Microsoft Earnings Preview: Will DeepSeek Change the Game?

Microsoft Corp. is set to release fiscal second-quarter 2025 earnings on Wednesday after the close of Wall Street trading and the Federal Reserve's decision. The company is expected to provide an update on the progress of artificial intelligence-powered product sales and details on infrastructure expansion. A key topic that is likely to emerge in the press conference is the impact of the dynamic development of competition, especially in the context of DeepSeek's breakthrough achievements, the emergence of which led to a correction of most technology companies on Wall Street.

Key Data Expected (Bloomberg Consensus):

• Revenue: $68.9 billion (11% growth)
• Azure Revenue: $41.1 billion
• Intelligent Cloud Revenue: $25.89 billion
• Azure Revenue Growth (ex-FX): +31.8% (down from 34% in the previous quarter)
• EPS: $3.12
• CAPEX: $15.64 billion

Much attention may be related to spending and the connection with OpenAI, given the growing competition. Although the outlook for the company is good, recent events could potentially change the rules of the game.

Expectations for MSFT in the coming quarters. The company is expected to present the slowest growth rate since Q2 FY23 in Q2 FY25. Source: Bloomberg Finance LP, XTB

Will DeepSeek Threaten Microsoft?

The key question that is troubling investors is the impact of DeepSeek on the position of Microsoft and OpenAI. DeepSeek, a Chinese startup, announced the development of an AI model that appears to match OpenAI's products in terms of capabilities, while costing a fraction of their price. Although more and more dubious details have emerged since the model was presented, the presentation of a new, definitely cheaper model raises more and more question marks on the high costs associated with AI infrastructure.

Deep Seek and other upcoming models from the competition may shake the existing balance of power in the AI market. On the one hand, DeepSeek poses a potential threat to OpenAI's current advantage. On the other hand, the significant reduction in the cost of AI tools, which DeepSeek's success suggests, can help Microsoft build a more profitable business selling this technology to corporate clients. This is the aspect that will be particularly important for investors who will be looking for signals of whether Microsoft can translate the dynamic development of AI into real profits, significantly increasing its margins on products.

Wall Street Comments

Raymond James analysts point to continued questions about Microsoft's capital expenditures (CAPEX), particularly in the context of the announced $80 billion for fiscal year 2025. They emphasize that while Azure's growth is crucial, rising capital expenditures will require confirmation of generating future returns.

Bloomberg Intelligence adds that the largest cloud providers are unlikely to significantly change their short-term capital expenditure plans. It is worth noting that DeepSeek's effectiveness was already known when Nadella discussed spending plans.

Summary:

Microsoft's results this quarter will provide key information about the company's strategy in the rapidly changing landscape of artificial intelligence. Investors will be particularly interested in comments on DeepSeek and its potential impact on the market, as well as progress in monetizing AI technologies, including Copilot and Azure. It will also be crucial to understand how Microsoft intends to manage its huge capital expenditures in the context of the potential popularization of cheaper, yet advanced AI models from the competition.

The company currently has 64 buy recommendations, 6 hold and zero sell. The average target price for the company is $505, which implies about 14% of potential implied growth. The implied price change after the results is 4%.

The company's shares have recovered from losses related to the introduction of the DeepSeek model to the market. On the other hand, the company is about 6% from historical peaks, and since August 2024, the shares have been in a fairly narrow consolidation. It is difficult to expect a breakthrough in the company's strategy today, given the recent entry into force of DeepSeek, but potentially good or very bad results may push the shares out of the current stagnation.