Q1 2023 Microsoft Corp Earnings Call
Greetings and welcome to the Microsoft fiscal year 2023 first quarter earnings Conference call. At this time all participants are in a listen only mode. A question and answer session will follow the formal presentation.
If anyone should require operator assistance during the conference. Please press star zero on your telephone keypad. As a reminder, this conference is being recorded it is now my pleasure to introduce your host Mr. Brett Iverson, Vice President Investor Relations. Thank you you may begin.
Good afternoon, and thank you for joining us today.
On the call with me are Satya, Nadella, Chairman and Chief Executive Officer, Amy Hood, Chief Financial Officer, Alice Chawla, Chief Accounting Officer, and Keith Dolliver Deputy General Counsel.
On the Microsoft Investor Relations website, you can find our earnings press release and financial summary, slide deck, which is intended to supplement our prepared remarks during today's call and provides a reconciliation of differences between GAAP and non-GAAP financial measures.
On this call, we will discuss certain non-GAAP items.
The non-GAAP financial measures provided should not be considered as a substitute for or superior to the measures of financial performance prepared in accordance with GAAP.
They are included as additional clarifying items to aid investors in further understanding the company's first quarter performance.
In addition to the impact these items and events have on the financial results.
All growth comparisons we make on the call today relate to the corresponding period of last year unless otherwise noted.
We will also provide growth rates in constant currency when available as a fee.
Framework for assessing how our underlying businesses performed excluding the effect of foreign currency rate fluctuations.
Where growth rates are the same in constant currency, we will refer to the growth rate only.
We will post our prepared remarks to our website immediately following the call until the complete transcript is available.
Today's call is being webcast live and recorded.
You ask a question it will be included in our live transmission in the transcript and in any future use of the recording.
You can replay the call and view the transcript on the Microsoft Investor Relations website.
During this call we will be making forward looking statements, which are predictions projections or other statements about future events. These.
These statements are based on current expectations and assumptions that are subject to risks and uncertainties.
Actual results could materially differ because of factors discussed in today's.
Earnings press release in the comments made during this conference call and in the risk factors section of our Form 10-K forms 10-Q, and other reports and filings with the Securities and Exchange Commission, we do not undertake any duty to update any forward looking statements and with that I'll turn the call over to Satya. Thank you Bret to start.
I want to outline the principles that are guiding us through these changing economic times first we will invest behind categories that will drive the long term secular trend where digital technology as a percentage. It was GDP will continue to increase.
Second, we'll prioritize helping our customers get the most value out of the digital spend so that they can do more with less and finally, we will be disciplined in managing our cost structure with that context. This quarter. The Microsoft cloud again exceeded $25 billion in quarterly revenue up 24% and 31% in constant currency.
And based on current trends, continuing we expect a broader commercial business to grow at around 20% in constant currency. This fiscal year as we manage through the cyclical trends affecting our consumer business with that let me highlight our progress starting with Azure.
Moving to the cloud is the best way for organizations to do more with less today.
It helps them align their spend with demand and mitigate risk around increasing energy costs and supply chain constraints. We're also seeing more customers turn to offs to build and innovate with infrastructure. They already have with Azure arc organizations like Wells Fargo can run agile services, including containerized applications across on premises.
<unk> and multi cloud environments.
We now have more than 8500 are customers more than double the number a year ago. We are the platform of choice for customers SAP workloads in the cloud companies like <unk>, Munich, Greece, Sodexo Volvo cars, all wrong S&P on Azure.
We are the only cloud provider with direct and secure access to Oracle databases running in Oracle cloud infrastructure, making it possible for companies like Fedex <unk> and Marriott to use capabilities from both companies and with Azure confidential computing, we are enabling companies in highly regulated industries, including RBC to bring the most.
Dave applications to the cloud just last week UBS said, it will move more than 50% of its applications to azure.
Now to data and AI with our Microsoft intelligent data platform, we provide a complete data fabric, helping customers cut integration tax associated with bringing together siloed solutions customers like Mercedes Benz are standardizing on our data stack to process and government massive amounts of data.
Cosmos DB is the go to database powering the world's most demanding workloads at limitless scale Cosmos DB now supports postscript sequel, making Azure the first cloud provider to offer a database service that supports both relational and no sequel workloads and in AI. We are turning the world's most advanced models into platforms of our customers.
Earlier. This month, we brought the power of dull lead to Azure open AI service, helping customers like Mattel apply the breakthrough we made generation model to commercial use cases for the first time in Azure machine learning provides industry, leading MLR, helping organizations like three of them deploy manage and govern models all.
Azure ml revenue has increased more than 100% for four quarters in a row.
Now on to developers, we have the most complete platform for developers to build cloud native applications for years since our acquisition Github is now at $1 billion in annual recurring revenue and get help us develop a first ethos has never been stronger more than 90 million people now use the service to bill.
Software for any cloud on any platform up three times get up advanced security is helping organizations improve their security posture by bringing features directly into the developers workflow Toyota North America chose the offering this quarter to help its developers build and secure many of its most critical applications.
Now on to power platform, we are helping customers save time and money with our end to end suite spanning low code no code tools robotic process automation virtual agents and business intelligence.
<unk> is the market leader in business intelligence in the cloud and is growing faster than competition is companies like Walmart standardize on the tool for reporting and analytics power apps as the market leader in low code No code tools and has nearly 50 million monthly active users up more than 50% compared to a year ago power at.
