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Two of tech’s most storied companies—Microsoft and Google parent Alphabet—reported earnings on Tuesday that told different stories about each one’s cloud business, which some analysts consider a proxy for future AI profits. That’s because artificial intelligence will require large amounts of computing power that is generally available only through the cloud.
Since the launch of ChatGPT by newcomer OpenAI nearly a year ago, AI has been hailed as the next big revolution to come out of Silicon Valley. Yet how exactly that translates into a cash windfall is still hotly contested.
Alphabet, which is third in cloud computing market share behind Microsoft and Amazon, fell short of analyst expectations for cloud revenue, which sent Alphabet’s shares cratering 9%. Meanwhile, Microsoft’s shares soared 4% on Tuesday after it beat analyst expectations across the board. The stock swings saw Microsoft’s market cap soar by about $73 billion, while Google’s fell roughly $170 billion.
Microsoft did not respond to a reply for comment while Alphabet declined to comment, pointing Fortune to a transcript of Tuesday’s earnings call.
Microsoft outperformed expectations
Microsoft’s overall quarterly revenue was $56.5 billion, nearly $2 billion more than expected, according to an analyst survey from LSEG. Analysts were particularly impressed with the cloud unit, which accounts for 43% of the company’s overall revenue, and grew 19.4% compared to the same quarter last year. This part of Microsoft business includes the Azure cloud computing platform that’s used by corporate customers. Much of the segment’s growth has been attributed to Microsoft’s speedy integration of AI into its cloud computing services and across its entire tech stack.
“Over 50% of the Microsoft installed [customer] base will ultimately use the AI functionality for the enterprise/commercial landscape which represents a major monetization opportunity and we are now seeing this play out as we head into year-end,” wrote Dan Ives, the managing director at investment firm Wedbush.
A big portion of Microsoft’s advantage in AI comes from its partnership with OpenAI, in which it has invested an estimated $13 billion. Among the cloud products Microsoft offers is Azure OpenAI, a service that lets software developers integrate OpenAI models into their applications. It had 18,000 customers this year, up from 11,000 in July, Microsoft said. “Higher than expected AI consumption contributed to revenue growth in Azure,” Microsoft CFO Amy Hood said on Tuesday’s earnings call. Microsoft doesn’t disclose Azure revenue, which is a subset of the overall cloud segment.
During its investor call on Tuesday, Microsoft also said it has around 1 million paid subscribers to its GitHub CoPilot, which uses AI to help programmers write code. (Microsoft acquired GitHub for $7.5 billion in 2018 largely to bolster its suite of tools for businesses.) Those customers are “paying dearly for their subscriptions,” said Paul Meeks, a longtime tech investor and business professor at the Citadel, a military college in South Carolina. That “gave investors confidence that [Microsoft] can monetize AI. So it was a one-two-punch positive surprise here: incremental AI confidence and Azure outperformance/acceleration.”
On the earnings call, Microsoft CEO Satya Nadella attributed his company’s success to the widespread adoption of AI thus far. “We also have our AI services deployed in more regions than any other cloud provider,” Nadella said.
Google still lags in cloud, but has an advertising ace up its sleeve
Across its overall business, Google’s revenue grew 11% for the quarter to $76.9 billion, outpacing analyst expectations by just over $700 million.
Despite what seemed like strong numbers, Alphabet’s cloud business missed Wall Street forecasts. In that segment, revenue was $8.4 billion—up 22% from the third quarter of 2022—but short of the expected $8.6 billion. So far in 2023, the cloud segment is up 26% on $23.9 billion in revenue.
The worse than anticipated cloud results disappointed investors, who sent Alphabet’s stock tumbling 8.8%. Meeks said he was “surprised at how poorly the Google report was received,” and that it could be a buying opportunity for investors. Even turning a $1.7 billion loss in its cloud business through the third quarter of 2022 into an $852 million profit through the same time period of 2023 wasn’t enough to assuage investors who are skeptical of Google’s cloud performance.
“If you want this stock to keep going higher, you’ve got to have cloud become more profitable,” Lee Munson, the chief investment officer of Portfolio Wealth Advisors, told CNBC on Tuesday. “It’s a third-rate cloud platform. We need to see it make money.”
Alphabet chief financial officer Ruth Porat sought to differentiate the company’s business performance from Wall Street’s projections. “We feel good about where we’re sitting here and looking forward and we’ll let you do the forecasting,” Porat said in response to a question from Evercore ISI analyst Mark Mahaney about whether Alphabet may have missed business trends in the cloud market.
Some analysts preferred to instead focus on Google’s ad business, which accounted for 78% of the company’s revenue through the third quarter of 2023. Ad sales grew 4% over that same time period. One highlight was the growth in TikTok competitor YouTube Shorts, which Alphabet CEO Sundar Pichai said had 70 billion daily views, an increase of nearly 20 billion from the start of this year.
Ives, the analyst, was upbeat about Google despite the slower-than-expected growth in its cloud business, saying holding Alphabet stock for its cloud business is missing the point. “Owning Alphabet for its Cloud business is like rooting for Michael Jordan to play baseball,” he wrote in an analyst note.
