Score one for Microsoft Corporation (NASDAQ:MSFT).

MicrosoftNew185 MSFT   Microsoft Earnings Deliver and the Cash Keeps FlowingMicrosoft earnings were reported last night, and Nadella & Co. beat analyst estimates for both revenues and earnings per share, bucking a trend of recent misses in the tech sector.

The quick numbers:

  • In the fiscal third quarter, Microsoft reported earnings of 61 cents per share of MSFT stock, down about 10% from the 68 cents per share earned last year, but still better than analyst estimates. Wall Street had expected a dismal 51 cents.
  • On the revenue front, Microsoft brought in $21.71 billion, beating estimates of $21.06. That’s up a little over 6% from the year-ago quarter.
  • The strong dollar has been slapping around the entire tech sector, and Microsoft was no exception.  Currency moves reduced revenue growth from 9% to 6% and turned a 7% decline in EPS into a 10% decline.

Now, let’s dig a little deeper.

What to Love, What to Loathe About Microsoft Earnings

The figure the Street was watching the closest was commercial revenues, as this gives the best indication as to the success of CEO Satya Nadella’s turnaround plan for the company. The commercial segment accounts for about 60% of Microsoft’s total revenues.

Nadella has been retooling MSFT as a cloud services provider to business, but the second quarter’s commercial sales disappointed, causing Microsoft to suffer its worst drop in 18 months.

There would be no repeat in the third quarter. Commercial sales came in better than expected, up 5% (7% on a constant currency basis). And within the segment, commercial cloud revenue, which includes Office 365 and cloud computing platform Azure, was the standout with revenue growth of 106% (111% on a constant currency basis). Consumers are embracing Office 365 as well; the number of consumer subscribers jumped 35%.

According to the press release, commercial cloud revenue is now on pace to generate $6.3 billion in sales annually. This is a big deal, because this is what Nadella sees as the long-term future of the company in a post-Windows world.

Nadella’s long game is working.

And speaking of Windows, the numbers on that front were largely disappointing, though the Street wasn’t really expecting much. Commercial licensing of Windows was down about 2%, and the results were even worse in the Devices and Consumer segment. Windows OEM Pro revenue was down a gut-wrenching 19%, as the bump that Microsoft got a year ago from the phase out of Windows XP proved to be temporary.

With Windows 10 coming out later this year, Microsoft might get another modest bump in Windows sales. Windows 8 was a flop that most PC users hated to the core, so I’m betting that there is a fair amount of pent-up PC demand just waiting for the release of Windows 10.

All the same, PC sales continue to sag and IDC expects them to decline nearly 5% this year. This illustrates just how critical it is for Microsoft that Nadella’s massive bet on the cloud pays off.

What’s Next for Microsoft Stock?

The key takeaway from this quarter’s release is that Nadella’s game plan is working. That’s great for Microsoft as a company. But what’s next for Microsoft stock?

At current prices, Microsoft is not dirt-cheap, but it’s certainly not expensive either. It trades for about 15 times next year’s expected earnings, which is a little lower than the broad S&P 500.

Yet a gargantuan 25% of Microsoft’s market cap is sitting in cold, hard cash. Yes, I understand that most of that cash is sitting offshore and that it won’t be repatriated anytime soon. But let’s discount that cash at 65 cents on the dollar to allow for a worst-case tax scenario. Even then, MSFT is sitting on a mountain of cash that would account for more than 16% of its market cap.

And Microsoft is sending more and more of that cash to shareholders every year. Microsoft has been a fantastic dividend payer in recent years, raising its dividend at an 18% clip over the past five years. Currently, Microsoft yields nearly 3% in dividends.

So, is Microsoft a screaming growth buy after earnings? Hardly. But does it look appealing as a core holding regardless? Absolutely.