<unk> has more than 7 million monthly active users and is being used by companies like Brown Forman Komatsu Mos T mobile to digitize manual business processes and save thousands of hours of employee time, and we're going further with new AI powered capabilities and power automate that natural language into advanced work.
Now on to dynamics 365 from.
From a customer experience and service to finance and supply chain. We continued to take share across all categories. We serve for example, Lufthansa cargo chose us to centralize customer information and related shipments cbre's optimizing its field service operations, gaining cost efficiencies Dodge and is using our solutions to increase book.
Guest frequency and spend at its restaurants, and Tillamook is scaling its growth and improving supply chain visibility all up more than 400000 organizations now use our business applications now.
Now on to industrial solutions, we are seeing increased adoption of our industry and cross industry clouds Bank of Queensland chose our cloud for financial services to deliver new digital experiences for its customers a cloud for sustainability is off to a fast start as organizations like <unk> use the solution to track their.
It'll footprint.
New updates to provide insights on hard to measure scope III carbon emissions and we are seeing record growth in healthcare driven in part by a nuanced Dax ambient intelligence solutions, which automatically documents patient encounters at the point of care physicians tell us dax dramatically improves our productivity.
And it is quickly becoming an on ramp to a broader health care offerings.
Now on to new systems of work, Microsoft 306, five teams in vivo uniquely enable employees to thrive in today's digitally connected distributed world of work. Microsoft 306, five is the cloud plus platform that supports all the way people work and every type of work are reducing cost and complexity for it.
The new Microsoft 365, App brings together, our productivity apps with third party content as well as personalized recommendations Microsoft teams as the de facto standard for collaboration has become essential to how hundreds of millions of people meet call chat collaborate and do business.
As we emerge from the pandemic, we are retaining users. We have gained and are seeing increased engagement to users interact with teams 1500 times per month on average in a typical day. The average commercial use of spends more time in team's job than they do in email and the number of users who use for them.
More features within teams increased over 20% year over year team.
Teams is becoming a ubiquitous platform for business process monthly active enterprise users running third party and custom applications within teams increased nearly 60% year over year and over 55% of our enterprise customers, who use teams today also by teams rooms, our team's fone.
Teams phone provides the best in class, calling PSD and users have grown by double digits for five quarters in a row, we're bringing teams rooms to a growing hardware ecosystem, including Cisco devices, and peripherals, which will now run teams natively and we're creating a new category with Microsoft places to help organizations.
<unk> evolve and manage this space for hybrid at inputs and work just like outlook calendar orchestrates when people can meet and collaborate places we'll do the same for where we also announced teams premium addressing enterprise demands for advanced meeting features like additional security options and intelligent meeting recaps all.
This innovation is driving growth across Microsoft 306, five leaders in every industry from Fannie Mae in Landa Lakes to Rabobank continued to turn to our premium <unk> offerings for advanced security compliance voice and analytics. We've also built a completely new suite for our employee experience platform Microsoft Veeva.
Which now has more than 20 million monthly active users at companies like fenestra, SCS and Unilever and we're extending veeva to meet role specific needs Veeva sales is helping salespeople at companies like Adobe Crayon, and pwc reclaim that time, but bringing customer interactions across teams and outlook directly.
Into their CRM system now.
Now onto Windows.
Despite the drop in PC shipments during the quarter Windows continues to see usage growth all up there are nearly 20% more monthly active windows devices than pre pandemic and on average Windows 10 Windows 11 users are spending eight 5% more time on their Pcs than they were two and a half years ago.
And we are seeing larger commercial deployments with Windows 11, Accenture. For example has deployed windows 11 to more than 450000 employees species up from just 25007 months ago, and L'oreal, who has deployed the operating system to 85000 employees now to security security.
Used to be a top priority for every organization.
The only company with integrated end to end tools spanning security compliance identity and device management and privacy across all clouds and platforms more than 860000 organizations across every industry from BP and Fuji film to Ing's Bank, IHOP media and lumen technologies now use.
Security solutions up 33% Euro Rio they can save up to 60% when they consolidate our security stack and the number of customers with more than full workloads have increased 50% year over year more organizations are choosing both Rx, Dr and cloud native Sim to secure.
Their entire digital estate the number of <unk> customers, who also purchased Sentinel increased 44% year over year and as threats become more sophisticated we are innovating to protect customers new capabilities and defend to help secure the entire Dev ops lifecycle and managed security posture across.
Clouds, an entrant now provides comprehensive identity governance for both on premise and cloud based user directories.
Now on to Linkedin, we once again saw record engagement among our more than 875 million members with international growth increasing at nearly two extra base out in the United States.
Now more than 150 million subscriptions to newsletters on Linkedin up Forex year over year, new integrations between Viva and Linkedin learning help companies invest in their existing employees by providing access to courses directly in the flow of work members added 365 million skills to their profiles over the last 12 months.
Up 43% year over year, and with our acquisition of Edu Bright. They will also soon be able to earn professional certificates from trusted partners directly on the platform.
We launched the next generation sales navigated this quarter, helping sellers increase win rates and deal sizes by better understanding and evaluating customer interest finally, Linkedin marketing solution continues to provide meeting innovation and ROI in <unk> digital advertising.
