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Investment-02-Stocks-04-Weighted Score Calculation-02-Business Model and Diversification Analysis

🔎 Intro

This post is a part of the series on Weighted Score Calculation for individual stock analysis. We will continue the calculation of th weighted scores for Business Model and Diversification Analysis.

🔢 Content Extracted from the Report

Refer to the corresponding section in the report for the related content used for the calculation.

🧮 Calculation for Business Model and Diversification

Core Business Segments (Weight: 40%)

Metrics and Weights:
Productivity and Business Processess (Weight: 10%)

  • Office 365: Growth rate and user base (Weight: 4%)
  • LinkedIn: Revenue growth and engagement (Weight: 3%)
  • Dynamics 365: Marke share and growth (Weight: 3%)

Intelligent Cloud (Weight: 20%)

  • Azure: Growth rate and market share (Weight: 12%)
  • Windows Server and SQL Server: Revenue stability and growth (Weight: 4%)
  • Enterprise Services: Complementary revenue (Weight: 4%)

Personal Computing (Weight: 10%)

  • Windows: Revenue from OEM licensing and enterprise (Weight: 3%)
  • Surface Devices: Revenue growth and market share (Weight: 2%)
  • Gaming (Xbox): Revenue from consoles, games, subscriptions (Weight: 4%)
  • Search (Bing): Ad revenue (Weight: 1%)

Normalized Scores:
Productivity and Business Processess:

  • Office 365 (growth rate of 20% and benchmark of 18%): 20/18 = 1.11
  • LinkedIn (strong performance with 15% revenue growth and benchmark of 12%): 15/12 = 1.25
  • Dynamics 365 (competing well with 12% market share growth and benchmark of 10%): 12/10 = 1.2

Intelligent Cloud:

  • Azure (leading with 40% growth and benchmark of 35%): 40/35 = 1.14
  • Windows Server and SQL Server (stable revenue with 5% growth): 5/5 = 1
  • Enterprise Services (complementary revenue with 5% growth): 5/5 = 1

Personal Computing:

  • Windows (revenue from OEM licensing and enterprise with 5% growth and benchmark of 4%): 5/4 = 1.25
  • Surface Devices (strong growth with 10% revenue growth and benchmark of 8%): 10/8 = 1.25
  • Gaming (Xbox) (revenue from consoles, games, subscriptions with 15% growth and benchmark of 12%): 15/12 = 1.25
  • Search (Bing) (ad revenue with 2% growth): 2/2 = 1

Weighted Scores:

  • Productivity and Business Processess: 1.110.04 + 1.250.03 + 1.2*0.03 = 0.0444 + 0.0375 + 0.036 = 0.1179
  • Intelligent Cloud: 1.140.12 + 10.04 + 1*0.04 = 0.1368 + 0.04 + 0.04 = 0.2168
  • Personal Computing: 1.250.03 + 1.250.02 + 1.250.04 + 10.01 = 0.0375 + 0.025 + 0.05 + 0.01 = 0.1225
  • Total Core Business Segments Score: 0.1179 + 0.2168 + 0.1225 = 0.4572

Diversification and Risk Mitigation (Weight: 25%)

Metrics and Weights:

  • Revenue Streams (Weight: 10%)
  • Global Reach (Weight: 10%)
  • Customer Base (Weight: 5%)

Normalized Scores:

  • Revenue Streams (diversified revenue streams with 60% from cloud services, hardware, advertise): 0.65 * 0.1 = 0.065
  • Global Reach (presence in over 190 countries): (1.27 + 00.86)*0.1 = 0.213
  • Customer Base (large enterprise and consumer base): (0.94 + 1.25)*0.05 = 0.1095

Weighted Scores:

  • Divesification and Risk Mitigation: 0.065 + 0.213 + 0.1095 = 0.3875

Strategic Acquisitions (Weight: 20%)

Metrics and Weights:

  • LinkedIn Acquisition (Weight: 5%)
  • GitHub Acquisition (Weight: 5%)
  • Nuance Acquisition (Weight: 5%)
  • Activision Blizzard Acquisition (Weight: 5%)

Normalized Scores:

  • LinkedIn Acquisition (successful integration and growth): (1.50.5 + 1.20.5)*0.05 = 0.0675
  • GitHub Acquisition (leading platform for developers): 0.0675
  • Nuance Acquisition (expanding healthcare AI solutions): 0.0675
  • Activision Blizzard Acquisition (leading gaming company): 0.0675

Weighted Scores:

  • Strategic Acquisitions: 0.0675*4 = 0.27

Innovation and R&D (Weight: 15%)

Metrics and Weights:

  • R&D Investment (Weight: 10%)
  • Product Innovation (Weight: 5%)

Normalized Scores:

  • R&D Investment (significant investment in R&D with $25 annually): 25/22 = 1.14
  • Product Innovation (innovative products and services): (1.5 + 1.2) = 2.7

Weighted Scores:

  • Innovation and R&D: 1.140.1 + 2.70.05 = 0.249

Total Business Model and Diversification Score:

  • Total Business Model and Diversification Score: 0.45720.4 + 0.19580.25 + 0.270.2 + 0.1640.15 = 0.31043

⚠️ About the Calculatin of “Diversification and Risk Mitigation”, “Strategic Acquisitions”, and “Innovation and R&D”

Those three sections are harder to assess and score, as they require a deeper understanding of the company’s strategic decisions, market positioning, and future growth prospects. Below is a simple walkthrough of a quantifiable way to evaluate these aspects which hopefully enables a more objective and comprehensive, data-driven investment analysis.

