Track Hyper | Rebirth is imminent: Microsoft's Azure cloud business revenue slows down again

Author: Zhou Yuan / Wall Street News

Microsoft released its financial report for the second quarter of fiscal year 2025 (July 2024 - June 2025) after the U.S. stock market closed on January 30, Beijing time.

Overall, Microsoft's revenue and operating net profit for the quarter exceeded expectations, but the revenue growth rate of Microsoft's core business "Azure cloud services" reached 31% year-on-year, yet it failed to achieve a higher growth rate and declined by 2 percentage points quarter-on-quarter, marking the third consecutive quarter of slowing year-on-year growth.

The report shows that Microsoft achieved revenue of $69.63 billion in the second quarter of fiscal year 2025, a year-on-year increase of 12.3%, slightly above market expectations, but the growth rate set a new low since mid-2023; it achieved an overall operating profit of $31.7 billion, higher than the expected $30.1 billion; and net profit reached $24.108 billion, a year-on-year increase of 10%.

In the quarter, Microsoft's intelligent cloud business (including Azure cloud computing) generated revenue of $25.54 billion, a year-on-year increase of 19%, but below the market expectation of $25.83 billion; Azure and other cloud services revenue grew by 31% (Microsoft did not disclose the dollar revenue for this segment), which slowed from 33% in the previous quarter, but still did not meet the expectations of StreetAccount and CNBC of 31.9% and 31.1%, respectively.

At the same time, the revenue guidance for Azure and other cloud services in the third fiscal quarter also fell short of expectations, failing to meet the year-on-year growth range of 33%-34% anticipated by analysts.

Microsoft's Executive Vice President and CFO Amy Hood provided a guidance range for the third quarter of a year-on-year growth of 31%-32%, consistent with the current quarter.

This growth range was achieved after Microsoft addressed execution challenges and capacity constraints. If these two issues do not resolve as expected or recur, the 31%-32% year-on-year growth in the third quarter may not be achievable.

As the core of Microsoft's business, the performance of Azure and other cloud services in the second quarter and the guidance for the next quarter both underperformed expectations, causing the market's vision of ending three consecutive quarters of performance slowdown for this business segment to fall short.

"In the third fiscal quarter, we still face capacity constraints, which involve two key factors: one is space, which I usually refer to as long-term assets, that is, infrastructure and facilities; the other is equipment components," Hood said during the earnings call. "By the end of this year, we will be closer to a state of capacity balance."

As a result of these factors, Microsoft's stock price fell sharply by over 6% (6.18%) after the earnings report was released until the market closed.

The financial report shows that among the year-on-year revenue growth of 31% for Azure and other cloud services, 13% of the revenue came from AI-related businesses, which continued to slightly increase by 1 percentage point quarter-on-quarter; however, the contribution of traditional non-AI cloud business revenue declined by 3 percentage points quarter-on-quarter, marking the third consecutive quarter of decline with an increasing magnitude.

This indicates that corporate spending on traditional non-AI cloud services is shrinking, while the contribution of AI-related businesses to Azure and other cloud services revenue is increasing, squeezing out the space for traditional non-AI cloud businesses; the relatively good performance of AI-related businesses is of a stock nature, and the demand for Microsoft's services from enterprises has not grown Microsoft's management confirmed this speculation during the earnings call: "The balance between customer spending on AI workloads and traditional cloud services has led to the company's (Azure and other cloud services revenue) growth falling short of expectations (one of the reasons), and this impact will continue into the next quarter."

Due to the lack of acceleration in Azure and other cloud services revenue growth during the quarter, the guidance for revenue growth in the Intelligent Cloud segment for the third quarter is expected to be 17.7%, continuing to decline.

In numerical terms, the absolute value of revenue growth for Azure and other cloud services in the current and next quarters is not small, but the market clearly has very high expectations for the "top students"; fortunately, Microsoft also had some standout performance highlights in the current quarter, such as in the Productivity and Business Processes segment (including Office productivity software subscriptions and LinkedIn, the latter primarily related to advertising business).

This revenue achieved USD 29.44 billion in the current quarter, a year-on-year increase of 13.9%, exceeding StreetAccount's expectation of USD 28.89 billion.

The Productivity and Business Processes can be split into two parts—productivity business, which includes the enterprise M365 business; and business process services. The former focuses on B-end (software), while the latter leans towards C-end (hardware)—Windows 365 Cloud Link.

The second highest revenue from Microsoft's AI-related enterprise M365 business (Microsoft 365 commercial) saw a year-on-year revenue growth of 16% (15% growth at constant currency), a slight acceleration of 1 percentage point compared to the previous quarter; compared to Microsoft's previous guidance of 14% growth at constant currency, it is also 1 percentage point higher.

From the perspective of price and volume driving structure, the number of enterprise M365 subscription seats increased by 7% year-on-year in the current quarter, a decline of 1 percentage point compared to the previous quarter, still hovering at historical lows; the average revenue per user increased by 8.4% year-on-year, significantly higher than the 6%-7% in the previous two quarters.

The enterprise M365 business is a comprehensive subscription service aimed at commercial users, including office software suites (such as Word, Excel, PowerPoint, etc.), email services (Exchange Online), team collaboration tools (Teams), file storage and sharing (OneDrive), and also provides enterprise mobility and security management features, aimed at improving office efficiency and collaboration capabilities, focusing on software applications and services.

The increase in average revenue per user for the enterprise M365 business in the second quarter of fiscal year 2025 mainly comes from Microsoft's price increase for these suite services, especially the price increase for the built-in Copilot service.

This indicates that enterprises are gradually accepting the Copilot functionality and acknowledging its AI capabilities; otherwise, it would be unlikely to achieve an increase in the average revenue per user for the M365 business. Hood confirmed this speculation, stating, "The outstanding performance of Copilot has increased (customer) usage."

Among Microsoft's various business modules, "new enterprise contracts" involve multiple modules, such as Azure cloud services, productivity process segments, and AI services. AI technology runs through these business segments In the current quarter, Microsoft's contract amount to be fulfilled increased by 34% year-on-year, and the amount of new enterprise contracts signed saw an astonishing year-on-year increase of 67%. Microsoft's financial report stated that this was mainly due to high-value and long-term AI service pre-orders from OpenAI and other corporate clients.

Clearly, AI is bringing more revenue to Microsoft. Microsoft Chairman and CEO Satya Nadella stated that based on the current momentum, the annual revenue from Microsoft's artificial intelligence business is expected to exceed $13 billion, with a year-on-year growth rate as high as 175%.

In terms of investment, Microsoft made an additional investment of $750 million in OpenAI during the quarter. As of the end of the reporting period, Microsoft has invested nearly $14 billion in OpenAI.

Regarding the market's concerns about Microsoft's capital expenditures and their uses during the quarter, the financial report showed that Microsoft's capital expenditures for the quarter amounted to $22.6 billion, exceeding analysts' expectations of approximately $21 billion.

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

In summary, Microsoft is restructuring its business quality, with its core Azure cloud services relying on AI technology to transition from traditional non-AI cloud business to a "new intelligent cloud" service based on AI as the underlying infrastructure.

Therefore, although Azure's cloud business performance this quarter was below expectations, after resolving capacity issues in the second quarter of fiscal year 2026, Microsoft will have "unlimited financial prospects."