Microsoft shocked investors by admitting that AI will take significantly longer to pay off

Yesterday, Microsoft cut its quarterly growth forecast for its Azure cloud platform and at the same time announced a significant increase in capital expenditures. Analysts believe this is another sign that the payback on the huge investment in AI may take much longer than previously thought. Reacting to Microsoft’s announcement, the company’s shares fell 7%, but then recovered 4% after forecasting Azure growth in the second half of fiscal 2025.

Microsoft, through its partnership with OpenAI, is one of the leaders in the field of generative AI and is investing heavily in expanding its network of data centers. Experts estimate that Azure will grow between 28% and 29% in the third quarter of 2024, down from the previous forecast of 29.7%. Azure’s revenue in the fiscal fourth quarter of 2023, ended June 30, grew 29% versus the forecast of 30.6%.

Image source: Microsoft

This disappointing growth has weighed on the capitalization of other major technology companies. Amazon shares fell 3.4% and Meta✴ shares fell 3% as investors fear billions of dollars spent on AI infrastructure won’t deliver expected returns in the short term.

«Wall Street doesn’t have much patience. They see that you are spending billions of dollars, and they want to see an increase in income by that amount,” explained Daniel Morgan, senior portfolio manager at Synovus Trust, which owns Microsoft shares. “Unless these companies exceed expectations and do much better than expected, they will be set back.”

Microsoft shares have risen nearly 25% over the past 12 months but have quickly retreated 10% from their all-time high on July 5 amid worsening AI payoff forecasts, disappointing results from electric car maker Tesla and Alphabet’s forecast of higher costs.

Microsoft’s capital expenditures rose 77.6% to $19 billion in the fiscal fourth quarter of 2023. Microsoft Vice President of Investor Relations Brett Iversen said the company continues to increase spending to meet “strong consumer demand.” The spending was necessary for the company to expand its global network of data centers and overcome capacity constraints that have hampered its efforts to meet demand for AI.

AI services accounted for 8 percentage points of Azure’s growth in the second quarter of 2024, up from 7 percentage points in the first. Microsoft is not disclosing absolute revenue figures for its Azure business, which is best positioned to benefit from growing interest in AI. “AI contributions continue to grow each quarter, despite some of the limitations of AI capabilities that we discussed in April,” Iversen said. “Interest and demand for AI continues to be an important factor.”

Total revenue from its Intelligent Cloud division, which includes the Azure cloud computing platform, rose 19% to $28.5 billion in the fiscal fourth quarter, below analysts’ estimates of $28.68 billion. Revenue from the PC business, which includes Xbox and video game consoles Surface devices grew 14% to $15.9 billion.

Microsoft has integrated AI into nearly every product, from its Bing search engine to its office software to its 365 AI assistant, Copilot. Most of the development is based on technologies from OpenAI, in which Microsoft has already invested about $13 billion. Sales growth in the productivity division, which includes Office, LinkedIn and 365 Copilot, was 11% instead of the expected 10%.

Microsoft’s overall revenue rose 15% to $64.7 billion in the fiscal fourth quarter, beating analysts’ expectations of $64.39 billion.