Microsoft Corp. appears positioned to weather macroeconomic headwinds better than most of its tech peers on the strength of its booming cloud business, analysts said.
An inflationary climate, foreign-exchange rates, rising interest rates and geopolitical tensions all took a toll on Microsoft's June quarter earnings, which came below expectations. The company is expected to report even slower growth for the September quarter.
Nevertheless, analysts expect Microsoft to continue thriving in the long run as demand for most of the company's cloud products is likely to hold up even through a potential recession.
"It is very safe to assume that demand for cloud services won't get hit very hard in the long run," said John Freeman, vice president of equity research at CFRA. "If anything, businesses that are rushing to shed costs will be forced to embrace cloud solutions more than ever, opening the door for Microsoft to reap the benefits."
Ahead of the curve
Microsoft is expected to post consolidated revenue of $49.78 billion for its September quarter, up 9.8% from the prior year, according to S&P Capital IQ consensus estimates. That would amount to the smallest year-over-year growth rate for the company in more than a year.
All of Microsoft's primary business divisions are expected to report lower revenue growth in the September quarter, including its Intelligent Cloud segment, which includes the Azure cloud-computing platform. The company also forecast slower growth again for Azure, which saw its growth rate fall 6 percentage points in the June quarter, to 40%.
While cloud platforms are not immune to macroeconomic factors, the cloud is still a significant focus area within tech and Azure should bounce back to higher growth as businesses around the globe migrate their workloads, said Freeman.
"Currently there is about a 60/40 split favoring cloud licenses and maintenance fees over subscriptions, but that will shift dramatically towards subscriptions within a five- to six-year period," Freeman said. "The sheer amount of recurring revenue at stake is why I see Microsoft doing mid-to-high teens in top-line growth for the next three years at least."
Although other cloud providers are also reaping the benefits of strong demand for cloud platforms, Microsoft is well positioned to stay ahead of the curve because of the company's diverse range of products across different categories that synergize with its cloud platform, said Scott Kessler, global sector lead for TMT at research firm Third Bridge.
"A large number of companies need more than just a cloud provider to host their workflow, so they often buy access to enterprise applications to better run their businesses," Kessler said. "This gives Microsoft an opportunity to pick up market share with Azure in those kinds of cloud infrastructure and application areas."
Microsoft's stock was down 29.8% for the year to date as of Oct. 20, outperforming the tech-heavy Nasdaq index, which had fallen 32.2%.
Regulatory scrutiny
The U.K.'s Competition and Markets Authority recently expressed concerns about the acquisition's potential impact on the availability of Activision's games on rival platforms, such as Sony Group Corp.'s PlayStation. The agency, which set a deadline of March 1 to give a verdict on the deal, is asking for public comments regarding the proposed acquisition.
Meanwhile, Brazil recently approved the deal, with that country's regulators noting that competitor Sony relies heavily on exclusive content to attract customers to the PlayStation platform.
The companies still await regulatory decisions from the U.S. Federal Trade Commission and the European Commission.
In an email to S&P Global Market Intelligence, a Microsoft spokesperson defended the deal and said it remained on track to close during the company's fiscal year 2023, which ends in June 2023.
"This deal will benefit gamers, developers, and the industry as we seek to bring more games to more people," the spokesperson said. "We're committed to answering regulators' questions and ultimately believe a thorough review will help the deal close with broad confidence."
Although Microsoft has gone on record to assure regulators that it does not intend to wholly withhold Activision's IP from the competition, Kessler said the company may need to make additional commitments for the deal to pass regulatory scrutiny.
"Microsoft may have to ensure that it gives Sony a wider window to offer Activision titles on the PlayStation," Kessler said. "However, Sony can't afford to make too much of a stink about the deal either, because that would set a dangerous precedent and could come back to negatively impact the company that itself relies heavily on exclusive content that is not available on Microsoft's Xbox consoles."
In the long run, it may be in Microsoft's best interest to back off from the deal if regulatory scrutiny heats up too much and instead focus on more growth-centric areas such as cloud, Freeman said.
"Doubling down on cloud would be a more profitable and less risky endeavor for Microsoft," the CFRA analyst said. "I'd say going after companies like HashiCorp Inc. or even Splunk Inc. could be a real game changer for Microsoft, allowing it to further accelerate its cloud revenue and probably avoiding the regulatory ire that Activision is drawing."