Microsoft’s Stock Declines but Growth Prospects Remain Strong

Despite a Hiccup in Stock Performance, Microsoft’s Earnings Highlight Strong Growth Potential

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Outstanding Financial Performance

Microsoft (NASDAQ: MSFT) reported impressive growth in its latest earnings, with revenue up 16%, operating income increasing by 14%, and diluted earnings per share (EPS) advancing by 10% compared to the same period last fiscal year. The company categorizes its performance into three areas: Productivity and Business Processes, Intelligent Cloud, and More Personal Computing.

The Intelligent Cloud sector encompasses Azure and various cloud services, server products, GitHub cloud, and more. It’s critical to note that “Microsoft Cloud” refers to both the Intelligent Cloud segment and additional services such as Microsoft 365, which falls under Productivity and Business Processes.

During the quarter, Microsoft Cloud revenue reached $38.9 billion, a 22% increase, boasting a gross margin of 71%. Impressively, cloud revenue now constitutes 59% of Microsoft’s total revenue. This growth trajectory is remarkable, as Microsoft Cloud generated more revenue in this quarter than the entire company did in the same quarter four years prior.

Microsoft’s surge in cloud services has significantly contributed to its rapid revenue growth and overall profitability.

The company also saw a boost from acquisitions. The acquisition of Activision Blizzard led to a 61% increase in Xbox content and services revenue. Without this acquisition, growth in that segment would have only been 8%. However, not all areas performed equally well; Windows products and devices increased by just 2%.

Overall, Microsoft’s performance was strong, but investor concerns arose from the company’s guidance and spending on artificial intelligence (AI).

Investing Heavily in AI

In the previous quarter, Intelligent Cloud revenue climbed by 20%, while Azure and other cloud services—which represent the fastest-growing part of Microsoft Cloud—grew by 33%. For the upcoming quarter, Microsoft projects Intelligent Cloud revenue growth between 18% to 20% in constant currency, with Azure expected to grow by 31% to 32%. This indicates a slight slowdown in growth rates.

Typically, a small deceleration in growth isn’t a major concern, especially given Microsoft’s rapid expansion in recent years. However, the company has been significantly investing in AI, and these expenditures seem not yet to be reflecting in immediate growth metrics.

During the earnings call, management shared details about being the first cloud provider to launch Nvidia’s Blackwell system with GB200-powered AI servers. Microsoft is at the forefront of AI investment and has the cash flow to support high-level spending in the sector. However, increasing AI expenditures could lead to greater pressure from investors for tangible results.

In this quarter, capital expenditures (capex), including finance leases, reached $20 billion, indicating approximately 30% of revenue is allocated towards capex. Chief Financial Officer Amy Hood mentioned that “roughly half of our cloud and AI-related spend continues to be for long-lived assets that will support monetization over the next 15 years and beyond.” She also stated, “We expect capital expenditures to increase on a sequential basis given our cloud and AI demand signals.”

This suggests that Microsoft is investing for the future, with an understanding that immediate returns are not expected from some of these capex initiatives.

A Focus on Long-Term Growth

Critics may argue that Microsoft is recklessly overspending on AI without seeing immediate returns, but the company has the financial strength to support its initiatives. Its balance sheet shows more cash and marketable securities than debt. In fiscal year 2024, which ended June 30, Microsoft paid down $29.07 billion in debt, distributed $21.77 billion in dividends, and repurchased $17.25 billion in stock.

It would be concerning if Microsoft were increasing capex at the cost of its capital return program or financial stability, but that’s not the case. The company is well-positioned to invest aggressively in AI, solidifying its role as a leader in enterprise software and cloud infrastructure.

While mergers and acquisitions represent another growth strategy, Microsoft’s focus on innovation in AI suggests that it is committed to developing its technologies independently rather than relying on external acquisitions.

Investment Outlook for Microsoft

The recent stock sell-off presents a potential buying opportunity for investors aligned with Microsoft’s long-term strategies. Management has signaled significant ongoing investments in AI, which may affect short-term growth. Investors who prioritize immediate performance may reconsider their holdings, while those willing to wait for future AI monetization might be more inclined to invest.

With a price-to-earnings ratio of 33.9, Microsoft’s stock is still viewed as a reasonable way to gain diversified exposure across various sectors, including AI, cloud computing, hardware, and gaming. Despite increased expenditures, the company continues to achieve double-digit growth in revenue and EPS, reinforcing its status as a strong growth stock.

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Daniel Foelber has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Microsoft and Nvidia. The Motley Fool recommends the following options: long January 2026 $395 calls on Microsoft and short January 2026 $405 calls on Microsoft. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.