business.
"The cloud growth party is just getting started in our opinion led by Microsoft," Ives wrote in a research note.
With 35% of workloads in the cloud today poised to hit 55%, Wedbush's Ives estimates that the work-from-home shift has accelerated the cloud trend by about a year as more organizations are now being forced to face the new normal. This will allow Microsoft to gain more market share and narrow the gap against current market leader Amazon Web Services Inc.
"The cloud growth party is just getting started in our opinion led by Microsoft," Ives wrote in a research note.
Credit Suisse analyst Brad Zelnick also reiterated his "outperform rating" on Microsoft's stock and raised his price target to $265 from $235, citing "exceptional" earnings where the company overachieved across the board, with both Azure and commercial cloud accelerating.
"Not only is digital transformation alive and well, it is spawning a second wave as all companies are becoming technology companies," Zelnick wrote in his latest research note to clients. "Microsoft is well positioned for this given its massive customer base, functional breadth, underlying Azure platform, and unique developer appeal with offerings like GitHub and Visual Studio."
Jefferies analyst Brent Thill maintained his "buy" rating on Microsoft's stock and increased his price target to $300 from $260.
"The biggest question is how much better can it get with Microsoft beating almost every single metric in the quarter," Thill wrote, adding that the company appears primed for "durable double-digit" revenue and income growth on the back of its Azure, Teams, Security, Windows and gaming offerings.