RESEARCH NOTE: Copilot Growth and the Impacts of AI — Microsoft (MSFT) Q3 2024 Earnings

By Melody Brue - May 2, 2024
Royalty-free photo by Mnogomesta via Dreamstime.com

Microsoft reported robust performance in the third quarter of its fiscal year 2024, which ended March 31, 2024. The company showed notable growth across several key financial metrics. Here’s an overview of the numbers.

Q3 2024 Financial Performance vs Expectations

Revenue: $61.9 billion, up 17% year-over-year, vs. $60.9 billion expected

Diluted EPS: $2.94, up 20% YoY, vs. $2.84 expected

Other Key Numbers

  • Operating income: $27.6 billion, up 23% YoY
  • Net income: $21.9 billion, up 20% YoY
  • Productivity and Business Processes: Revenue reached $19.6 billion, up 12% YoY, driven by growth in Office Commercial, Office Consumer, LinkedIn, and Dynamics products and cloud services.
  • Intelligent Cloud: Revenue amounted to $26.7 billion, marking a 21% increase YoY, propelled by growth in server products, Azure, and other cloud services.
  • More Personal Computing: Revenue stood at $15.6 billion, up 17% YoY, supported by growth in Windows, Xbox content and services, and search and news advertising revenue.
  • Teams Phone users rose to more than 20 million, up nearly 30% YoY. It is worth noting that these are active users, not licenses sold, which is a much larger number.
  • Microsoft has now surpassed 1 million Microsoft Teams Rooms. The last publicly shared figure for Teams Rooms was roughly half that on the January 2023 earnings call covering Q2 of FY2023.
  • Copilot Studio, which is used for customizing Copilot for Microsoft 365 or building your own AI-driven Copilot, is up 175% quarter-over-quarter, with more than 30,000 enterprise customers. While this number is small compared to Microsoft’s total installed base, it shows quick adoption since Copilot Studio’s November 2023 launch.
  • In this reporting period, Microsoft returned $8.4 billion to shareholders through share repurchases and dividends.

Leadership Insights

In reviewing the quarter, Satya Nadella, chairman and CEO of Microsoft, emphasized the transformative impact of Microsoft Copilot. “Microsoft Copilot and Copilot stack are orchestrating a new era of AI transformation, driving better business outcomes across every role and industry,” he said.

Amy Hood, executive vice president and CFO of Microsoft, attributed the strong performance of Microsoft Cloud to robust execution by sales teams and partners. Cloud revenue reached $35.1 billion, up 23% YoY.

My Analyst Insights

Microsoft continues to innovate and enhance its product offerings, delivering hundreds of new releases, services, and enhancements each quarter. These investments aim to empower customers with increased productivity, security, and value across the cloud and the edge.

Q3 2024 was the first full reporting quarter in which clients had access to Microsoft’s productivity suite equipped with Copilot AI. Although specific figures on the sales of AI subscriptions, priced at $30 per user per month, were not disclosed, the company stated that commercial subscriptions were up 15% YoY. Nadella stated on the earnings call that several companies have purchased more than 10,000 licenses apiece.

The adoption of Copilot has seen significant traction across various industries and organizations of all sizes. Notable companies, including many in the Fortune 500, are using Copilot, and Microsoft reports accelerated usage observed among early adopters. The company continues to build out this offering with over 150 new Copilot capabilities and its expansion within Dynamics 365. Copilot in Windows has seen widespread device adoption, with multiple OEM partners announcing AI-powered PCs that include a Copilot key.

Microsoft’s AI push extends heavily into Teams, with ongoing enhancements to improve performance and hybrid meeting experiences. The Copilot experience within Teams now provides users with improved prompts tailored to their needs, access to Copilot chat history, and a library of prompts from Copilot Lab. These are smart moves from Microsoft to help with the adoption of Copilot. Recent improvements also include intelligent recap functionality for Teams meetings with a Copilot for Microsoft 365 license, accessible on iOS and Android devices. Other Teams updates include real-time telemetry in the Teams admin center for troubleshooting issues with meeting quality, plus the new Discover feed, which surfaces relevant content in Teams channels based on user preferences. Meanwhile, the company reports that Teams Phone continues to demonstrate substantial growth in cloud calling. Microsoft has kept improving user experience and accessibility in Teams, which should position it for success as it is unbundled from new Microsoft 365 and Office 365 commercial licenses.

Microsoft’s Challenges

  • The company has made significant investments in generative AI technologies, leading to a substantial increase in capital expenditure, which may not immediately translate into revenue contribution.
  • Managing the balance between investment and revenue generation is crucial, especially amid media speculation about further spending on data centers.
  • Many enterprises have concerns about AI’s maturity level and its ability to become accretive to IT spending. While AI adoption is accelerating, cultural and process changes within organizations are required to fully realize its transformative potential. This cultural shift may pose a challenge in terms of workflow and process change despite the rapid diffusion and adoption of AI technologies.
  • Microsoft’s finance chief, Amy Hood, called out that the company’s near-term AI demand is a bit higher than its available capacity.
  • Government enforcement of competition laws and emerging market regulations might restrict Microsoft’s (and other companies’) product offerings.

Business Outlook

Microsoft provided forward-looking guidance during its earnings conference call and webcast, outlining expectations and strategic initiatives for future quarters. Guidance called for $64 billion in revenue for the fiscal fourth quarter, below the $64.5 billion analyst consensus. The forecast implies an operating margin of 42.3%, ahead of the consensus of 41.5%.

Microsoft’s aggressive investment in AI, exemplified by Copilot’s rapid adoption and expansion, signals a future of accelerated innovation and growth opportunities; however, this future is not without challenges. The company’s commitment to transformative AI enables it to help redefine productivity and reshape the enterprise software landscape. Nevertheless, the company must balance AI investment with meeting near-term capacity demands. Positive guidance, integration of AI across key product lines, and a highly competitive landscape with giant competitors such as Google and Amazon will all shape the company’s trajectory as it navigates the potential of this transformative AI push.

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Melody Brue
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Mel Brue is vice president and principal analyst covering modern work and financial services. Mel has more than 25 years of real tech industry experience in marketing, business development, and communications across various disciplines, both in-house and at agencies, with companies ranging from start-ups to global brands. She has built a unique specialty working in technology and highly regulated spaces, such as mobile payments and finance, gaming, automotive, wine and spirits, and mobile content, ensuring initiatives address the needs of customers, employees, lobbyists and legislators, as well as shareholders.