The "Magnificent Seven" is a group of seven tech-orientated companies -- Microsoft (MSFT 0.52%), Apple, Nvidia, Alphabet, Amazon, Meta Platforms, and Tesla. All seven crushed the S&P 500 in 2023, and all but Microsoft beat the index again in 2024.
Here's why Microsoft stands out as my top buy of the Magnificent Seven for 2025, and why it is well positioned to reward investors over the long term.
Image source: Getty Images.
A down year for a long-term winner
Microsoft gained just 12.1% in 2024, underperforming the S&P 500 and its Magnificent Seven peers by wide margins.
However, the stock has still been up big over the last five years, crushing the S&P 500 during that period.
When investing in any company, it's important to understand what it does and where it is trying to go. Microsoft stands out as a fairly easy-to-understand company with a clear vision for future growth.
Microsoft today
Microsoft has a highly diversified business spanning hardware and software. Microsoft has three segments -- Productivity and Business Processes (Microsoft 365 and Microsoft 365 Copilot, Microsoft Teams, SharePoint, LinkedIn, Dynamics products and cloud services, etc.), Microsoft Intelligent Cloud (Azure and other cloud services, GitHub cloud services, enterprise support services, etc.) and More Personal Computing (Windows, devices like Surface and Xbox hardware, Bing, Microsoft News, Microsoft Edge, and more).
Microsoft is a uniquely strong business because of its growing sales and profits across all its segments. Its most profitable segment is also its largest.
Productivity and Business Processes comprised 43.2% of first-quarter fiscal 2025 (three months ended Sept. 30, 2024) revenue and had a whopping 58.3% operating margin.
Intelligent Cloud made up 36.7% of revenue with a 43.6% operating margin during the quarter, while More Personal Computing comprised 20.1% of revenue with a 26.8% operating margin.
The expansion of artificial intelligence (AI) solutions for Microsoft 365, Microsoft Cloud, and GitHub has unlocked market expansion across Microsoft's business even as it continues to invest in research and development and infrastructure expansion.
Microsoft tomorrow
On January 3, Microsoft Vice Chair & President Brad Smith published a blog titled "The Golden Opportunity for American AI." Smith said that AI will become a world-changing general-purpose technology over a relatively short period of time:
Not since the invention of electricity has the United States had the opportunity it has today to harness new technology to invigorate the nation's economy. In many ways, artificial intelligence is the electricity of our age, and the next four years can build a foundation for America's economic success for the next quarter century.
Perhaps the standout comment from the blog was a commitment to accelerating spending on large-scale infrastructure investments:
In FY 2025, Microsoft is on track to invest approximately $80 billion to build out AI-enabled data centers to train AI models and deploy AI and cloud-based applications around the world. More than half of this total investment will be in the United States, reflecting our commitment to this country and our confidence in the American economy.
Eighty billion dollars is no small feat, even for Microsoft. Microsoft has seen its operating and research and development (R&D) expenses gradually grow over time while its capital expenditures have skyrocketed in recent years.
MSFT Total Operating Expenses (TTM) data by YCharts
Yet, it has still been able to grow its operating margins at a breakneck pace because the company has done such a phenomenal job monetizing AI.
As Microsoft accelerates spending, investors should brace themselves for what could be a period of lower margins because infrastructure investments will take time to pay off. Additionally, if there's a sector-wide or broader economic slowdown, Microsoft could be more vulnerable. However, Microsoft has the resources to swim against the current and make long-term contrarian investments even during a slowdown.
A financially stable company with a growing dividend
Microsoft exited the most recent quarter with more cash, cash equivalents, and short-term investments than short- and long-term debt on its balance sheet. Microsoft has AAA and Aaa credit ratings from S&P Global and Moody's, respectively. So, it's not like the company is overexpanding at the expense of its financial health.
While Microsoft's balance sheet remains in excellent shape, it has been scaling back the pace of stock buybacks to fund its AI investments. It continues to buy back enough stock to avoid diluting shareholders because buybacks are still greater than stock-based compensation. However, as you can see in the chart, the margin of separation has narrowed as Microsoft's stock-based compensation expense has more than doubled in the last five years.
MSFT Stock Based Compensation (TTM) data by YCharts
Microsoft continues to pay a growing dividend. In September, it announced a 10% increase in the payout, marking the 15th consecutive annual increase. Many of these increases have been around 10%, which are sizable and have led to the dividend growing more than fivefold in the last 15 years.
So, even if Microsoft pulls back on buybacks, it still returns a ton of capital to shareholders through dividends.
Leading the next wave of AI
Microsoft stands out as a good value for 2025 and beyond. The stock isn't overpriced, sporting a 34.9 price-to-earnings (P/E) ratio compared to its 32.1 median P/E over the last decade. However, Microsoft is arguably a far stronger business today with better growth prospects than it was 10 years ago.
Buying Microsoft stock now is a bet that its AI investments will pay off and that large-scale infrastructure investments are a better use of capital than buybacks. If you agree with the company's sustained bet on AI, Microsoft can serve as a foundational holding given its strong profitability, diversification, solid balance sheet, and growing dividend.
But if you think Microsoft is being too aggressive, you may want to consider keeping the stock on a watchlist.
