- Microsoft and Google’s cloud businesses saw significant growth, driven by AI demand, but rising costs disappointed investors.
- Increased expenses on servers and research led to lower-than-expected returns, causing stock prices to decline for both companies.
Tech giants Microsoft and Alphabet reported generous increases to their cloud revenue in the December quarter, beating Wall Street estimates as customers lined up to test new AI features and build their own AI services. While this is good news, the mounting costs of developing cutting-edge AI products have irked investors who were hoping for a bigger boost to sales from the new technology. As a result, shares of Alphabet closed 7.5% lower, while those of Microsoft fell 2.7%, bringing down heavyweight tech stocks including Apple, Meta, and Amazon.
Costs surge as heavy investments continue
Microsoft and Alphabet’s cloud revenue may have increased, but so did their costs, highlighting the heavy investments they’re making in servers, data centers, and research as they compete fiercely for new customer dollars. This hurt investor expectations that were fueled by the promise of AI, which powered a stock rally to record highs in recent months. Alphabet’s capital expenditure in the reported quarter shot up 45% to $11 billion. Meanwhile, Microsoft also reported a 69% jump in capital expenditure to $11.5 billion and said it expects the metric to “increase materially” on a sequential basis.
The high expectations surrounding AI have led investors to become disappointed when returns fall short. Gene Munster, a managing partner at Deepwater Asset Management, said he is looking for more from his firm’s stakes in both Alphabet and Microsoft. “Investors want to see more contribution from AI,” he said about Alphabet. “Microsoft is still nascent, but showing some AI uptick.” A lofty valuation means even the slightest hint of disappointment will be seized upon by investors, and Microsoft’s guidance for revenue growth in its cloud division to slacken a little in the current quarter was enough to see shares dip modestly, said Russ Mould, investment director at AJ Bell.
Looking to the future
While some investors may be disappointed, others are looking forward to what’s next for these tech giants. Gil Luria, an analyst at D.A. Davidson, said, “By providing a positive outlook … (Microsoft) gave investors just enough to justify the current share price, but will need to continue to deliver on its growth trajectory in order to justify an even higher share price.” Luria expects Microsoft to still be able to increase margins based on keeping its overall headcount relatively flat, and investments to come back down next year once Microsoft has enough data center capacity to meet demand.
The AI industry is growing, and both Microsoft and Alphabet have invested heavily, but investors are becoming increasingly disappointed with returns that fall short of expectations. While some are expecting more from these tech giants, others are looking forward to what’s next. Nevertheless, it’s clear that investors are keeping a close eye on how these companies are investing and what they’re delivering, and that they’ll be quick to react if returns don’t match up to their expectations.