MSFT reported results that have twists for both the bulls and the bears.
Bulls are likely to point to Azure's constant currency growth still above 40% y/y, cc growth of 34% y/y in commercial RPO, and perhaps teens growth in Office 365 seats.
While Bears like us are more likely to focus on the bookings slowdown, the Billings miss, RPO billings negative y/y %, cRPO decelerating to 16% y/y from 19% y/y last Q, cRPO Billings growth of 5% y/y, slowing Azure & Azure Billings Growth %, Opex and Revenue growing not in sync even in cc terms, and stickiness of capex growth to remain competitive even against slower topline.
The long case on MSFT is that the CEO has transformed the company to be more agile and nimble, to focus on key growth sectors such as cloud, to renew product categories that are under attack and to outperform (in some cases) newer product leaders eroding MSFT’s share. In another victory (of emotional magnitude), the CEO even pushed MSFT to turn their biggest Achilles heel – security – into a strength with growth product and revenue in the security market.
But our view is that the rest of enterprise tech has slowed, and MSFT cannot outrun the group direction forever.
We also see that in the most prized area of growth, cloud IaaS, leading peer AWS has seen incremental backlog duration blow out, an indication that near term results will not keep pace with the growth of backlog, a sign that often comes with underperforming near term results. We see this as a cyclical problem. Our read across to MSFT Azure on this is imperfect because they are very different entities with different types of customers, but even MSFT has seen duration extend as NTM % of RPO has declined from 60% in December 2018 to 45% in September 2022, and Deferred Revenue as % of RPO has fallen from ~40-45% to 20-25% across the same timeframe.
In addition many MSFT product lines received a COVID boost or acceleration that is not only washing off, but may have also pulled forward demand or cannibalized future demand in some cases.
Last, in 2022 we have seen that when companies shift from competing for additional global talent to freezing hiring or reducing headcount, it tends to portend slowing backlog growth. MSFT has followed that arc from increasing pay in May to reducing headcount in October.
If we are right that growth is slowing at MSFT, then the stock is too expensive to own at current levels relative to slowing growth rates.
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