More broadly with Microsoft advertising, we offer a trusted platform for any market theater advertisers looking to innovate we've expanded our geographies we serve by nearly forex over the past year, we are seeing record daily usage of edge stopped and being driven by windows edge is the fastest growing browser on windows and <unk>.
<unk> to gain share as people use built in coupon price comparison features to save money resurface more than $2 billion in savings to date and this quarter. We brought our shopping tools to 15, new markets users of our stock personalized content feed are consuming <unk> content compared to a year ago.
And we're also expanding our third party AD inventory Netflix will launch its first AD supported subscription plan next month exclusively powered by our technology and sales and with promote IQ. We offered an omnichannel media platform for retailers like the auto group looking to generate additional revenue while maintaining ownership of their.
Our own data and customer relationships.
Now on to gaming, we are adding new gamers to our ecosystem as we execute on our ambition to reach players wherever and whenever they want on any device. We saw usage growth across all platforms driven by the strength of console PC game pass subscriptions increased 159% year over year and with <unk>.
Cloud gaming with transforming how games are distributed played and viewed more than 20 million people have used the service to stream games to date, and we are adding support for new devices like handhelds from Logitech and razor as well as a matter of quest and as we look towards the holidays, we offer the best value in gaming with game pass and.
Xbox series S. Nearly half of the series as buyers are new to our ecosystem.
In closing in a world facing increased headwinds digital technology is the ultimate tailwind and we're innovating across the entire tech stack to help every organization, while also focusing intensely on our operational excellence and execution discipline with that I'll hand, it over to Amy <unk>.
Stock yet and good afternoon, everyone. Our first quarter revenue was $50 1 billion.
But 11% and 16% in constant currency earnings per share was $2 35.
And increased 4% and 11% in constant currency when adjusted for the net tax benefit for the first quarter of fiscal year 'twenty two.
Driven by strong execution in a dynamic environment, we delivered a solid start to our fiscal year in line with our expectations. Even as we saw many of the macro trends from the end of the fourth quarter continued to weaken through Q1.
Our consumer business PC market demand further deteriorated in September .
This impacted our windows OEM surface businesses and reductions in customer advertising spend which also we can later in the quarter impacted search and news advertising and Linkedin marketing solutions.
As you heard me talk to you in our commercial business. We saw strong overall demand for Microsoft cloud offerings with growth of 31% in constant currency as well as share gains across many businesses.
Commercial bookings declined 3%.
16% in constant currency on a flat expiry base.
Excluding the FX impact growth was driven by strong renewal execution and we continue to see growth in the number of large long term azure and Microsoft for 65 contracts across all deal sizes.
More than half of the $10 million plus Microsoft for 65 bookings came from <unk>.
Commercial remaining performance obligation increased 31% and 34% in constant currency to $180 billion, roughly 45% will be recognized in revenue in the next 12 months up 23% growth a year the remaining portion which will be recognized beyond the next 12 months increased 38% year over year and our annuity mix.
Increased one point year over year to 96%.
FX impacted company results in line with expectations with a stronger U S. Dollar FX decreased total company revenue by five points and at the segment level FX decreased productivity and business processes and intelligent cloud revenue growth by six points in more personal computing revenue growth by three points. Additionally.
<unk> FX decrease Cogs and operating expense growth by three points.
Microsoft Cloud gross margin percentage increased roughly two points year over year to 73%.
The impact of the change in accounting estimate for useful lives Microsoft cloud gross margin percentage decreased roughly one point driven by sales mix shift to Azure and lower Azure margin, primarily due to higher energy cost company.
Company gross margin dollars increased 9% and 16% in constant currency and gross margin percentage decreased slightly year over year to 69%.
<unk> the impact of latest change in accounting estimate gross margin percentage decreased roughly three points driven by sales mix shift to cloud lower Azure margin earlier and nuance.
Operating expense increased 15% and 18% in constant currency driven by investments in cloud engineering, Linkedin nuance and commercial sales at a total company level head count grew 22% year over year as we continued to invest in key areas just mentioned as well as customer deployment.
Count growth included roughly six points from the nuances Andrew acquisition, which closed last Q3 and Q4, respectively.
Operating income increased 6% and 15% in constant currency and operating margins decreased roughly two points year over year to 43% excluding.
Excluding the impact of the change in accounting estimate operating margins declined roughly four points year over year, driven by sales mix shift to cloud and favorable FX impact nuance and the lower Azure margin earlier.
Now to our segment results.
Revenue from productivity and business processes was $16 5 billion and grew 9% and 15% in constant currency ahead of expectations with better than expected results in office commercial and Linkedin.
Office commercial revenue grew 7% and 13% in constant currency office 365, commercial revenue increased 11% and 17% in constant currency slightly better than expected with the strong renewal execution noted earlier.
Growth was driven by installed base expansion across all workloads and customer segments as well as higher <unk> from <unk> five demand for security compliance and voice value in Microsoft for 65 drove strong <unk> momentum again this quarter.
Paid office 365 commercial seats grew 14% year over year, driven by our small and medium business and frontline worker offerings. Although we saw continued impact of new deal moderation outside of <unk>.
Office consumer revenue grew 7% and 11% in constant currency driven by continued momentum in Microsoft for 65, subscriptions, which grew 13% to $61 3 million.
Dynamics revenue grew 15% and 22% in constant currency driven by dynamics, 365, which grew 24% and 32% in constant currency Linkedin revenue increased 17% and 21% in constant currency ahead of expectations driven by better than expected growth in talent.
