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Microsoft Azure Cloud Gross Margins: Strong and Growing, But…

Microsoft Azure‘s gross margins continue to improve, and the company’s overall commercial cloud revenues showed strong growth in the company’s most recent quarter. But Microsoft’s continued investments in cloud infrastructure — particularly physical servers and related hardware components — could create some “gross margin pressure over the long term,” CFO Amy Hood said during the company’s latest earnings call.

Microsoft CFO Amy Hood

Microsoft CEO Satya Nadella

The disclosures suggest that Microsoft’s early, aggressive investments in software, platform and infrastructure as a service (SaaS, PaaS and IaaS) continue to pay major dividends for the company.

Microsoft’s Q4 of fiscal year 2019 included these cloud services milestones, according to CFO Amy Hood:

  • Commercial Cloud revenue was $11 billion, up 39 percent.
  • Commercial cloud gross margin percentage increased 6 points year-over-year to 65%, driven again by significant improvement in Azure gross margin.

Hood shared the metrics during Microsoft’s earnings call on July 18, 2019.

Microsoft CEO Satya Nadella on Azure Cloud Gross Margins

After a Wall Street analyst asked Microsoft for more details on the commercial cloud gross margins, CEO Satya Nadella offered this comment:

“This is really about seeing improvement in some of our largest services and continue to see improvement year-over-year in the largest services. What we said for FY20 and certainly in Q1 as we expected to be up sequentially in Q1 and we will continue to get some headwind because of the strong Azure IaaS and PaaS growth we expect through the year, but we certainly think that Azure fundamental gross margin improvement will help offset that next year.”

Looking ahead, Microsoft expects its commercial cloud gross margin percentage “will be up slightly on a sequential basis” during the company’s current Q1 of fiscal year of 2020, Hood added. Moreover, the company’s commercial cloud business will continue to shift toward Azure’s consumption-based services, she predicted.

Microsoft Cloud Expansion: Server Hardware Costs

Still, Microsoft’s intelligent cloud push will face “gross margin pressure over the long term” as the company continues to invest heavily in business expansion, Hood told an analyst during the call. Much of the investment will involve server equipment rather — building out capacity inside existing, incredibly large data centers, she noted.

The over public cloud market continues to display a familiar picture: Microsoft and Amazon Web Services (AWS) appear to be accelerating their public cloud momentum, while Google Cloud Platform (GCP) seeks to carve out specific niches, and IBM shifts to a hybrid cloud strategy powered by the recent Red Hat acquisition. On the global scene, China’s Alibaba Cloud also is gaining considerable momentum.

Microsoft Cloud Partner Program

Ironically, Microsoft’s record quarterly cloud revenues and improving gross margin details surface roughly one week after the company triggered a brief firestorm among portions of its partner base.

gavriella schuster

Microsoft Channel Chief Gavriella Schuster

Indeed, the company was planning to cut certain partner program perks — including various free cloud services — because the costs were becoming cost-prohibitive, Microsoft said in early July 2019. However, Channel Chief Gavriella Schuster reversed course and promised to maintain the partner program perks after some partners expressed concerns about the planned changes.

Microsoft resolved the partner program dustup just ahead of the company’s Inspire 2019 conference, held in Las Vegas this week. The conference included several Azure-related updates — including a new MSP-focused partner program for Azure cloud networking.

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