Azure Could Outpace AWS—Bernstein Bullish on MSFT



Azure has proven to be Microsoft’s (MSFT) pillar of growth time and again. Microsoft stock got a bullish call from a Bernstein analyst on Thursday on the back of Azure’s profit potential, according to Investor’s Business Daily. Mark Moerdler hiked his price estimate on MSFT to $174 from $167. He maintained an “outperform” rating on the stock.

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Hood, Moerdler upbeat about Azure gross margin

In an investor note, Moerdler said, “There are numerous drivers of the Microsoft business but core to our outperform thesis has been Microsoft’s Commercial Cloud and specifically Azure.” Moerdler predicted that Microsoft’s cloud business would lead to improved profit margins compared to Amazon’s (AMZN) AWS (Amazon Web Services). He explained, “The main reason is that Azure will probably retain a higher mix of higher-margin workloads than AWS.” Moerdler expects Azure’s long-term gross margin to be in the mid- to high-60% range.

In the first quarter of fiscal 2020, Microsoft posted a decline in Azure’s revenue growth. Its revenue climbed 59% YoY (year-over-year) compared to the 64% growth it saw in the previous quarter. Microsoft is now aiming to improve Azure’s margins with a steady flow of big-ticket deals.

Microsoft CFO Amy Hood expects the company’s Commercial Cloud profitability to improve in the coming quarters, reported Data Center Knowledge in October: “Still, over time, as the lower-margin Azure becomes a larger piece of that business, ‘you will see more pressure on that number.’”

Microsoft has never officially commented on the revenue figures or profitability of its Azure division specifically.

According to Moerdler, “As Azure margins improve, they will drive up margins for all of Microsoft’s cloud offerings that run in Azure data centers on Azure technology.” Read Could Microsoft Azure Be the Next Windows? for more info.

Jefferies has a contrarian view

Moerdler’s prediction stands in sharp contrast to that of Jefferies analyst John DiFucci. DiFucci believes Microsoft Azure’s margins could never match up to those of AWS, according to MarketWatch. On June 25, the analyst had a bearish view on the stock. He said, “Azure will probably never see the margin broadly expected due to cultural and technical factors, and a recent unprecedented boost to cash flow from Windows may not persist.” He also touted Amazon’s cloud business as more efficient.

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Huge cloud deals critical to Azure’s growth

Speaking of deals, Microsoft is betting on big billion-dollar deals to boost its Azure business. Last month, it bagged a $10 billion defense contract called JEDI (Joint Enterprise Defense Infrastructure) from the Pentagon. In 2019, it also won a prestigious $2 billion deal with AT&T. The first phase of work has already been announced on that front. Meanwhile, Microsoft has inked deals with top entities such as Nokia, SAP, and Salesforce (CRM). Last month, Microsoft also entered into an agreement with Baker Hughes, a GE company, and C3.ai for offering cloud solutions to the energy sector.

So far, Microsoft has been steadily adding deals to its repertoire. The company is on track to achieve Azure’s profitability quota. If US-China trade tensions ease slightly, the macroeconomic situation may improve. As a result, there could be a rebound in capex, and corporations could spend more on cloud infrastructure in 2020. According to Luke Lango from InvestorPlace, “MSFT will have more cloud contract wins over the next few quarters as companies increasingly gravitate towards Microsoft.”

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In November, Brad Reback analyst at Stifel Nicolaus stated that Azure was “already at a $17 billion annualized revenue run rate,” according to Barrons. He added, “Businesses that are potential customers are still in the early stages of shifting computing to the cloud, with less than 10% penetration so far.” Reback thus expects immense potential ahead of Microsoft Azure.

MSFT stock to see positive momentum

Microsoft stock has surged 50% YTD (year-to-date) to close at $149.90 on December 5. Bernstein’s price target on MSFT indicates nearly a 15% upside to the stock from its current level. Since its fiscal 2020 first-quarter earnings on October 23, the stock has risen about 9.5%. It touched $152.32, a 52-week high, in the last week of November. However, it slipped back below $150 amid muted macroeconomic conditions. We believe Azure has a significant role to play in providing a further boost to Microsoft stock.


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