<unk>, partially offset by weakness in marketing solutions from the advertising trends.
Earlier.
Segment gross margin dollars increased 11% at 18% in constant currency and gross margin percentage increased roughly one point year over year.
Including the impact of the latest change in accounting estimate gross margin percentage decreased slightly driven by sales mix shift to cloud offerings.
Operating expense increased 13% and 16% in constant currency and operating income increased 10% and 19% in constant currency, including four points due to the latest change in accounting estimate.
Next the intelligent cloud segment revenue was $23 billion, increasing 20%, 26% in constant currency in line with expectations overall server products and cloud services revenue increased 22% and 28% in constant currency.
<unk> and other cloud services revenue grew 35% and 42% in constant currency about a point lower than expected driven by the continued moderation in azure consumption growth as we help customers optimize current workloads, while they prioritize new workloads.
And our per user business, the enterprise mobility and security installed base grew 18% to over 232 million seats with continued impact from the new deal moderation noted earlier.
And our on premises server business revenue was flat and increased 4% in constant currency.
Slightly ahead of expectations, driven by hybrid demand, including better than expected annuity purchasing ahead of the sequel server 2022 launch.
Enterprise services revenue grew 5% and 10% in constant currency driven by enterprise support services.
Segment gross margin dollars increased 20% and 26% in constant currency and gross margin percentage decreased slightly exclude.
Excluding the impact of the latest change in accounting estimate gross margin percentage declined roughly three points driven by sales mix shift to azure and higher energy cost impacting azure margins operating expenses increased 25% and 28% in constant currency, including roughly eight points of impacts from nuance and operating.
Income grew 17% and 25% in constant currency with roughly nine points of favorable impact from the latest change in accounting estimate.
Now to more personal computing revs.
Revenue decreased slightly year over year to $13 $3 billion and grew 3% in constant currency in line with expectations overall, but with OEM and surface weakness offset by upside in gaming consoles.
Windows OEM revenue decreased 15% year over year, excluding the impact from the Windows 11, deferral last year revenue declined to 20% driven by PC market demand deterioration noted earlier.
<unk> revenue grew 2% and 8% in constant currency in line with expectations driven by the impact of a large hull and steel partially offset by low double digit declines in consumer surface sales.
Windows commercial products and cloud services revenue grew 8% and 15% in constant currency in line with expectations driven by demand for Microsoft 365, five noted earlier.
Search and news advertising revenue ex Tac increased 16% and 21% in constant currency in line with expectations benefiting from an increase in search volumes and roughly five points of impact from Xander, even as we saw increased AD market headwinds during September .
Edge browser gained share again this quarter.
And in gaming revenue grew slightly and was up 4% in constant currency ahead of expectations driven by better than expected console sales Xbox hardware revenue grew 13% and 19% in constant currency Xbox content and services revenue declined 3% and increased 1% in constant currency.
Driven by declines in first party content as well as in third party content, where we had lower engagement hours and higher monetization, partially offset by growth in Xbox game pass subscriptions.
Segment gross margin dollars declined, 9% and 4% in constant currency and gross margin percentage decreased roughly five points year over year, driven by sales mix shift to lower margin businesses.
Operating expenses increased 2% and 5% in constant currency driven by the Xander acquisition and operating income decreased 15% and 9% in constant currency.
Now back to total company results.
Capital expenditures, including finance leases were $6 $6 billion in cash paid for PP&E was $6 $3 billion or.
Our data center investments continue to be paced on strong customer demand and usage signals cash.
Cash flow from operations was $23 $2 billion down 5% year over year, driven by strong cloud billings and collections, which were more than offset by a tax payment related to the transfer of intangible property completed in Q1 FY 'twenty two.
Free cash flow was $16 $9 billion down 10% year over year, excluding the impact of this tax payment cash flow from operations grew 2% and free cash flow was relatively unchanged from here.
This quarter other income and expense was $54 million driven by interest income, which was mostly offset by interest expense and net losses on foreign currency Remeasurement.
Our effective tax rate was approximately 19% and finally, we returned $9 $7 billion to shareholders through share repurchases and dividends.
Now moving to our Q2 outlook, which unless specifically noted otherwise is on a U S dollar basis my.
My commentary for <unk>.
Both the full year and next quarter does not include any impact from Act division, which we still expect to close by the end of the fiscal year.
First FX.
With the stronger U S dollar and based on current rates. We now expect FX to decrease total revenue growth by approximately five points and to decrease total Cogs and operating expense growth by approximately three points within the segments. We anticipate roughly seven points of negative FX impact on revenue growth and productivity and business process.
<unk> six points in intelligent cloud and three points in more personal computing.
Our outlook has many of the trends we saw at the end of Q1 continue into Q2.
In our consumer business materially weaker PC demand from September will continue and impact both windows OEM surface device results, even as the windows installed base and usage grows as you heard from Sofia.
Additionally cut.
Customers, focusing our advertising spend will impact Linkedin and search and news advertising revenue.
In our commercial business demand for our differentiated hybrid and cloud offerings together with consistent execution should drive healthy growth across the Microsoft cloud and commercial bookings continued strong execution across core annuity sales motions and commitments to our platform should drive solid growth on <unk>.
