The downturn has come for the cloud business

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Wednesday, October 26, 2022

Even cloud giants like Microsoft can’t avoid the economic downturn

The economic downturn has come for the big cash cows of tech companies: cloud companies that provide their customers with inexpensive computing power and applications.

On Tuesday, Microsoft (MSFT) announced that its all-important Azure cloud division will experience slower-than-expected growth this quarter. On the same day, Google’s parent company Alphabet (GOOG, GOOGL) reported that the growth of its Google Cloud Platform had slowed from 44% in the third quarter of 2021 to 37% in the third quarter.

Amazon (AMZN) is expected to see 33% growth in its AWS segment when it announces its results on October 27. This would mark a decline from the 39% growth recorded in the same quarter last year.

“We are seeing some fiscal pressure on the corporate side,” Brent Bracelin, equity research analyst, Piper Sandler, told Yahoo Finance. “We certainly wouldn’t say to enterprise software, the cloud is macro-proof and we’re starting to see cracks.”

Cloud growth has been meteoric during the pandemic. Its slowdown means companies in various sectors are cutting budgets and looking for ways to save amid near-record inflation, rising interest rates and recession fears. These cuts hit Big Tech where it hurts.

The cloud faces a huge test

Cloud computing services generally help businesses save money. Rather than having to buy their own software or run their own servers, businesses of all sizes can turn to cloud providers to deliver these services over the web.

The cloud segments of Amazon, Google and Microsoft also offer what is known as a consumption business model, which means that their customers only pay when they use cloud services. Think of it like renting a car when you need to travel somewhere rather than owning a car. Instead of paying for monthly payments, insurance and repairs, you only pay for the time the car is used.

FILE - In this May 7, 2018, file photo of Microsoft CEO Satya Nadella looks on during a video as he delivers the keynote address at Build, the company's annual conference for software developers in Seattle.  Microsoft is seeking the Federal Election Commission's advisory opinion to ensure Microsoft's new free online account security protections package for

Microsoft said its cloud services business will see slow sales growth in the current quarter. (AP Photo/Elaine Thompson, File)

Amazon and Microsoft have had the most success with their cloud strategies. They are the first and second cloud providers in the world, with Amazon holding 34% of the market and Microsoft controlling 21% in the second quarter. Google, which is still developing its service, holds 10% of the global market.

Margins on cloud businesses are incredibly high, with Microsoft reporting margins of up to 73% across its cloud segment in the last quarter and Amazon reporting margins of 29% for its AWS platform in Q2 2022 .

Investors saw those numbers and piled into Amazon and Microsoft before and during the pandemic with the promise of continued cloud-driven growth. But this growth is being compressed.

“There is very clearly macro uncertainty. And no one will be safe from this. Not even some sort of 800-pound gorilla like Microsoft,” RBC Capital Markets equity analyst Rishi Jaluria told Yahoo Finance.

And that scares away investors. Microsoft shares were down about 6% midday Wednesday. Amazon shares were down 3.8% and Alphabet shares were down 7.8%, though they were also hurt by poor YouTube ad sales.

Cloud Computing Could Come Back Bigger Than Before

As cloud revenue slows at Microsoft and Google, the segments could see growth return to earlier highs when the economy recovers. Their consumption-based business models make it easy for businesses to start and restart when economic conditions allow.

Microsoft, in particular, could benefit from a broader setback and a possible return to growth.

“Microsoft has the ability to consolidate budgets. Many companies use 100 different software vendors, or even 1,000 [software as a service] apps,” Jaluria explained.

Microsoft could tell its customers that it can offer the same kinds of apps and can bundle them with its cloud services at a better price. The bad news? It is still unclear when the downturn will end. For now, companies will have to get used to slower growth than in the days of the Big Tech boom.

By Daniel Howley, technical writer at Yahoo Finance. follow him @DanielHowley

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