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According to a leaked Google document, Wall Street is overly optimistic about Microsoft’s Azure business.
Azure had an operating loss of roughly $3 billion in fiscal 2022, according to Google.
The operating profit for Azure is 30%, according to Derrick Wood, an analyst at Cowen.
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The company has played catch-up in the cloud infrastructure market for years, coming in third behind Amazon in the U.S.
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Cloud infrastructure metrics aren’t easily comparable between the three companies, which presents a challenge for investors.
Based on a leaked Microsoft document and some extrapolation of other market statistics, Google employees believe it’s closer to second than analysts believe.
According to the document, Microsoft generated under $29 billion in Azure consumption revenue in the latest fiscal year, which ended June 30, reflecting the value of cloud infrastructure services used by clients. There were several billion dollar reductions from Wall Street’s forecasts. Bank of America predicted Azure would generate $37.5 billion in fiscal 2022, Cowen $33.9 billion, and UBS $32.3 billion.
Almost $3 billion is the estimated operating loss for Azure in the 2022 fiscal year, down from more than $5 billion last year. Microsoft says Azure’s sales and marketing costs were close to $10 billion, accounting for 34% of consumption revenue. In the same period, the company’s sales and marketing costs accounted for 11% of revenue.
The bottom-line tally of Google was dismissed by one analyst.
Analyst Derrick Wood, who has a buy rating on Microsoft stock at Cowen, said Azure’s operating margin is higher than Google’s estimate of -10%.
Cloud computing represents one of the most high-stakes battles in technology, as the biggest and most well-capitalized U.S. technology companies try to win lucrative deals from large enterprises and government agencies, which are increasingly pushing critical computing and storage needs out of their own data centers.
In a bid to prevent Amazon Web Services from dominating the market the e-commerce company pioneered in 2006, Google and Microsoft have been investing heavily.
It does not provide a dollar figure, nor does it specify how much of the growth comes from Azure alone. Microsoft provides year-over-year growth for Azure and other cloud services, but does not give a dollar figure. In addition to Azure and other cloud services, enterprise mobility and security tools can also be sold separately.
In contrast, Alphabet does not disclose the amount of revenue or operating income its Google Cloud Platform generates. Those figures are only released for Google Cloud, which includes subscriptions to Google Workspace collaboration software, as well as Google Cloud Platform, which competes directly with Azure.
As one of three companies, Amazon reports both revenue and operating income for AWS, giving investors the clearest picture of its cloud business. AWS’s operating margin in the third quarter was 26%, while Google’s cloud group reported an operating margin of 10%.
Microsoft has never disclosed gross profit or operating profit for the Azure division. CEO Satya Nadella said in 2019 that “higher-level services” beyond raw computing and storage resources can lead to good margins.
AWS controlled 39% of the global cloud infrastructure market in 2021, followed by Microsoft at 21%, Alibaba at 9.5%, and Google at 7.1%.
Google and Microsoft declined to comment.
Estimates derived by Google
A leaked Microsoft presentation from the past few years, which included Azure consumption revenue, or ACR, for its U.S. enterprise business, prompted Google to conduct the analysis, according to Google’s document. As a result of the leaked presentation, Google was able to model Azure and other cloud services more accurately, and Google’s calculations indicate that ACR is the main revenue source.
As a result of the leaked ACR information, Google made a number of assumptions. It estimated ACR abroad using Microsoft’s statement that 51% of revenue in fiscal 2022 would come from U.S. customers. According to market data from Gartner and other sources, Google also added revenue from other segments, including the public sector and regulated industries.
According to an Insider report, Microsoft’s Cloud and Artificial Intelligence organization has over 60,000 employees, so Google assumed 65,000 people are dedicated to Azure or work primarily on it.
According to Google, Microsoft’s ACR would be 40% the size of Amazon’s AWS business and 27% the size of Google’s cloud service.
Google’s document says that analysts include revenue allocations from EMS and Power BI, both of which are highly profitable SaaS businesses with gross margins above 80%. These allocations should be removed for a realistic analysis of Azure’s profitability.
According to Google, Microsoft’s ACR growth slowed from 61% in the 2020 fiscal year to about 50% in the 2022 fiscal year. That’s faster than Azure’s growth, which went from 56% to 45% over the same period.
In fiscal 2022, Google projected Azure’s gross profit to grow from below 29% in fiscal 2019 to almost 63% after accounting for cost of goods sold. Azure’s gross margin has been expanded thanks to hardware and software efficiencies, according to Microsoft’s CFO Amy Hood.
Cloud computing would be less profitable than Microsoft’s Windows and Office software franchises. Microsoft’s total gross margin was 68% in fiscal year 2022.
The three U.S. market leaders do not disclose their cloud group’s gross margins.
In the current fiscal year 2023, Cowen expects Azure and other cloud services to make up 27% of Microsoft’s revenue.
“It would be helpful to have a more specific disclosure on that,” Wood said.