Moderately growing expiry base against a strong prior year comparable which included a significant volume of large long term azure contracts as a reminder, the growing mix of larger long term azure contracts, which are more unpredictable and their timing.
Always drives increased quarterly volatility in our bookings growth rate.
Microsoft Cloud gross margin percentage should be up roughly one point year over year, driven by the latest accounting estimate change noted earlier, excluding that impact Q2 gross margin percentage will decrease roughly two points driven by lower Azure margin, primarily due to higher energy cost revenue mix shift to azure.
And the impact from nuance.
And capital expenditures, we expect a sequential increase on a dollar basis with normal quarterly spend variability and the timing of our cloud infrastructure Buildout.
Next to segment guidance.
Productivity and business processes, we expect revenue to grow between 11% and 13% in constant currency or 16, 6% to $16 9 billion U S dollars and office commercial revenue growth will again be driven by office 365 with seat growth across customer segments, and our <unk> five we expect op.
<unk> hundred 65 revenue growth to be similar to last quarter on a constant currency basis and our on premises business. We expect revenue to decline in the low to mid thirties and office consumer we expect revenue to decline low to mid single digits as Microsoft 365 subscription growth will be more than offset by unfavorable FX.
Impact for.
For Linkedin, we expect.
<unk> strong engagement on the platform, although results will be impacted by a slowdown in advertising spend and hiring resulting in mid to high single digit revenue growth or low to mid teens growth in constant currency.
And in dynamics, we expect revenue growth in the low double digits are the low twenty's in constant currency driven by continued share gains and dynamics 365.
For intelligent cloud, we expect revenue to grow between 22% and 24% in constant currency or 20, 125 to 20 155 billion U S dollars.
Revenue will continue to be driven by Azure, which as a reminder, can have quarterly variability primarily from our per user business and from in period revenue recognition, depending on the mix of contracts we have.
Expect azure revenue growth to be sequentially lower by roughly five points on a constant currency basis as our revenue will continue to be driven by strong growth in consumption with some impact from the Q1 trends noted earlier.
And our per user business should continue to benefit from Microsoft 365 suite momentum, though we expect moderation in growth rate given the size of the installed base.
On premise software business, we expect revenue to decline low single digits as demand for our hybrid solutions, including strong annuity purchasing from the sequel server 2022 launch will be more than offset by unfavorable FX impact.
And in Enterprise services, we expect revenue growth to be in the low single digits, driven by enterprise support and more personal computing, we expect revenue of $14 five to $14 9 billion U S dollars.
In Windows OEM, we expect revenue to decline in the high 30 <unk>.
Excluding the impact from the Windows 11 revenue deferral last year revenue would decline mid thirties, reflecting both PC market demand and a stronger prior year comparable particularly in the commercial segment.
Devices revenue should decline approximately 30% again roughly in line with the PC market and.
In Windows commercial products and cloud services customer demand for Microsoft 365, and our advanced security solutions should drive growth in the mid single digits or low double digits in constant currency.
Search and news advertising ex Tac should grow in the low to mid teens, roughly six points faster than overall search and news advertising revenue driven by growing first party revenue and the inclusion of vendor.
And in gaming we.
<unk> revenue to decline in the low to mid teens against a strong prior year comparable that included several first party title launches, partially offset by growth in Xbox game pass subscribers, we expect Xbox content and services revenue to decline in the low to mid teens.
Now back to company guidance.
We expect Cogs to grow between six and 7% in constant currency or to be between $17, four and $17 6 billion U S dollars and operating expense to grow between 17, and 18% in constant currency or to be between $14. Three in 2000 14.4 billion U S dollars.
As we continue to focus our investment in key growth areas total head count growth sequentially should be minimal.
Other income and expense should be roughly $100 million of interest income is expected to more than offset interest expense.
Further FX and equity movements through Q2 are not reflected in this number and as a reminder, we are required to recognize mark to market gains or losses on our equity portfolio, which can increase quarterly volatility and we expect our Q2 effective tax rate to be between 19% and 20%.
And finally as a reminder, for Q2 cash flow, we expect to make a $2 $4 billion cash tax payment related to the capitalization of R&D vision and that going into 2017, Tc JA and effective as of July 1st 2022.
Now some thoughts on the full fiscal year.
First FX.
Based on current rates, we now expect a roughly five point headwind to full year revenue growth and.
And FX should decrease Cogs and operating expense growth by approximately three points.
At the total company level, we continue to expect double digit revenue and operating income growth on a constant currency basis.
Revenue will be driven by around 20% constant currency growth in our commercial business driven.
Driven by strong demand for our Microsoft cloud offerings.
That growth will be partially offset by the increased declines we now see in the PC market.
With the high margins in our Windows OEM business and the cyclical nature of the PC market, we take a long term approach to investing in our core strategic growth areas and maintain these investment levels, regardless of PC market conditions.
Therefore, with our first quarter results and lower expected OEM revenue for the remainder of the year as well as over $800 million of greater than expected energy costs. We now expect operating margins in U S dollars to be down roughly a point year over year on a constant currency basis, excluding the incremental impact of the <unk>.
Lower windows, OEM revenue and the favorable impact from the latest accounting change.
Continue to expect FY 'twenty, three operating margins to be roughly flat year over year.
In closing.
In this environment. It is more critical than ever to continue to invest in our strategic growth markets such as cloud security teams dynamics 365 and Linkedin.
