Cloud Computing Giants Growth Slows; Recession Looms, Layoffs Begin
Among the megatrends driving the technology industry, cloud computing has been a major force. But for the first time in its brief history, the cloud has grown stormy as third-quarter cloud giant earnings details made very clear:
- Amazon Web Services (AWS) fell short of the mark on both earnings and revenue. Reports say parent Amazon.com (AMZN) has frozen hiring at its cloud computing unit and will be laying off 10,000 employees.
- Microsoft’s (MSFT) Azure cloud business at posted an unexpected slowdown in cloud computing growth. At Microsoft, “Intelligent Cloud” revenue rose 24% to $25.7 billion during the company’s fiscal first quarter, including Azure’s 35% growth to $14.4 billion. Excluding the impact of currency exchange rates, Azure revenue climbed 42%
- Alphabet’s (GOOGL) Google Cloud business came in ahead of forecasts, but Oppenheimer analyst Tim Horan said in a note to clients that it has “no line of sight to meaningful profits.”
Note: We don’t consider Facebook/Meta Platforms a cloud service provider, even though they build the IT infrastructure for their cloud resident data centers. They are first and foremost a social network provider that’s now desperately trying to create a market for the Metaverse, which really does not exist and may never be!
In late October, Synergy Research reported that Amazon, Microsoft and Google combined had a 66% share of the worldwide cloud services market in the 3rd quarter, up from 61% a year ago. Alibaba and IBM placed fourth and fifth, respectively according to Synergy. In aggregate, all cloud service providers excluding the big three have tripled their revenues since late 2017, yet their collective market share has plunged from 50% to 34% as their growth rates remain far below the market leaders.
In 2022, capital spending on internet data centers by the three big cloud computing companies will jump a healthy 25% to $74 billion, estimates Dell’Oro Group. In 2023, spending on warehouse-size data centers packed with computer servers and data storage gear is expected to slow. Dell’Oro puts growth at just 7%, which would take the market up to $79 billion.
Oppenheimer’s Horan wrote, “Cloud providers remain very bullish on long-term trends, but investors have been surprised at how economically sensitive the sector is. “Sales cycles in cloud services have elongated and customers are looking to cut cloud spending by becoming more efficient. Despite the deceleration, cloud is now a $160 billion-plus industry. But investors will be concerned given this is our first real cloud recession, which makes forecasts difficult.”
“This macro slowdown clearly will impact all aspects of tech spending over the next 12 to 18 months. Cloud spending is not immune to the dark macro backdrop as seen during earnings season over the past few weeks,” Wedbush analyst Daniel Ives told Investor’s Business Daily via an email. “That said, we estimate 45% of workloads have moved to the cloud globally and (the share is) poised to hit 70% by 2025 in a massive $1 trillion shift. Enterprises will aggressively push to the cloud and we do not believe this near-term period takes that broader thesis off course. The near-term environment is more of a speed bump rather than a brick wall on the cloud transformation underway. Microsoft, Amazon, Google, IBM (IBM) and Oracle (ORCL) will be clear beneficiaries of this cloud shift over the coming years and will power through this Category 5 (hurricane) economic storm.”
Bank of America expects a boost from next-generation cloud services that cater to “edge computing.” Amazon, Microsoft and Google are “treating the edge as an extension of their public cloud,” said a BofA report. The giant cloud computing companies have all partnered with telecom firms AT&T (T), Verizon (VZ) and T-Mobile US (TMUS). Their aim to embed their cloud services within 5G wireless networks. “Telcos are leveraging the hyperscale cloud to launch their own edge compute businesses,” BofA said.
At BMO Capital Markets, analyst Keith Bachman says investors need to reset their expectations as the coronavirus pandemic eases. The corporate switch to working from home spurred demand for cloud services. Online shopping boomed. And consumers turned to internet video and online gaming for entertainment.
“We think many organizations accelerated the journey to the cloud as Covid and hybrid work requirements exposed weaknesses in existing on-premise IT capabilities,” Bachman said in a note. “While spend remains healthy in the cloud category, growth has decelerated for the past few quarters. We believe economic forces are at work as well as a slower pace of cloud migrations post-Covid.”
Market research heavyweight Gartner updated its global cloud computing growth forecast Oct. 31. The new forecast was completed before third-quarter earnings were released by Amazon, Microsoft and Google. Gartner forecasted worldwide end-user spending on public cloud services will grow 20.7% in 2023 to $591.8 billion. That’s up from 18.8% growth in 2022.
