Optimize the positive! Microsoft CEO Satya Nadella makes his pitch as profits slump and layoffs confirmed

Stuart Lauchlan Profile picture for user slauchlan January 25, 2023 Audio mode
Summary:
A tough start to 2023 for Microsoft, but CEO Nadella wants the focus to be firmly on the longer term.

nadella
Satya Nadella

They say bad news comes in threes. Today’s global outage of Teams and Outlook is just the latest development in what’s been a tough start to the year for Microsoft. Coming on the back of plans to lay off 10,000 employees, yesterday saw the firm announce a slowing down of revenue growth and a 12% year-on-year profit decline. 

Revenue for fiscal Q2 was actually up two percent year-on-year to $52.75 billion, while the reduced profit still came in at $16.43 billion. But performance was the most sluggish in years, impacted inevitably by the wider macro-economic pressures that have hit so many other enterprise players.  

The PC business performed in line with company expectations, but fell 19% year-on-year, with “execution challenges” related to the Surface business cited. Ad spending decline more than expected, which hit the LinkedIn Marketing Solutions arm. There was “moderated consumption growth” for Azure, while spending on Windows products was down 39%. The brighter spot was Microsoft Cloud revenue, which was up 22% year-on-year. 

Meanwhile the firm has confirmed scuttlebutt that it intends to follow in the wake of Google, Amazon, Salesforce et al and cut its headcount, some five percent of its workforce in the case of Microsoft. 

All told, CEO Satya Nadella was in more subdued and sober form on the post-results analyst call: 

As I meet with customers and partners, a few things are increasingly clear. Just as we saw customers accelerate their digital spend during the pandemic, we are now seeing them optimize that spend. Also, organizations are exercising caution given the macro-economic uncertainty.

He added: 

The thing that customers are doing is what they accelerated during the pandemic, they are making sure that they are getting most value out of it or optimizing it, and then also being a bit more cautious on given the macro-economic headwinds out there in the market. So, given those two things, the point is at some point, the optimizations will end…and those workloads will start ramping up

It’s important to stay focused, he argued: 

In this environment, we remain convicted on three things. This is an important time for Microsoft to work with our customers, helping them realize more value from their tech spend and building long-term loyalty and share position, while internally aligning our own cost structure with our revenue growth. This in turn sets us up to participate in the secular trend where digital spend as a percentage of GDP is only going to increase. And lastly, we are going to lead in the AI era, knowing that maximum enterprise value gets created during platform shifts. 

Cloud growth 

Nadella pointed to the performance of Microsoft Cloud as a positive: 

Moving to the cloud is the best way for any customer in today’s economy to mitigate demand uncertainty and energy costs, while gaining efficiencies of cloud native development. Enterprises have moved millions of calls to Azure and run twice as many calls on our cloud today than they did two years ago. And yet, we are still in the early innings when it comes to long-term cloud opportunity. As an example, insurer AIA was able to save more than 20% by migrating to Azure and reduced IT provisioning time from multiple months to just an hour. We also continue to lead with hybrid computing with Azure Arc. We now have more than 12,000 Arc customers, double the number a year ago, including companies like Citrix, Northern Trust and PayPal.

And he made the case that the shift towards AI adoption is going to be a big win for Microsoft: 

We fundamentally believe that the next big platform wave is going to be AI, and we strongly also believe a lot of the enterprise value gets created by just being able to catch these waves, and then have those waves impact every part of our tech stack, and also create new solutions and new opportunities. So, whenever we think about platform opportunities and platform shift opportunities, that’s how we come at it. How can we, essentially, ride the wave for everything that we have today, and make it more expansive, and then what new can be created? 

So, if you take that lens, the core of Azure - or what is considered cloud computing - fundamentally changes in its nature and how compute storage and network come together. That’s, in some sense, [been] under the radar, if you will, for the last 3.5 years, 4 years. We have been working very, very hard to build both the training supercomputers and now, of course, the inference infrastructure, because once you use AI inside of your applications, it goes from just being training-heavy to inference…Core Azure itself is being transformed for the core infrastructure business, it’s being transformed. 

As to how long it takes for that to start making a difference on the Microsoft bottom line, Nadella said: 

I don’t think any application start that happens next is going to look like the application starts of 2019 or 2020. They are all going to have considerations around, ‘How is my AI inference performance, cost, model going to look like?’, and that’s where we are well positioned again. So, that’s how I view it…What we see is optimization and some cautious approach to new workloads and that will cycle through, but we do fundamentally believe, on a long-term basis, as a percentage of GDP, tech spend is going to go up.

He added: 

You have a workload, you optimize the workload and you start a new workload. So, the thing that I would say is when you are done with optimizing a workload is when you are done with the cycle. So, I think if you sort of say, when did we enter this, we accelerated existing workloads during the pandemic over a period of two years. So, we are optimizing. I don’t think we are going to take two years to optimize, but we are going to take this year to optimize. And then as we optimize, the new projects start and the new project starts don’t start instantly at their peak usage. They start and then they scale. And so those are the two cycles that will happen where there will be a time lag.

My take

The great enterprise tech reset continues to...er, optimize? Worth noting that despite the downward momentum across the Microsoft portfolio and the layoff announcement, the stock was up on Wall Street following the earnings call. The new normal for investors is getting…well, normal. 

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