Where we have opportunities to continue to gain share as we provide problem solving innovations to our customers.
And while we continue to help our customers do more with less we will do the same internally and you should expect to see our operating expense growth moderate materially through the year, while we focus on growing productivity of the significant head count investments we've made over the last year with that let's go to Q&A Brett.
Thanks, Amy we'll now move over to Q&A out of respect for others on the call. We request that participants. Please ask only one question.
Jesse can you please repeat your instructions.
Absolutely if you would like to ask a question. Please press star one on your telephone keypad at this time the confirmation tone will indicate that your line is in the question queue. You May Press Star two if you would like to remove your question from the queue for participants using speaker equipment may be necessary to pick up your handset before pressing the star keys.
Our first question is coming from the line of Keith Weiss with Morgan Stanley . Please proceed with your question.
Excellent. Thank you guys for taking the question and impressive results in what's obviously, a very difficult environment.
Question for Amy and it pains me to ask a question about a percentage point, but I think this is what's on a lot of investors' minds. As this is two quarters in a row now where azure constant currency growth came in a little bit below your guidance and I think what investors are worrying about or sort of wondering about is is there an inherent volatility in that business thats just harder to forecast.
Yes.
And on a go forward basis, how should we think about that forecast have you applied more conservatism in it and how should we think about azure growth like the glide path for the full year. If you could address those it would have put a lot of investor minds at ease.
Thanks, Keith and I do appreciate you asking about that one point because I do know it is a point of focus every quarter.
What I would say is there is some inherent volatility to that number a point here or there as you've heard me say it but we've been a point better and you've heard me say it when we've been a point worse and I want to focus mostly on what.
And how do you see the number which is that it is still a very large growth rate with growth across all segments and with growth across all geos that was the question generally in line with where we expected and what we did see through the quarter.
Is a real focus both by customers, but also by our sales and customer success teams.
Ongoing proactively to customers and making sure we are helping them optimize their workloads and as we went through the quarter.
And as of course, the macroeconomic environment got more complicated we continued to focus on that because ultimately those optimizations break value even as budgets are still growing and budgeted spend is still growing and so it's this nuance of youre still seeing digitization. This is still the tail.
And that helps customers solve problems. This is still the way to build growth and leverage in your business and yet you're still going to optimize your workloads you still want to run the most efficiently. So that you can then make room for new workload growth.
We saw that across all segments. If there was one segment.
Well I may have seen a bit more I would say in the small or mid sized.
Segment of the market that tends to be more through partner, we rely on partners to help customers do those same optimizations and prepare workloads.
But.
It is that one point I know that people are focused on but if you step back and say this is how you drive ultimate share gains and build customer loyalty and help customers grow I think that needs to be the focus.
Our teams inside the company and also the partners that we rely on to help customers do that as well.
And so as I look forward there is some inherent volatility to this number and here I think you'll hear us talk about continuing to invest.
To make that happen, whether it's in customer success, whether it's an optimization, whether it's frankly in engineering to help people be able to even have better solutions to optimize against.
I do think that will will remain top of my for us even as this remains probably the most exciting opportunity in tam across and fraud data and AI that existing tech and technology on the stock. If you don't I mean, I think that Thats, the only thing I would add.
Amy to your point is that obviously our investment profile here is that this is the largest staff, where we own a large number have good growth rates with the kind of volatility you see so we're going to stay focused on it and in this particular period I think we're going to optimize for long term customer loyalty by proactively help them off.
Is this spend which I think is the right thing for us to be doing as a company for on behalf of our shareholders long term.
Okay. Thank you guys.
Thanks, Keith Jesse next question please.
Our next question comes from Mark <unk> with Bernstein Research. Please proceed with your question.
Thank you I'd like to.
Follow up on the last question on Azure specifically.
So next quarter Youre guiding to sequential further slowing in the business.
Is that the.
A factor of optimization is is it something else is going on in here, how should we think about that that specific component of the guidance.
Given the fact that you've got.
Good bookings strong <unk> growth et cetera.
Thanks, Mark I'll, all you are right and let me go ahead and reiterate part of that which is that.
This quarter as you saw we did have very good bookings growth.
Within the RPI number that youre, referring to we had but we would call long dated growth, which means we are having and seeing customers continue to signed commitments to the platform and that goes really to what some convention does that.
Plans to invest here remain intact and so it's about both the optimization that you've.
Talking about and we are seeing in the guide includes that and it also includes new workloads starting.
And those also may not be matched up want to want to see.
Sort of a consistent pattern.
And that does result in some volatility the other piece of it Mark that we didn't talk about before because that was really focused on consumption is that there is per user headwinds as well right because we're getting and seeing some of these laws of large numbers.
In terms of the per seat business. So there's a couple of things going on earmarks against as you said a very large base.
So it's not just the optimization to new workloads. It's also it's also some per user work as well.
Okay. Thank you I appreciate it.
Thanks, Mark Jesse next question please.
The next question is from Brent Thill with Jefferies. Please proceed with your question.
Amy last quarter, you called out for the first time SMB weakness it sounds like that that continued I think many are questioning if did that get worse. This quarter and did you see it filter now into the enterprise can you talk about.
What youre seeing higher above SMB.
Thanks, Brent maybe this was a chance to talk a little bit about Microsoft 365, I think that's a place where we.
We can talk specifically about the SMB market because we did see continued impact there in Q1, although it was not.
