Author: Zhou Yuan/Wall Street News

Microsoft released financial results for the second quarter of fiscal year 2025 (July 2024 to June 2025) (October 1, 2024 to December 30, 2024) after the US stock market on January 30, Beijing time.

Overall, Microsoft's revenue and operating net profit for the quarter exceeded expectations, but although the year-on-year growth rate of Microsoft's core business “Azure Cloud Service” revenue reached 31%, it failed to achieve a higher growth rate, falling 2 percentage points from month to month. This is the third consecutive quarter in which year-on-year growth has slowed.

According to the report, Microsoft achieved revenue of 69.63 billion US dollars in the second quarter of fiscal year 2025, up 12.3% year on year, slightly higher than market expectations, but the growth rate hit a record low since mid-2023; achieved overall operating profit of 31.7 billion US dollars, higher than the expected 30.1 billion US dollars; and achieved net profit of 24.108 billion US dollars, an increase of 10% year on year.

During the quarter, revenue from Microsoft's smart cloud business (including Azure cloud computing) was 25.54 billion dollars, up 19% year over year, but fell short of market expectations of 25.83 billion dollars; revenue from Azure and other cloud services increased 31% (Microsoft did not disclose the segment's dollar revenue), which slowed from 33% in the previous quarter, but still fell short of 31.9% and 31.1% expected by StreetAccount and CNBC.

Meanwhile, revenue from Azure and other cloud services fell short of expectations in the third fiscal quarter and failed to meet the year-on-year increase in the 33%-34% range expected by analysts.

The three-quarter guidance range given by Microsoft Executive Vice President and CFO Amy Hood (Amy Hood) is a year-on-year increase of 31% to 32%, which is the same as the current quarter.

This is still the range of growth achieved after Microsoft solved implementation challenges and faced production capacity restrictions. If Microsoft does not solve these two problems as expected or is repeated, the 31% to 32% year-on-year increase in the third quarter may not be achieved.

As the core of Microsoft's business, both Azure and other cloud service revenue performance in the second quarter and performance guidance for the next quarter fell short of expectations, causing the market's “vision” of ending three consecutive fiscal quarters of slowing performance in this business segment to fall short.

“We are still facing limited production capacity in the third fiscal quarter. This involves two key factors: space, which I usually call long-term assets, that is, infrastructure and site; and equipment components.” Hood said during the earnings call, “By the end of this year, we will be closer to a state of balanced production capacity.”

Affected by this factor, Microsoft's stock price fell sharply by more than 6% (6.18%) after the earnings report was released until the US stock market closed.

Financial reports show that of the 31% year-on-year revenue increase in Azure and other cloud service revenue, 13% of revenue came from AI-related businesses, which continued to increase slightly by 1 percentage point from month to month; however, the revenue contribution of traditional non-AI cloud businesses declined 3 percentage points month-on-month, making it the third consecutive quarter of decline and increase.

This shows that the traditional non-AI cloud business expenses of enterprises are being reduced, while the contribution of AI-related businesses to Azure and other cloud service revenue is increasing and is crowding out the space for traditional non-AI cloud services; the relatively good performance of AI-related businesses is stock, and the demand for Microsoft's services is not growing.

Microsoft management confirmed the speculation during the earnings call: “The balance between customer AI workloads and traditional cloud service spending has caused the company (Azure and other cloud service revenue) to grow less than expected (one reason), and this impact will continue until next quarter.”

Dragged down by the increase in revenue from Azure and other cloud services during the quarter, the smart cloud sector's revenue growth forecast for the third quarter was 17.7%, and the growth rate continued to decline.

In numerical terms, the absolute revenue growth of Azure and other cloud services in the current quarter and next quarter was not small, but apparently the market expected extremely high “top students”; fortunately, Microsoft's performance highlights during the quarter were also impressive, such as the productivity and business process departments (including Office productivity software subscriptions and LinkedIn, which mainly involved advertising).

This revenue achieved $29.44 billion during the quarter, up 13.9% year over year, above StreetAccount's forecast of $28.89 billion.

Productivity and business processes can be split into two parts — productivity business, including enterprise M365 business; and business process services. Among them, the former focuses on the B-side (software), while the latter focuses on the C-side (hardware) - Windows 365 Cloud Link.

Microsoft's M365 commercial (Microsoft 365 commercial), the second-highest AI-related enterprise, saw a 16% year-on-year increase in revenue for the quarter (15% increase at a constant exchange rate), a slight increase of 1 percentage point compared to the previous quarter; compared with the 14% growth rate under Microsoft's previous guidance of a constant exchange rate, it was also 1 percentage point higher.

Looking at the price-volume-driven structure, the number of M365 subscription seats for the company increased 7% year-on-year during the quarter, down 1 percentage point from the previous quarter, and is still hovering at an all-time low; the average customer unit price rose 8.4% year on year, a significant increase from 6%-7% in the previous two quarters.

Enterprise M365 Business is a comprehensive subscription service for commercial users, including office software suites (such as Word, Excel, PowerPoint, etc.), email service (Exchange Online), team collaboration tools (Teams), file storage and sharing (OneDrive), etc., and also provides functions such as enterprise mobility and security management. It aims to improve the enterprise's office efficiency and collaboration capabilities, focusing on software applications and service levels.

The increase in the average customer unit price of the enterprise M365 business in the second quarter of fiscal year 2025 is mainly due to Microsoft's increase in the price of these package services, especially the increase in the price of Copilot's built-in services.

This shows that the company has gradually accepted the Copilot function and acknowledged its AI capabilities; otherwise, it is unlikely to achieve an increase in the average customer unit price of the M365 business. Hood confirmed this speculation, “Copilot's outstanding performance has increased usage (by customers).”

Among Microsoft's many business modules, “signing a new enterprise contract” involves multiple modules, such as Azure cloud services, productivity process sections, and artificial intelligence services. Among them, AI technology has penetrated these business segments.

During the quarter, the amount of contracts to be executed by Microsoft increased by 34% year on year, and the amount of contracts signed by new companies reached an astonishing 67% year over year. According to Microsoft's earnings report, this is mainly due to expensive and long-term AI service reservation orders from OpenAI and other enterprise customers.

Clearly, AI is bringing more revenue to Microsoft. Microsoft Chairman and CEO Satya Nadella said that according to the current development trend, the annual revenue of Microsoft's artificial intelligence business is expected to exceed 13 billion US dollars, an increase of 175% over the previous year.

In terms of investment, Microsoft invested an additional $0.75 billion in OpenAI during the quarter. By the end of the reporting period, Microsoft had invested nearly $14 billion in OpenAI.

Regarding Microsoft's capital expenditure and use for the quarter that the market is concerned about, financial reports show that Microsoft's capital expenditure for the quarter was estimated at 22.6 billion US dollars, exceeding analysts' expectations of about 21 billion US dollars.

This quarter's capital expenditure is mainly for long-term cloud and AI-related assets, which will support Microsoft's profitability for the next 15 years and more. Additionally, Microsoft expects future capital expenditure to continue to expand, particularly in cloud computing and artificial intelligence infrastructure.

Overall, Microsoft is restructuring the quality of its business, and its core Azure cloud services are relying on AI technology to transform the circuit — from traditional non-AI cloud businesses to “new smart cloud” services with AI as the underlying infrastructure.

Therefore, although the Azure cloud business performance this season was not as good as expected, after solving the production capacity problem in the second quarter of fiscal year 2026, Microsoft will have “unlimited money.”