Does Moody’s Stock Present A Buying Opportunity?

Moody’s (NYSE:MCO) stock plummeted in after-hours trading Tuesday and into Wednesday, with the market reacting to its fourth quarter earnings and 2024 outlook that were not up to consensus expectations. As a result, the stock was down about 9% from $402 per share at Tuesday’s close, to roughly $364 per share in early trading on Wednesday.

While the firm missed estimates, the question is: Was the massive sell-off justified? And does it present a buying opportunity? Let’s take a closer look.

A favorite of Buffett’s

Moody’s is the leading credit ratings agency in the U.S., along with Standard & Poor’s (NYSE:SPGI), in a space where there are a handful of competitors. So, the first thing to understand about this company is the fact that it is a huge fish in a small pond. It also has a protective moat as a market leader in an industry that is very hard to gain entry into.

Beyond that, it has a secondary business, Moody’s Analytics, which is only secondary, perhaps, in stature, because it actually delivers as much or more revenue than the credit ratings business, called Moody’s Investors Service. And the analytics business, which provides market intelligence and data for institutional investors, tends to balance out Moody’s Investors Service, typically performing well when markets are down and credit issuance is lower.

It is a business that Warren Buffett certainly likes, as Moody’s has been in the Berkshire Hathaway (NYSE:BRK.A) (NYSE:BRK.B) portfolio since 2000 and is one of its largest holdings.

So, as Buffett could probably attest, this is a stock that’s built for the long-term, which puts its fourth quarter earnings in perspective.

Yes, earnings did miss estimates, as did revenue, but they were still both up year-over-year. Revenue was up 15% in the quarter to $1.5 billion, with Moody’s Analytics generating $796 million, an 11% increase, and Moody’s Investors Service making $684 million, up 19%. Also, net income was up 38% to $340 million, or $1.86 per share, in the quarter, with operating expenses roughly flat.

Moody’s has always enjoyed high operating margins because of its strong cash flow and relatively low expenses. In the fourth quarter, the operating margin was 33.6%, up from 23.7% in the fourth quarter of 2022. For the full year, the operating margin was 36.1%.

At year-end, Moody’s saw its free cash flow increase to $1.9 billion, from $1.2 billion at the end of 2022. It allowed Moody’s to raise its dividend by 10% to 85 cents per share. This would be the 15th consecutive year of dividend raises for Moody’s if the payout holds at this level throughout the year.

Sell-off could create opportunity

Moody’s outlook for 2024 may have also caused Wednesday’s sell-off, but I don’t see it as too alarming. In fact, the sell-off just brings down the valuation into a better buy range.

While the outlook for 2024 may have been below expectations, the numbers appear solid. Revenue is projected to grow in the mid- to high-single digit range for the year, which is essentially on par with 2023’s 8% revenue increase. Diluted earnings per share is projected to be in a range between $9.45 per share and $10.20 per share, which would be an 8% to 17% increase over 2023 – comparable to last year’s growth on the high end. Further, operating margin would tick up to 37% to 39%, up from 36.1% in 2023, while free cash flow is projected at $1.9 billion to $2.1 billion, roughly in line with $1.9 billion in 2023.

The one area of increase that may have concerned investors was operating expenses, which are anticipated to increase in the mid- to high-single digit range, potentially up from last year’s 5% rise.

The earnings and outlook aren’t anything to be too concerned about. Wall Street analysts set a consensus price target of $407 on the stock, so it is expected to have another solid year. Ultimately, the sell-off may create a buying opportunity for some, as the price-to-earnings (P/E) is still a bit high at 44. This is a stock that’s built for the long haul, so the drop might create a nice entry point for some investors.