Different than what we saw frankly.
Q4.
In Microsoft 365, what you saw was very good renewal execution.
And it speaks to I think the value people are seeing in Microsoft for 65, we had on type of deals that are frankly better.
In Q1 based on explorations than we'd seen a year ago. So deals are both getting done and I think getting done on time.
Getting done within a discount range that we feel good about that's consistent.
We saw good upsell to <unk> five so if you think about that as sort of forming the basis of what are we seeing above SMB. That's a good summary.
Where are we in fact saw.
Talked about it you feel moderation I preferred to that frankly in Q4 as well.
It tended to be in to your point the smaller end of the market small to mid sized companies and also tended to be through partner, which we had talked about before Brent a little bit and I preferred to.
And it tended to be around selling.
What is in fact, some new value that we've put into <unk>. Three. So this is a place where there is some macro impact, but there's also I think a better job. We can do in our E. Three SKU, which is really our core value proposition. We added a lot of value to that SKU in Q4 in terms of security.
In auto patching for Windows, It's a great value in the same way he fine if we land a five building well we've got some work to do on landing three so there is some macro it seems pretty consistent frankly board that inconsistent with what we saw and there is some execution and I think frankly, we can get better at as well.
Thank you.
Thanks, Brent Justin next question please.
Our next question is coming from Mark Murphy with Jpmorgan. Please proceed with your question.
Yes. Thank you very much Satya this quarter, we're seeing an inflection in many of your AI breakthroughs are.
Thinking of Github co pilot and the image generation in your designer product what is it that's enabling you to innovate so rapidly and essentially to be first to market.
Im wondering if its the open AI relationship or maybe some of your inferencing capabilities or something else and then as a quick follow up Amy you did mentioned the lower margins in Azure due to the higher energy costs is our U.
Are you inferring that we can kind of dimensionalize that that incremental impact at something like 200 million per.
Per quarter or and then is there anything you can do to try to manage that through this period.
Thanks for the question.
First yes, the opening <unk> partnership is a very critical partnership for us.
Absent sort of important to call out that rebuilt.
Our supercomputing capability inside of Azure, which is highly differentiated the way compute in the network in particular come along come together in order to support. These large scale training of these platform models or foundation models has been very critical that's what's driven in fact the progress opening.
<unk> has been making and of course with that product is it.
As part of Azure open AI services and Thats, what the CE.
Used by our own first party applications, whether it is to get a profile that both design.
Even inside badge.
And then of course, the third party hotel at so we're very excited about that you have a lot sort of board sort of talked about when it comes to get up to diverse I think you'll see more advances on get up copilot, which is off to a fantastic start but overall this is.
Huge investment, but clearly.
Clearly has arrived.
And it's going to be part of every product.
You mentioned all power backup because that's another area.
Innovating in terms of corporate policies AI models.
So yes, so I think AI is a place where I think we have a differentiated differentiated capability at the infrastructure layer for training and inference at the models themselves up platforms for third parties and our first party applications are getting better because of the use of those AI models.
And to your question on energy costs, let me try to provide a little bit of help there we.
We did not see as big of that as I said, it's over 800 for the year some of that was in Q1.
But the majority of it will be in Q2 through four.
And I think if you wanted to think about it if somebody yet 250 ish a quarter.
Exactly but that would be a decent assumption for the remainder of the year.
Thank you.
Thanks, Mark Jessica next question please.
Our next question is coming from the line of Karl Keirstead with UBS. Please proceed with your question.
Okay great.
Just housekeeping on margins.
Clearly you're experiencing a little bit more sales mix given the weakness on the windows side. It looks like you've elected not to throttle back opex to enable you to meet.
<unk> three months ago guidance for flat margin, so they'll know drift a little bit lower do you mind talking through that decision why not to throttle back opex.
As a counter to that windows pressure.
Thanks Carl.
I shared a little bit on the call, but let me share a little more because I think it's important in terms of how we think about investment and continuing to invest where we're seeing substantial opportunity and growth.
The PC market is cyclical.
And we had some great benefits for a couple of years during the pandemic and we chose not to spend against that favorability over the past couple of years and it fell to the bottom line and you saw substantially increased margins over that time period.
And we did that potentially because it is a cyclical market and so in the same way I see it now is that.
These fees are going to be a tough headwind for us for the year.
But overall the windows backs installed base, our ability to grow usage, it's still higher than it was and that's a good opportunity for us.
So in the same way that we let it fall to the bottom line when we saw a surge it's important to stay consistent.
In this town market, because when you have type of opportunity.
We have specifically in the commercial business and the Tam that Satya talked about as being some of our most exciting.
The opportunity with your customers to gain share to gain confidence right and I think it's important to have a steady hand.
Now let me also say.
It is not as though we are not responding to the macro environment around cost.
As I commented, our sequential headcount growth from Q1 to Q2 will be minimal.
It'll be about investing where we said, we would invest which isn't focused areas. It's about moving head count to make sure inside the company. We've got it on the highest and most important thing.
We've added a lot of head count over the past 12 months and we wanted to make sure we use those head count and the most productive way possible and we're going to do that.
And also we're going to frankly.
<unk>.
Investments that we've made at the end of phase II Carl.
We closed nuance at the end of Q3, we quote Zander in Q4, when we comp it lap those you will see a material decline in Opex investment you will also see us start to lap some of the head count searches that we made last year in key areas and by that I feel good that we will.
