Amazon and Microsoft’s AI Gains Mask Cloud Slowdown

The buzz around artificial intelligence that’s helped juice gains for Microsoft Corp. and Amazon.com Inc. this year may also be masking struggles in a business far more critical to the pair’s bottom lines.

(Bloomberg) — The buzz around artificial intelligence that’s helped juice gains for Microsoft Corp. and Amazon.com Inc. this year may also be masking struggles in a business far more critical to the pair’s bottom lines.

Once-booming demand for cloud-computing services is slowing as businesses rein in spending amid economic uncertainty. And when Microsoft and Amazon report results next week, analysts anticipate the slowest revenue growth for their cloud-computing businesses since the firms started breaking out performance last decade.

Trouble is, not much of that is priced into stocks that are up solidly this year, according to Ted Mortonson, a technology strategist at Robert W. Baird & Co.

“Given how much they’ve run, the setup for earnings is horrible,” Mortonson said. “I don’t know why you’d want to be over your skis going into first-quarter prints.”

Microsoft shares fell 0.8% on Thursday while Amazon slipped 0.3%. The Nasdaq 100 Index fell 0.7%.

For years, robust demand for cloud-computing services has acted as a steady growth driver for both Microsoft and Amazon, which in addition to AI excitement have been riding the wave of a broader rally in technology stocks.

Microsoft’s Intelligent Cloud unit, which is home to its Azure cloud-services business, accounted for 38% of its revenue and 39% of operating income in 2022.

Amazon Web Services was the fastest-growing of the Seattle-based company’s major businesses last year and generated $22.8 billion in operating income. The rest of Amazon’s businesses combined posted a $10.6 billion operating loss.

For both companies, cracks are starting to appear. In the first three months of 2023, growth for Microsoft’s Azure unit and Amazon Web Services is expected to fall to 31% and 14%, respectively, when excluding currency fluctuations, according to the average of analyst estimates compiled by Bloomberg. A year ago, Azure sales expanded 49% and Amazon Web Services 37%.

In a shareholder letter released last week, Amazon said AWS “faces short-term headwinds” related to the economic backdrop that will “soften” the growth rate. This echoed what it said in its most recent results. Microsoft also warned of a slowdown in cloud software sales last quarter.

Wall Street has been getting more cautious. UBS lowered growth estimates for Azure last week, warning that “customer efforts to optimize/trim their cloud spend will be deeper and last longer than most think.” Analyst Karl Keirstead added that recent trends on spending and new developer activity continued in the first quarter and “feel worse than three months ago.”

Jefferies sees slowing cloud demand as “a key concern” for Amazon. Analyst Brent Thill said that because AWS generates so much of Amazon’s operating income “a stabilization in cloud is crucial for shares to outperform.”

For Alec Young, chief investment strategist at MAPsignals, Microsoft and Amazon remain attractive despite the slowdown, which he expects to be a temporary pause before growth re-accelerates.

“There’s still a lot of runway ahead for cloud computing, so I don’t think investors should obsess too much over the level of growth over a couple quarters,” he said.

Tech Chart of the Day

Amazon.com Inc. has 56 buy or equivalent ratings from analysts, the most among Nasdaq 100 companies, according to data compiled by Bloomberg. The list also features fellow technology megacaps like Microsoft Corp., Alphabet Inc. and Apple Inc. With quarterly earnings updates just around the corner, many recommendations may come under the scanner as tech companies wade through high interest rates and combat sluggish demand for their products and services.