In a press release, Gartner analyst Sid Nag cautioned: “Organizations can only spend what they have. Cloud spending could decrease if overall IT budgets shrink, given that cloud continues to be the largest chunk of IT spend and proportionate budget growth.
AWS, Microsoft Azure and Google’s cloud computing units are all growing at an above-industry-average rate. Still, AWS and Azure are slowing, perhaps a bit due to size as well as the economy.
- At Wolfe Research, MSFT stock analyst Alex Zukin said in his note: “The damage in Microsoft’s case came from another Azure miss in the quarter, but the bigger surprise was the guide of 37%. That is the largest sequential growth deceleration on record.”
- Google’s cloud computing revenue rose 38% to $6.28 billion. That’s up 2% from the previous quarter and topped estimates from GOOGL stock analysts by 4%. However, the company reported an operating loss of $644 million for the cloud business versus a $699 million loss a year earlier. Hoping to take market share from bigger AWS and Microsoft’s Azure, Google has priced cloud services aggressively, analysts say. It also stepped up hiring and spending on data centers. And it acquired cybersecurity firm Mandiant for $5.4 billion.
- “Amazon noted it has seen an uptick in AWS customers focused on controlling costs and is working to help customers cost-optimize,” Amazon stock analyst Youssef Squali at Truist Securities said in a report to clients. “The company is also seeing slower growth from certain industries (financial services, mortgage and crypto sectors),” he added.
- Oppenheimer’s Horan estimates that AWS will produce $13.9 billion in free cash flow in 2022. But he sees Google’s cloud unit having $10.6 billion in negative free cash flow.
Nonetheless, Deutsche Bank analyst Brad Zelnick remains upbeat on the cloud computing business. He wrote in a research note:
“We see a temporary slowdown in bringing new workloads to the cloud, though importantly not a change in organizations’ long-term cloud ambitions. The near-term forces of optimization can obscure what we believe remain very supportive underlying trends. We remain confident that we are in the early innings of a generational shift to cloud.”
References:
The First Real Cloud Computing Recession Is Here — What It Means For Tech Stocks
Synergy: Q3 Cloud Spending Up Over $11 Billion YoY; Google Cloud gained market share in 3Q-2022
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Yikes, $10.6B negative cash flow is significant even for a company like Alpha. One has to wonder how long this type of bleeding can be sustained, if darkening skies turn into a 2023 recession. Will Alphabet continue to fund expensive long-term projects like their cloud initiative and their self-driving vehicle business, Waymo?
FT- 17 January 2023: Microsoft’s $10bn bet on ChatGPT developer marks new era of AI
Tech giants race to stake out their place in new field of generative artificial intelligence
by Richard Waters and Tabby Kinder in San Francisco
The $10bn investment that Microsoft is considering in San Francisco-based research firm OpenAI looks set to become the defining deal for a new era of artificial intelligence.
If the US software giant is right about the far-reaching implications of the technology, it could also trigger a realignment in the AI world as other tech groups race to stake out their place in the new field of generative AI.
OpenAI grabbed global headlines last month with the launch of ChatGPT, an AI system that can answer queries and produce text in natural-sounding language.
But Microsoft executives believe the technology behind the service will soon have a deeper impact throughout the tech world.
“These [AI] models are going to change the way that people interact with computers,” said Eric Boyd, head of AI platforms at Microsoft. Talking to a computer as naturally as a person will revolutionise the everyday experience of using technology, he added.
“They understand your intent in a way that hasn’t been possible before and can translate that to computer actions,” Boyd said in an interview with the Financial Times before news of the possible deal.
Microsoft’s potential investment, first reported by the newsletter Semafor last week and confirmed by two people familiar with the situation, would see it take a significant minority stake that would value OpenAI, after the investment, at $29bn. Microsoft declined to comment.
The potential landmark investment comes as venture capitalists are rushing to back the latest AI trend at a time when previous investment fads like blockchain and cryptocurrencies have faded.
Microsoft made its first $1bn investment in OpenAI in 2019, sealing a role as the tech platform for the firm’s highly demanding AI models and giving it first rights to commercialise its technology.
The software giant has already used OpenAI’s technology in a number of its own products, though its executives say this only scratches the surface of what will come next.