⚠️ Diversification and Risk Mitigation (Weight: 25%):

Revenue Streams (Weight: 10%):

Metrics and Weights:

  • Revenue Streams (Weight: 10%)
  • Global Reach (Weight: 10%)
  • Customer Base (Weight: 5%)

Quantification:

  • Diversity of Revenue Streams: Measure the proportion of revenue coming from different segments (e.g., cloud services, hardware, advertising) and compare it to industry benchmarks.
  • Revenue Stability: Analyze the standard deviation of revenue growth across segments.

Calculation

  • Calculate the revenue percentage from each segment.
  • Use a diversification index such as the Herfindahl-Hirschman Index (HHI) for revenue concentration:
    $$
    \text{HHI} = \sum_{i=1}^{n} s_i^2
    $$
    where $s_i$ is the revenue share of segment $i$.
    Normalized score: $HHI_{normalized} = \frac{HHI-1/n}{HHI_{max}-1/n}$

Example

Segment Revenue Share (%)
Software 40
Cloud 35
Hardware 15
Ads 10

Calculate the HHI:

  • HHI = 0.4^2 + 0.35^2 + 0.15^2 + 0.1^2 = 0.16 + 0.1225 + 0.0225 + 0.01 = 0.315
  • HHI_normalized = (0.315-0.25)/(0.4-0.25) = 0.65

Weighted Score
0.65*0.1 = 0.065

Global Reach (Weight: 10%)

Quantification:

  • Number of Countries Operated In: Use a simple count of countries.
  • Revenue Distribution by Region: Calculate the percentage of revenue from each region (Americas, EMEA, APAC, etc.).
  • Economic and Political Stability of Regions: Use indices like the Global Risk Index or similar metrics.

Calculation

  • Normalize each component.
  • Average the normalized scores for a composite score

Example

  • Assume operatios in 190 countries with benchmark 150: Normalized score = 190/150 = 1.27
  • Assume revenue distribution of 50% Americas, 30% EMEA, 20% APAC: Normalized score = 0.51 + 0.30.8 + 0.2*0.6 = 0.5 + 0.24 + 0.12 = 0.86

Weighted Score
(1.27 + 0.86)*0.1 = 0.213

Customer Base (Weight: 5%)

Quantification:

  • Customer Segments: Measure diversity across consumer, enterprise, government.
  • Customer Count and Growth: Number of customers and annua growth rate.

Calculation

  • Normalize customer segment distribution.
  • calculate customer growth normalized score to benchmark.

Example

  • Assume 60% consumer, 30% enterprise, 10% government with benchmark 50% consumer, 40% enterprise, 10% government: Normalized score = 0.61 + 0.30.8 + 0.1*1 = 0.6 + 0.24 + 0.1 = 0.94
  • Assume customer growth rate of 10% with benchmark 8%: Normalized score = 10/8 = 1.25

Weighted Score
(0.94 + 1.25)*0.05 = 0.1095

Total Score for Diversity and Risk Mitigation:
0.065 + 0.213 + 0.1095 = 0.3875

⚠️ Strategic Acquisitions (Weight: 20%):

Metrics and Weights:

  • LinkedIn Acquisition (Weight: 5%)
  • GitHub Acquisition (Weight: 5%)
  • Nuance Acquisition (Weight: 5%)
  • Activision Blizzard Acquisition (Weight: 5%)

Quantification:

Quantitative Measures:

  • Revenue Contribution: Revenue from acquired company as a percentage of total revenue.
  • Synergies Realized: Cost savings or revenue enhancements from the acquisition.
  • Integration Success: Employee retention, customer satisfaction, and operational efficiency post-acquisition.

Qualitative Measures:

  • Strategic Fit: Alignment with the company’s core business and long-term goals.
  • Market Impact: Competitive advantage, market share growth, and new market penetration.

Calculation:

Linkedin

  • Normalized score: 15/10 = 1.5 (Revenue Contribution: 15% of total revenue, benchmark 10%)
  • Integration and strategic fit score from analysts: 1.2
  • Weighted score: (1.50.5 + 1.20.5)*0.05 = 0.0675

Repeat the process for each acquisition and sum the weighted scores. Here we assume the impact of each is the same as 0.0675

Total Score for Strategic Acquisitions:
0.0675*4 = 0.27

⚠️ Innovation and R&D (Weight: 15%):

Metrics and Weights:

  • R&D Investment (Weight: 10%)
  • Product Innovation (Weight: 5%)

Investment in R&D (Weight: 10%):

Quantification:

  • R&D Expenditure: Measure annual R&D spending relative to revenue.
  • R&D Intensity: R&D spending as a percentage of total revenue.

Calculation:

  • Microsoft spends $25 billion annually on R&D with benchmark $22 billion.
  • Normalized score: 25/22 = 1.14
  • Weighted score: 1.14*0.1 = 0.114

Product Innovation (Weight: 5%):

Quantification:

  • Frequency of New products: Count the number of new products or updates.
  • Success of Innovations: Measure the impact of new products on revenue.

Calculation:

  • Assume Microsoft launches significant updates 3 times a year.
  • Normalized score: 3/2 = 1.5
  • Assume success rate is high with a score of 1.2
  • Weighted score: (1.5 + 1.2)*0.05 = 0.135

Total Score for Innovation and R&D:
0.114 + 0.135 = 0.249

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