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Key Points
Lee and Doug discuss the recent disappointment surrounding Microsoft's (Nasdaq: MSFT) performance, particularly in its cloud business, Azure, which failed to meet expectations, leading to concerns about the company's growth prospects. They explore how Microsoft's significant investment in AI, including its partnership with OpenAI, has yet to deliver tangible results, raising questions about the near-term payoff of AI for shareholders. The conversation touches on the broader industry trend of heavy AI spending with uncertain returns, suggesting that investors may start to lose patience if significant progress isn't demonstrated soon. They plan to revisit Microsoft's performance after the next earnings report to assess any improvements.
https://videos.247wallst.com/247wallst.com/2024/08/Microsofts-AI-Dreams-Are-Vanishing-1.mp4
Transcript:
Microsoft disappointed Wall Street.
Interesting, the stock hasn't done that well in the last few months, even though they are considered or were for a little while, the leader in the AI space when it came to the big tech guys.
Yeah, so earnings come out.
You know, okay, okay, okay.
But Azure, that's basically their cloud-based business, that disappointed.
It came in below expectations and that's what killed the stock.
Yeah.
And the forward guidance for their cloud business was lower than expected as well.
I mean, the numbers on the top and bottom lines, you know, I think exceeded estimates in a good manner, but that wasn't enough because they're really digging in to see like, oh, okay, but where's the growth?
Where's the growth?
And Azure has been the growth for the last five years, but like we've discussed before, for years, and I wrote about this five years ago for us, they would discount big accounts, heavy discounts to bring in the business to keep them from AWS.
And they've probably gotten to the point now where, you know, their costs are such that they can't offer those huge discounts anymore and AWS being the monster can just say, oh, there's a small discount, we'll match that.
Yeah, I think that that's another thing people don't look at carefully enough is Microsoft is famous for being in the cloud business, but they're not number one.
They're second, sort of well behind Amazon's AWS.
And it's a very, even, you know, crummy companies like IBM are in this business.
So it's a business that is fragmented.
And again, I think that you're right.
I think investors looked at this and they said, OK, are they having a growth problem?
Are they having a discounting problem?
Are they having a margin problem?
It almost doesn't matter.
They're having a problem.
Yeah, and they have nothing to show for their investment in ChatGPT, really.
After the initial buzz wore off, it was like, OK, so you were smart to invest in these guys and you put $10 billion in and all that.
Now what?
That also goes to a broader problem that people are worried about in earnings, not just this go-around, but third, fourth quarter is the amount of money that you see going into AI.
You've seen it in Meta, you've seen it in all the big tech people.
You look and say, how much do they spend on AI?
And it's billions of dollars.
There is an argument that the payoff for that is one, two, or three years away.
So if you're a shareholder in Microsoft, and to some extent these other companies, this anticipation, which is that there is a very, very near-term payoff for AI, could be wrong.
Yeah, and also the size and the scope of the payoff may be less than people anticipate.
Because again, if it gets super competitive, once again, prices will be squeezed as margins get squeezed.
And then if it becomes a commodity, which it will at some juncture, unless there's something that really changes the whole outlook for AI, that could be the case.
It could be a three-year payoff, maybe a five-year payoff.
And as you're pointing out, as soon as something becomes a horse race, people have to do something to have an edge.
With AI right now, it doesn't appear that anybody has a huge edge.
And in most businesses that are fragmented, that means discounts.
So you put a lot of money in upfront for this, a lot, because you want it to be viewed as a leader.
As you go out over time and there's some adoption, you want the adoption market share to go to you.
So what do you do?
You cut prices.
Right, right.
And again, like we've discussed with other companies, how does Microsoft ever integrate the AI into their cash cow, their software business or something like that?
I mean, until they can come out and say, hey, look, we've got this integrated into Windows 25 and it's great and this is what it does.
And people said, oh, I really have to have that suite that is now the operating system from their software.
I mean, until that's a functional part of their software, I don't know what else they're going to do with it in the short term.
No, because when people look at Microsoft, they think it's a monolith, but it is actually a collection, a huge collection of software with gaming and their Surface or whatever it's called, a little bit of hardware.
But you're right.
For this to work, they've got to be able to take a large number of products, put AI in those, and then prove to the marketplace that putting them in made an improvement in revenue.
Yeah, and give people a reason to say, okay, I will step up to the new round.
And if it's reasonably priced for the whole suite of Outlook and all that, and say it's $350 or $400 or whatever, or even $500 with an AI component, that would probably bring some interest to people that want to upgrade.
I'm not going to hold my breath.
Nor I.
So we're a quarter out from the next set of Microsoft earnings.
People will be watching their cloud business carefully to see if there's a disappointing repeat of Q2.
But I also think that we're now going to see among all these big tech companies, people are going to say, is there any major return on the AI investment?
And I think if people are disappointed about that next quarter, you're going to start to see some sell-offs.
It's like, okay, guys, you've been at this now for almost a year.
Prove to me as an investor that it was a wise decision.
Yeah, right.
I couldn't agree more.
And it's not that they don't know that.
We don't know things that they don't know.
But doing things at a large corporation like Microsoft where there is profound change, it's like turning around the Titanic.
You just can't do it overnight because it requires so much of your infrastructure that, you know, granted, they probably start the minute they made their investment.
They probably started working on ways to, you know, implement it.
But so far, what?
Nothing.
All right.
So we'll be back when Microsoft announces the next time around.
OK, let's come back and look at it then.
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