Its cloud customers have been able to pay for access to GPT-3, a text-generating AI model, since 2021. Dall-E 2 — part of a wave of image generating systems that took the AI world by storm last year — is the foundation of a recent Microsoft graphic design product called Designer, and has also been made available through the Bing search engine.
Meanwhile Codex, a system which prompts software developers with suggestions of which lines of code to write next, has been turned into a product by GitHub, a Microsoft service for developers.
The speed at which AI tools like this are passing from advanced research to everyday product may be unparalleled in tech history, according to AI experts. Codex was introduced in an OpenAI research paper only in the middle of 2021, but within a year Microsoft had turned it into a commercial subscription service.
According to GitHub chief executive Thomas Dohmke, 40 per cent of the code created by developers who use the service, called Copilot, is automatically generated by the AI system, halving the time it takes to create new code — a huge leap in efficiency after a decade of largely ineffective efforts to boost developer productivity.
“It’s a mind-blowing productivity statistic,” said Dohmke.
Much of OpenAI’s tech stems from the creation of so-called large language models, which are trained on huge amounts of text. Unlike earlier forms of machine learning — which has dominated AI for the last decade — the technique has led to systems that can be used in a wider variety of circumstances, boosting their commercial value.
“The real power of these models is they have the capability to do so many different tasks at the same time,” said Boyd at Microsoft. He added that makes it possible to do so-called “zero-shot” learning — using the AI for new tasks without needing to train them.
Google and other tech giants, as well as a number of start-ups, have also ploughed resources into creating giant AI models like this. But since GPT3 stunned the AI world in 2020 with its ability to produce large blocks of text on demand, OpenAI has set the pace with a succession of eye-catching public demonstrations.
Microsoft executives are looking to use the technology in a wide range of products. Speaking at a company event late last year, chief executive Satya Nadella predicted that generative AI would lead to “a world where everyone, no matter their profession” would be able to get support from the technology “for everything they do”.
Generative AI is set to become a central part of “productivity” applications like Microsoft’s Office, said Oren Etzioni, an adviser and board member at A12, the AI research institute set up by Microsoft co-founder Paul Allen.
All workers will eventually use productivity software that presents relevant information to them, checks their work and offers to generate content automatically, he said.
The potential upheaval this could cause in the software world has not been lost on Microsoft’s rivals, who see the technology as a rare opportunity to break into markets dominated by Big Tech.
Emad Mostaque, head of London-based Stability AI, which made a splash last year with the launch of its open-source image generating system, claimed his organisation was building a “PowerPoint killer” — an AI tool that is designed to make it much easier to create presentations than the widely-used Microsoft application.
That makes the move both defensive and offensive for Microsoft, as it tries to protect established products like Office while also mounting a stronger challenge in markets like internet search.
With its potential OpenAI investment, meanwhile, Microsoft is also trying to use its technology and financial muscle to position itself as the main platform on which the next era of AI will be built.
“The amount of cloud computing power [OpenAI] needs is beyond the capability of a start-up” or venture capital investor to support, one of the company’s investors said. That meant OpenAI had little choice but to seek financial backing from one of the handful of tech giants, this person added.
Microsoft has sought to use its first investment in OpenAI to get a head start, building what it describes as a supercomputer to train the research firm’s giant AI models. The same technology platform is also now used by Facebook parent Meta for its AI work.
Nadella claimed recently that the head start it got from working with OpenAI meant that calculations carried out by its AI supercomputer cost only around half as much as its biggest rivals. Any cost advantage could be key: analysts at Morgan Stanley estimate that the higher cost of natural language processing means that answering a query using ChatGPT costs around seven times as much as a typical internet search.
Microsoft’s biggest cloud computing rivals have also been seeking to align themselves with some of the most promising generative AI companies, though none of the other start-ups in the field has produced AI models with the scale or range of OpenAI.
Amazon’s cloud division has a three-year deal to act as the computing platform for Stability AI. Another AI start-up, CohereAI, which was founded by three researchers from Google, reached a deal in 2021 to use the search company’s computing platform to train their own AI.
If a handful of tech giants become the central platforms for — and investors in — the start-ups building the next generation of AI technology, it could stir concern among regulators.
One person familiar with Microsoft’s investment plans conceded that its alliance with OpenAI was likely to come under close scrutiny, but added that the minority investment should not provoke any regulatory intervention.
But as owners of the cloud computing platforms needed to support the coming age of generative AI, it seems inevitable that Big Tech will have a significant say in what comes next.