Microsoft Seeks a Break in the Cloud – Wall Street Journal

Updated May 5, 2015 4:18 p.m. ET

Investors are willing to pay a lot for exposure to the cloud these days. That has helped Microsoft, MSFT -1.33 % although it could eventually saddle the company with its own big bill.

Microsoft's share price has made significant gains over the past month, as the company has shared more details about its cloud business. Fiscal third-quarter results showed its commercial cloud business was generating about $ 6.3 billion a year in revenue. At a developers' conference last week, Microsoft also disclosed plans to grow that business to about $ 20 billion in revenue by 2018.

But those ambitions could become costly, as the company scrambles to keep up with rivals. That point was driven home Tuesday as Bloomberg reported Microsoft was considering a possible bid for Salesforce.com. CRM 1.61 %

As the largest pure-play cloud company, Salesforce has reportedly attracted interest from other parties. But such a deal would come at a big price; Salesforce has a market cap just under $ 47 billion—nearly three-quarters of Microsoft's net cash on hand.

Even without such a major move, Microsoft's cloud plans are an ambitious goal for a company that still derives a big chunk of its business from the flatlined personal computer market. And Microsoft isn't the only big software company attempting such a pivot.

Oracle ORCL -1.50 % and Adobe are also aggressively shifting their businesses to a cloud model. Microsoft, too, is competing directly with similar offerings from Amazon AMZN -0.44 % and Google. GOOGL -1.77 % Amazon has enjoyed its own recent run-up following more disclosures on its fast-growing cloud business.

While Microsoft's ambitions are achievable, they aren't assured. With the stock near a 15-year high, it is clear that investors are buying into the company's vision for the cloud. Whether they are paying too much—or getting a relative steal—is a matter of perspective.

Microsoft now trades near 18 times forward earnings—a five-year high, according to FactSet. That also is more than 50% above the stock's average multiple in that time. This makes the stock look expensive, especially since it is at the front end of a major transition that is anything but risk free.

The flip side is that Microsoft actually remains one of the least expensive ways for investors to gain exposure to a major cloud business. Salesforce trades at just under 100 times forward earnings—a price inflated by the recent takeout rumors. Meanwhile, Amazon investors are currently paying about 380 times forward earnings, partly for exposure to that company's cloud business.

Or consider Microsoft against much smaller, fast-growing cloud firms such as Workday WDAY -0.74 % or NetSuite. N 2.93 % Still losing money, Workday trades at nearly 14 times forward sales, while NetSuite is a little more than nine times. Microsoft trades at about four times forward sales.

Most cloud valuations are highly aspirational—a bet these companies eventually will start churning out healthy profits. Microsoft already does so, thanks to its legacy Windows and Office businesses. Although those are yesterday's hits, investors can see Microsoft is determined to transition from those cash cows to a new model.

While rumors about a run at Salesforce may cloud things a bit, Microsoft has shown better visibility is worth something.

(This article has been updated to reflect reports that Microsoft has considered a bid for Salesforce.com)