Vertical & Horizontal Analysis: Microsoft vs Apple – Comprehensive Class Notes

Key Terminology & Core Concepts

  • Net Sales (Revenue)
    • The top-line dollar value of goods/services sold after returns, allowances, & discounts.
  • Cost of Goods Sold (COGS)
    • Direct costs tied to producing/procuring the goods sold.
  • Gross Profit (GP)
    • GP=Net Sales−COGS\text{GP}=\text{Net Sales}-\text{COGS}
    • Expressed as a margin: Gross Profit %=GPNet Sales×100\text{Gross Profit \%}=\frac{\text{GP}}{\text{Net Sales}}\times100
  • SG&A (Selling, General & Administrative)
    • Salaries for sales staff, accountants, CEO, office rent, marketing, etc.
  • Research & Development (R&D)
    • Spending on new-product creation (e.g., AI initiatives).
  • EBIT — Earnings Before Interest & Taxes.
  • EBITDA — EBITDA was referenced in class as “EBIT” + Depreciation & Amortization.
  • Pretax Income — EBIT minus interest.
  • Net Income — Bottom-line profit after taxes; “available to common shareholders.”
  • Earnings Per Share (EPS) — EPS=Net Income to CommonAvg. Shares Outstanding\text{EPS}=\frac{\text{Net Income to Common}}{\text{Avg. Shares Outstanding}}
  • Vertical Analysis (Common-Size)
    • Each income-statement line is divided by Net Sales.
    • Shows structure of income statement in a single year.
  • Horizontal Analysis
    • Year-over-year dollar and % changes.
    • Reveals trend or momentum.

Vertical Analysis: Microsoft (FY 2024 vs 2023)

  • Base: Net Sales2024=$571 000 000 000\text{Net Sales}_{2024}=\$571\,000\,000\,000 (figure implied by context).
  • 2024 Common-Size Percentages (selected):
    • COGS: 30.2 %
    • Gross Profit: 69.8 % (checks: 100 % – 30.2 % = 69.8 %).
    • SG&A: 25.1 %
    • R&D: 12.0 %
    • Other G&A: 13.1 %
    • EBIT: 44 %
    • Interest Expense: 1.2 %
    • Pretax Income: 44 % (interest rounded away).
    • Taxes: 8 %
    • Net Income: 36 %
    • EPS: 12.0012.00

Comparison of Margins (2023 → 2024):

  • Gross-profit margin rose from 68.9 % → 69.8 % (+0.9 pp).
  • Pretax margin rose 42 % → 44 % (+2 pp).
  • Drivers identified:
    • SG&A ratio fell 26.06 % → 25.01 %.
    • Indicates tighter cost control while revenue grows.

Significance:

  • Margin expansion indicates pricing power, efficiency, or product-mix shift.
  • Markets generally reward rising margins ⇒ higher stock price.

Horizontal Analysis: Microsoft (2023 → 2024)