See productivity improvements from the head count have and our focus and so it's our ability to say absolutely I wanted to stay consistent and we'll respond to the macro if it's possible to do both those things and I think that's what we're doing.
Got it thank you.
Thanks, Carl just the next question please.
Our next question is coming from Brad Sills with Bank of America. Please proceed with your question.
Wonderful. Thanks for taking my question I wanted to ask a question about office commercial a lot of the growth here is driven by subscriber growth. This quarter. For example, 17% constant currency subscriber growth of 2014 could you remind us where the incremental subscribers coming from could we see that that mix of growth shift away from subscribers towards asps potentially.
Over time, I think youre already over 300 million subscribers. So just just any color on just the runway from here where is the incremental <unk> coming from them with all the work that youre doing with <unk> hundred five in collaboration security analytics might we see more of the growth coming from Asps versus subscriber growth over time. Thank you so much.
Thanks, Brian It's a good question because you've continued to see the seat growth I think for actually much longer than many of the investors had expected and it really.
It should continue in some ways because we're focusing on frontline worker scenarios, we're continuing to focus on small sized business growth.
We're adding things to which you can grow whether thats veeva, whether its teams, there's new things that enable us to add.
Relevant team frankly, and then to add value and then to add seats and so I don't want to say it has to be again. This vision of ore. So I think you'll continue to see lower and seat growth, which is what we've been seeing.
And you will see us continue to focus on the value of <unk> five and.
The three SKU, where we've added some value making sure we can still boot people.
To that suite as well and so you will see right over time.
Long term.
The seat growth.
Sure.
Move a little bit and then Youll see Asp's show up and it depends a little bit on VIX frankly, each quarter you saw a little more <unk> in Q4, you saw a little less in Q1 that had to do with some <unk>.
<unk> three.
Our execution in Q1, but I actually think there's room to do both those things that I felt that way now for.
For a couple of years.
Great to hear thanks, Amy.
Thanks, Brad Jesse next question please.
Our next question is coming from the line of Gregg Moskowitz with Mizuho. Please proceed with your question.
Okay. Thank you Satya and Amy is a follow up on Azure I'm curious how you foresee the magnitude of two different variables on cloud computing demand over the near to medium term the first being economic pressures on the willingness of some customers to spend in the second being the impact of the spike in energy costs, perhaps as a facilitator for substitute more in the cloud.
<unk> do you see these as largely offsetting factors or are you expecting the former variable to be a lot more prominent in the field.
Later, thank you.
Yes, I mean, the way we see it as overall macro will mean that everybody's going to optimize their bill in fact, as Amy said, our job number one for large swathes of odd sort of even customer facing organizations used to proactively help them optimize and fact that incentives.
Our customer success teams are lined up with them helping customers.
So that's sort of one side.
Thing built from a customer perspective, the best way for them to align their spend with what is uncertain demand is to move to the cloud. So we see the value prop the cloud so the big winner in all of this will be public cloud because of the cloud helps businesses offset the risk of demand.
The other side as you described it is the risk around supply chain or energy costs and so that's it on the best way to hedge against it the energy cost.
More energy efficient is to boot.
O'clock, So that's where I think a little bit of as you think about it.
What happens to cloud for US we look at this and say this is a period, where cloud great going to gain share.
Because we're still in the early innings of adoption and so we just want to be best going into it with that mindset.
Customer loyalty.
Very helpful. Thank you.
Thanks, Craig Jesse we have time for one last question.
Thank you. Our final question is coming from the line of Brent <unk> with Piper Sandler. Please proceed with your question.
Good afternoon, and thanks for taking the question here helpful color on cloud I wanted to pivot to advertising. This was a segment that crossed over $10 billion I think earlier this year Netflix rolling out AD supported model next year powered by Microsoft what is the broader Microsoft advertising ambitions maybe.
Three to five years here given these are very large and very very profitable segments that Microsoft has not historically focused on thanks.
No. Thanks for the question.
Yeah.
Our core advertising business has got two elements to it one is I'll call. It late did <unk> advertising, where we clearly have a leadership position around both reach quality of ROI.
And we will continue of course, it'll be cyclically impacted but we feel that the Linkedin engagement continues to grow at that as that market comes back.
Position.
It's linked in our quoted operated.
Feel felt.
We'll continue to invest in that space.
<unk> is the place where.
We are again very very focused on first starting with our own owned and operated so when we talk about the overall active devices or windows have grown by 20% over the pandemic one of the big opportunities. It opens up is for us too.
All the non operated inventory right, whether it is baking in search whether its the feed.
And those are things that you will see some of the growth share takers in the browser.
Sure because it does sort of engagement of the feed and.
And those are things that we all are high leverage on top of the installed base that is now structurally changed.
To grow.
And then the third party with Netflix we are really excited about that.
We're going to look to grow our first make Netflix a successful popped up but it's going to continue to grow our third party business onto the platform. So those would be the three areas linked in our own shop visit advertising.
Search and feed as well as third party AD network.
Thanks, Brett.
Wraps up the Q&A portion of today's earnings call. Thank you for joining us today, and we look forward to speak with all of you soon.
Thank you. Thank you very much.
Thank you ladies and gentlemen, this does conclude today's teleconference. We thank you for your participation and you may disconnect your lines at this time.