$Microsoft(MSFT)$ 's Q3 results and outlook were strong, mainly driven by Azure. Azure's cloud growth hit 35% (constant currency), significantly above the expected 31.5%. This was due to both hardware deliveries and solid cloud migration deals. OpenAI contributed a strong 16 percentage points to Azure's growth (up from 13% in Q2), easing partnership concerns.
Office Growth Remains Solid
The Office business showed good performance with 14-15% constant currency revenue growth, hitting the high end of guidance. Subscriber growth was steady at 7%, though some moderation is expected next quarter. However, strong E3/E5 sales and increasing Copilot adoption support our positive outlook for continued strong growth.
Capex Near Peak, Still Expanding for Future
Q3 capital expenditures were slightly lower than expected (-4% quarter-over-quarter). However, the full-year H2 capex forecast remains the same, and FY26 capex growth is expected to moderate. It’s reasonable to expect around $97bn of capex in FY26 as the peak in the investment for future expansion.
AI Powerhouse in Apps & Cloud; Reiterating Buy
Q3 results suggest that returns on Microsoft's capital expenditures are appearing sooner than anticipated. Azure's core growth is accelerating due to cloud market share gains and AI benefits. Office is also poised for AI-driven growth via Copilot.
With accelerating growth, peaking capex, and AI-driven efficiency, free cash flow growth can increase to the high teens in FY27. Considering this context, $475 is a reasonable target for this year.
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