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"A Very Good Business"

07/09/21

Testifying before the US Congress in 2010, Warren Buffett made the following comment:

“Basically, the single most important decision in evaluating a business is pricing power. You’ve got the power to raise prices without losing business to a competitor, and you’ve got a very good business. And if you have to have a prayer session before raising the price by a tenth of a cent, then you got a terrible business. I’ve been in both, and I know the difference.”

Microsoft has been a top-three holding of the AIM Global High Conviction Fund for several years now and remains firmly entrenched there. There are numerous reasons for us having such high levels of conviction in the business, but among the highest was our belief that Microsoft possessed significant latent pricing power.

Looking across Microsoft’s suite of offerings, it has been clear to us for some time that the value their products and services provide their commercial clients has been increasing, while their prices have not kept pace. To our thinking, this was strategically shrewd, as adding new features and applications to the existing Office 365 and Microsoft 365 bundles meant that clients were continuously receiving greater functionality (and integrating it into their workflow) without being asked to dip into their pockets for the privilege.

The fact that Microsoft held off on increasing its prices for nearly a decade provided it with – in our opinion – a "hidden in plain sight" asset that would create value for its owners at some point in future. (It also revealed to us that management has its priorities straight: first, look after your customers and make sure you indisputably create a consumer surplus for them; if you are successful at that, the returns to equity owners should take care of itself over time!).

In August, Microsoft announced its first meaningful price increase for these bundles in many years:

The price increases mentioned above almost certainly reflect real pricing power and the strength of the underlying business franchise: a very good business, indeed.

Beyond the strength inherent to its own businesses, Microsoft remains exposed to several secular trends that we see as playing out over the next several years, of which higher incidences of remote working is but one.

Federal Reserve Chairman Powell, of all people, agrees. In response to a question on how the US economy would look different to the pre-pandemic economy asked at a recent (online) lecture to students, he commented:

“I think we know that we’re not simply going back to the economy we had before the pandemic, but it will take time to see exactly what the changes look like. […] It seems a near-certainty that there will be substantially more remote work going forward. So that’s going to change the nature of work, and the way work gets done.”

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