NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed Microsoft Corp.'s (Microsoft) ratings, including the Long-term Issuer Default Rating (IDR) at 'AA+'. The Rating Outlook is Stable. Fitch's actions affect approximately $23.7 billion of total debt. A full list of ratings follows at the end of this release.
KEY RATING DRIVERS
--Fitch's expectations that Microsoft Windows will remain the primary operating system (OS) for servers and PCs, despite lackluster adoption of Windows 8 and 8.1 for PCs, supporting significant annual free cash flow (FCF).
--Microsoft's very strong liquidity, which is supported by $89.2 billion in cash and short-term (ST) investments (6.5% in the U.S.) and Fitch expectations for annual free cash flow of roughly $15 billion. Fitch anticipates capital spending will remain elevated to support cloud infrastructure development. Approximately $5.8 billion of cash and ST investments were held in the U.S. as of Sept. 30, 2014.
--Microsoft's recurring revenue base related to long-term commercial licensing agreements, which represents more than half of total revenues.
--Fitch's expectations that increasing adoption of enterprise cloud services will further diversify Microsoft's revenue base and increase profitability, reducing the company's exposure to the less defensible and profitable consumer PC market.
Ratings concerns center on Fitch's expectations that:
--Microsoft will continue relying on the PC market for the vast majority of FCF, although Fitch expects faster growing cloud services could reduce this risk over the longer-term.
--Competing free or lower cost operating systems may continue reducing Microsoft's share, primarily in consumer and education markets. Microsoft competes with Google in the tablet and smartphone markets (Android - roughly 80%) and in the notebook PC market (Chrome).
--Success in smartphone and tablet markets could remain modest (below 5% share), despite significant investments and resource allocation.
--Lackluster consumer PC demand, with the exception of Office 365 (SaaS), will remain pressured by extended PC replacement cycles due to tablet and smartphone substitution for traditional PCs.
--Significant dividend and share repurchase programs are likely to continue pressuring the company to issue debt to avoid repatriation of foreign earnings, which represent the majority of total annual FCF.
Negative: Future developments that may, individually or collectively, lead to negative rating action include:
--Fitch's expectations that total debt adjusted for rental expense to operating EBITDAR sustained between 1x - 1.5x, most likely from significant debt issuance to support shareholder returns.
--Material profit margin erosion related competitive pressures, including strong commercial adoption of the public cloud and/or open-sourced software materially reduces demand for key Microsoft products, penetration of alternative operating systems in the PC market or market share gains by Apple, or greater acceptance of cheaper software applications that compete with Microsoft Office.
Positive ratings actions are unlikely in the absence of material diversification, driven by solid organic growth in non-PC businesses.
As of Sept. 30, 2014, Fitch believes liquidity is very strong and supported by:
--$89.2 billion of cash and ST investments ($5.8 billion in U.S. at Sept. 30, 2014); and
--An undrawn $5 billion revolving credit facility that backstops a commercial paper (CP) program.
Fitch expectation for $15 billion of annual FCF also supports liquidity.
Total debt was $23.7 billion at Sept. 30, 2014 and consisted of various tranches of senior notes with staggered debt maturities and $3.5 billion of CP borrowings. Microsoft's nearest debt maturity, aside from CP borrowings, is $1.8 billion of senior notes due Sept. 25, 2015.
Fitch affirms the following ratings:
--Long-Term IDR at 'AA+';
--Senior unsecured debt at 'AA+';
--RCF at 'AA+';
--Short-Term IDR at 'F1+';
--Commercial paper (CP) program at 'F1+'.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (May 4, 2014).
Applicable Criteria and Related Research:
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage