Microsoft Q3 Earnings Report: Generative AI Brings In New Customers
Wade Tyler Millward
‘Some of the work we’ve done in AI even in the last couple of quarters, we are now seeing conversations we never had,’ Microsoft CEO Satya Nadella told analysts Tuesday.
Despite generative artificial intelligence’s recent surge in popularity, Microsoft is already seeing new customers and new money-making opportunities – good news for early-adopter Microsoft partners.
“Some of the work we’ve done in AI even in the last couple of quarters, we are now seeing conversations we never had,” Microsoft CEO Satya Nadella told analysts on the company’s latest quarterly earnings call Tuesday. “Whether it’s coming through even just OpenAI’s APIs, right – if you think about the consumer tech companies … They have gone to OpenAI and are using their API (application programming interface). These are not customers of Azure at all.”
He continued: “Even Azure OpenAI API customers are all new. And the workload conversations, whether it’s B2C conversations in financial services, or drug discovery … these are all new workloads that we really were not in the game in the past, whereas we now are.”
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Microsoft Q3 2023 Results
Microsoft revenue appeared to defy a slowdown in new tech business experienced by multiple vendors as business buying behavior moderates compared to a boom in digital tools at the height of the pandemic.
Microsoft Chief Financial Officer Amy Hood credited partners with helping bring in revenue during the quarter.
“Our results exceeded expectations, driven by focused execution from our sales teams and partners,” she said.
Even with the excitement over generative AI tools such as text generator ChatGPT – created by Microsoft-backed OpenAI, Microsoft continues to experience customers optimizing their existing spend with the vendor before spending more money.
This new business slowdown has been a factor in mass layoffs from Microsoft and other vendors this year.
“Optimizations do continue – in fact, we are focused on it, we incent our people to help our customers with optimization because we believe, in the long run, that’s the best way to secure the loyalty and long-term contracts with customers when they know that they can count on a cloud provider like us to help them continuously optimize their workload,” Nadella said on Tuesday’s quarterly earnings call – which reported results for Microsoft’s third fiscal quarter, a quarter that ended March 31.
He continued: “We do have new workloads starting. Because if you think about it, during the pandemic, it was all about new workloads and scaling workloads. But pre-pandemic there was a balance between optimizations and new workloads. So what we’re seeing now is the new workloads start in addition to highly intense optimization.”
Product User Updates
Nadella had plenty of numbers for analysts around usage of various Microsoft tools.
Some of the highlights include:
*More than 10,000 organizations have signed up for GitHub Copilot since it was made available for business three months ago – including Coca-Cola, Duolingo and General Motors
*Teams surpassed 300 million monthly active users during the quarter
*About 60 percent of Teams enterprise customers come through Teams Phone, Teams Rooms or Premium
*Teams Rooms revenue more than doubled year over year
*Seventy-six percent of the Fortune 500 uses GitHub to build, ship and maintain software
*More than 36,000 organizations have used existing AI powered capabilities in Power Platform
*About 33 million monthly active users of Power Platform, up about 50 percent year over year
*OpenAI’s Dall-E image-creator has created more than 200 million images
*Bing has more than 100 million daily active users
*Daily installs of the Bing mobile application have grown four times since launch
*More than 15,000 Azure Arc customers, up more than 150 percent year over year
*About 720,000 organizations use Active Azure Directory, up 32 percent year over year
*About 600,000 customers have four or more security workloads, up 35 percent year over year
*Intelligent recap is “one of our fastest growing modern work products ever” with thousands of paid customers two months in
*More than 90 percent of the Fortune 500 are trialing or have deployed Windows 11
*More than a third of enterprise customers have purchased cloud-delivered Windows to date
Analysts Ask About Generative AI
When asked by an analyst on Tuesday’s call about monetizing the Copilot generative AI companion tool Microsoft has been integrating with popular applications, Nadella said that Microsoft plans “to monetize a separate set of meters across all of the tech stack, whether they’re consumption meters or per-user subscriptions.”
He pointed to Microsoft’s GitHub Copilot as an example of what to expect as Microsoft continues to roll out Copilot tools for applications including Viva, Word, Teams and Excel. Microsoft has also announced an upcoming Security Copilot offering.
GitHub Copilot costs $10 a month or $100 a year for individuals and $19 a user a month for businesses.
“Others are to be priced because they’re in preview mode,” Nadella said. “But you can expect us to do what we’ve done with GitHub Copilot pretty much across the board.”
In April, Microsoft started billing for GPT-4 in Azure OpenAI Service at the following prices:
*For GPT-4 8k context, the prompt cost is 3 cents per 1,000 tokens
*For GPT-4 8k context, completion is 6 cents per 1,000 tokens
*For GPT-4 32k context, the prompt is 6 cents per 1,000 tokens
*For GPT-4 32k context, completion is 12 cents per 1,000 tokens
Hood added that “you can expect that we will have a list price for those and you’ll be able to look at that as we get to release.”
When asked about the cost of compute for Microsoft when customers use generative AI, Nadella said that Microsoft is “very focused” on getting “very efficient in the usage of those resources.” Analysts should look to how Microsoft has worked on the cost of public cloud over time to see how it will become efficient with generative AI, Nadella said.
“If you think about sort of what a hyperscaler does, it’s not just rack and stack, sort of, hardware,” he said. “They use software to optimize the performance of a given workload – and in fact, heterogeneous workloads on a given set of hardware. … Even for a given generation of a large model, where we start in terms of the cost footprint to where we end in the cost footprint even in the period of a quarter changes.”
When asked about margins in the future, Hood told analysts that Microsoft has “energy and focus … on relative performance and share gains,” naming Edge and Bing as examples of products poised to take market share.
“We have the largest commercial cloud with increasing commitments by customers with new workloads, new TAM (total addressable market) opportunities that Satya is talking about, the customers,” Hood said. “And our focus is going to be – and will be – on continuing to take a growing share of that while we continue to focus on our customers’ success and getting a ton of value out of what we are selling.”
Nadella said that Microsoft will spend “in a disciplined way, but not being shy of investing where we need to invest in order to grab the long-term opportunity.”
When asked about potential regulation of generative AI, Nadella said that Microsoft is not waiting for government rules.
Instead, “we are taking an approach where the unintended consequences of any new technology is something that from day one we think about … and build into our engineering process all the safeguards,” Nadella said.
Microsoft put out AI principles as far back as 2016 and has a chief AI officer, for example, Nadella said.
“We feel really good in terms of us being able to create trust in the systems we put out there,” he said. “We will obviously engage with any regulation that comes up in any jurisdiction. But quite honestly, we think that the more there is a form of trust as a differentiated-off position in AI, I think we stand to gain from that.”
When asked about customer appetite for vendor and tool consolidation, Nadella said that the focus is on customers getting value out of Microsoft offerings and “we want to make sure that our services, as they are competitive, get used together” at the platform-, infrastructure- and software-as-a-service layers.
Hood added that Microsoft AI services have boosted business process automation options for customers.
“When people look and say, ‘What vendor has a lot of value and has the tools that we need – and in many instances already own – to be able to do this business process work, I think we have a great, great value and, frankly, probably leading tools in almost every vertical.”
Q3 Results In Detail
Microsoft saw $52.9 billion in revenue for the quarter, up 10 percent year over year ignoring foreign exchange. Microsoft Cloud brought in $28.5 billion, up 25 percent year over year ignoring foreign exchange.
Operating income was $22.4 billion, up 15 percent year over year. Net income was $18.3 billion year over year, up 14 percent.
Microsoft’s stock traded at about $299 a share Tuesday afternoon, up about 8 percent after market close.
The productivity and business processes segment – which includes Office Commercial, Office 365, Microsoft 365, LinkedIn and Dynamics – brought in $17.5 billion during the quarter, up 15 percent year over year.
Office Commercial products and cloud services revenue increased 17 percent, with O365 Commercial revenue growing 18 percent year over year. Paid O365 commercial seats grew 11 percent year over year to more than 382 million with installed base expansion across workloads and customer segments, Hood said.
Dynamics products and cloud services revenue grew 21 percent ignoring foreign exchange. Dynamics 365 grew 29 percent.
Microsoft’s Intelligent Cloud segment brought in $22.1 billion during the quarter, up 19 percent year over year. Server products and cloud services revenue increased 21 percent year over year. Azure and other cloud services revenue grew 31 percent year over year.
Enterprise Mobility + Security installed base grew 15 percent to about 250 million seats, Hood said.
Microsoft’s “more personal computing” segment – which includes revenue from Xbox, Windows original equipment manufacturers (OEMs), devices, Windows Commercial products and advertising revenue – shrank 7 percent ignoring foreign exchange, bringing in $13.3 billion during the quarter.
Windows OEM revenue shrank 28 percent year over year. Devices revenue shrank 26 percent. Windows Commercial products and cloud services revenue increased 18 percent year over year.