Microsoft is expected to hit a new high for the year, with AI contributing 1% to revenue growth.

Source: CITIC Securities

Microsoft's first-quarter performance exceeded expectations. Despite macro headwinds, Microsoft's performance in this quarter still exceeded market expectations, thanks to the recovery of Azure demand and the gradual introduction of AI products. At the same time, the subsequent guidance on Azure and AI has dispelled market concerns about short-term fundamentals.

In pre-market trading, Microsoft surged nearly 8% to $297, leading the tech giants, and is expected to hit a new high for the year at the opening.

Azure outlook stabilizes, AI expected to be gradually introduced next quarter

In this quarter, Microsoft's intelligent cloud achieved revenue of $22.1 billion (+19% cc, higher than the previous guidance midline), of which Azure increased by +31% cc year-on-year, higher than market expectations, and server business increased by +2% cc year-on-year, in line with expectations.

Enterprise service revenue increased by +9% cc, mainly due to the decline in consulting business. From the perspective of Azure, the company expects Azure's year-on-year growth rate to be 26% to 27%, driven by the recovery of Azure consumption business, and the trend in the third quarter is expected to continue into the fourth quarter, demonstrating the strong resilience of European and American enterprise IT spending.

CITIC Securities believes that Azure's long-term resilience is still outstanding, and Azure continues to maintain good linkage with Microsoft 365, Teams, and other products. After inventory digestion, with the increase in usage, the long-term growth of Azure is still worth paying attention to.

Currently, Microsoft's cloud has $196 billion in hand commercial orders, and the subsequent reserves are still sufficient. In addition, Microsoft stated in its Azure guidance that AI will contribute approximately 1% of revenue growth, showing positive progress in the AI business.

The inflection point of fundamentals is approaching

The complex and changing macro environment currently suppresses enterprise IT spending, putting short-term pressure on Microsoft's cloud, PC, and other businesses.

However, Microsoft's performance this time shows the company's resilience in the macro headwinds and the bottoming out of European and American enterprise IT spending.

The above headwinds are likely to improve after CY3Q23, and market expectations are also likely to be close to the bottom. In addition, Microsoft further laid out advanced AI products such as OpenAI on the intelligent cloud, strengthening the company's full-stack capabilities.

Microsoft now has more than 2,500 OpenAI service customers, a 10-fold increase month-on-month, and the daily installation volume of Bing mobile applications has increased four times, with an increase in market share. The usage rate of Teams has reached a historical high, and the monthly active users in this quarter exceeded 300 million.

In terms of profitability, with the company's cost reduction and efficiency improvement effects becoming apparent and the continuous promotion of mergers and acquisitions integration, profitability is expected to gradually improve in the long term. Looking at the whole year, Microsoft's guidance for FY23 is expected to achieve double-digit growth after deducting the exchange rate impact. For FY24, the company will continue to maintain its investment in the AI field and ensure its leading position.

Investment Recommendation

The first quarter report showed Microsoft's strong resilience in the macroeconomic headwinds, and the subsequent outlook dispelled market concerns about the company's short-term performance.

Driven by the subsequent shift in Fed policy and the continued improvement in the company's fundamentals, the company's long-term investment value remains prominent.

Considering Microsoft's performance guidance, profit forecasts have been raised.

It is expected that Microsoft's revenue for FY2023-FY2025 will be USD 211.5/244.7/277.8 billion (previously predicted to be USD 208.1/234.4/261.2 billion), and net profit will be USD 72.2/85.5/98.3 billion (previously predicted to be USD 70.1/79.8/89.0 billion).

We continue to be optimistic about Microsoft's future stock performance and recommend focusing on opportunities for the Fed's policy shift and the reversal of the company's fundamentals after the economy stabilizes.