  • Revenue grew +33 B (≈ +15.7 %)** despite already being one of the world’s largest firms.
  • COGS +12.5 % (below revenue growth) ⇒ GP $Δ +17.1 %.
  • SG&A +9.3 % (below GP growth) ⇒ expense leverage.
  • EBIT $Δ +22 %; pretax income +21 %.
  • Interest expense shot up +49 % but remains “< $1 B on $19 B EBIT increase” ⇒ immaterial.
  • Taxes +15 % (≈ revenue pace, below EBIT pace) ⇒ effective tax rate benefit.
  • EPS 9.68 → 12.00</strong>(+22<li>HoldingtheP/Emultipleflat,sharepricecouldtrack+22</ul><p>OverallTakeaway:</p><ul><li>Microsoftis“kickingbutt”onbothtop−lineandmargingrowth.</li><li>Thecombinationof<strong>double−digitrevenuegrowth</strong>and<strong>marginexpansion</strong>ishighlyprizedbyequitymarkets.</li></ul><h4id="apple20232024horizontalhighlights">Apple(2023→2024)HorizontalHighlights</h4><ul><li>NetSales:<strong></strong> (+22 %).<ul> <li>Holding the P/E multiple flat, share price could track +22 %.</li></ul></li> </ul> <p>Overall Takeaway:</p> <ul> <li>Microsoft is “kicking butt” on both top-line and margin growth.</li> <li>The combination of <strong>double-digit revenue growth</strong> and <strong>margin expansion</strong> is highly prized by equity markets.</li> </ul> <h4 id="apple20232024horizontalhighlights">Apple (2023 → 2024) Horizontal Highlights</h4> <ul> <li>Net Sales: <strong>391 B</strong>,up<strong>≈+2<li>COGSfellfrom</strong>, up <strong>≈ +2 %</strong> (much slower than MSFT’s 15.7 %).</li> <li>COGS fell from\$214\,B → \$210\,B (−2 %) ⇒ Gross Profit +6.8 %.
  • SG&A +4.8 % (faster than sales), viewed negatively: expenses outran revenue.
  • Nevertheless EBIT +7.8 % because gross-profit dollars dwarf SG&A dollars.
  • Interest Expense: \$3.8\,B → 0(−100<li>Applelikelyrepaidalldebt;massivecashgeneration.</li><li>Reasonsmentioned:maintainingannounceddividends,sharebuybacks,timingofcashflows.</li></ul></li><li>PretaxIncome+8.6<li>IncomeTaxExpense:(−100 %).<ul> <li>Apple likely repaid all debt; massive cash generation.</li> <li>Reasons mentioned: maintaining announced dividends, share buybacks, timing of cash flows.</li></ul></li> <li>Pretax Income +8.6 %.</li> <li>Income Tax Expense:16 B → 29 B(+≈70<li>Possiblelossofdepreciationshield,tax−lawchanges,orone−timeitems.</li></ul></li><li>EPS(+≈70 %).<ul> <li>Possible loss of depreciation shield, tax-law changes, or one-time items.</li></ul></li> <li>EPS6.13 → 6.08$$ (−0.8 %).
    • Despite EBIT growth, higher taxes diluted EPS.

Comparative Insight:

  • In growth terms, Microsoft strongly outperformed Apple (15.7 % vs 2 % revenue growth; 22 % vs −1 % EPS growth).
  • Apple’s zero interest cost & share buybacks illustrate different capital-allocation choices.

Analytical Frameworks Discussed

  1. Vertical Analysis (Common-Size)
    • Strength: Instant view of cost structure & profitability mix.
    • Use case: Year-on-year margin comparison; cross-company structural comparison.
  2. Horizontal Analysis (Trend)
    • Strength: Shows growth momentum in dollars & %; easier story-telling for investors.
    • Use case: Determine which firm is “growing faster,” spot line-item spikes.
  3. Practical Application in Class Assignment:
    • Identify items that got “better,” “worse,” or “better by a bunch.”
    • Decide, as if an owner, whether you would “pay more for that stock.”
    • Contrast Microsoft & Apple for same period.

Capital-Market Context & Anecdotes

  • All publicly known facts are “priced in.” Stock moves on change (Δ) not level.
  • Analyst routine:
    1. Dissect income statement, balance sheet, footnotes (lawsuits, EU fines, etc.).
    2. Read Management Discussion & Analysis (MD&A).
    3. Publish buy/hold/sell based on projected Δ in earnings & risk.
  • Example: Palantir (class mention)
    • Revenue +48 %; Earnings +78 % ⇒ share price up ≈8 % intraday.

Dividend & Buyback Mechanics (Apple Case Study)

  • Dividend declaration creates a liability; must be paid even if cash flow lags.
  • Buybacks (treasury-stock purchases):
    • Reduce share count ⇒ mechanically boost EPS.
    • Management uses buybacks when they believe intrinsic value > market price.
  • Short-term borrowing can bridge cash-flow timing gaps for either policy.

Ethical / Practical Considerations Mentioned

  • “Planned obsolescence” (e.g., battery degradation in devices, subscription upsells).
  • EU fines & governmental tariffs described as “extortion” from U.S. tech firms — flagged as risks.
  • Instructor legally cannot give direct investment advice; focus is educational.

Study Guidance & Course Logistics (Meta-Info)

  • Understand & be able to explain both vertical & horizontal analysis; state which you find more useful & why.
  • Upcoming schedule:
    • Time-Value-of-Money exercises.
    • Ch 10 (Long-Term Liabilities) → Ch 11 (Equity: Treasury Stock, etc.).
    • Extra-credit Ch 13 (Financial Analysis); worth “people on your whole semester grade.”
    • Final exam in ≈ 1 week; review sessions & practice exam available.