Rise of AI Cloud! Has the market overlooked Microsoft's (MSFT.US) pressure and underestimated Amazon's (AMZN.US) potential?

Microsoft's market value has surged past $400 billion, seemingly eclipsing Amazon's spotlight in the AI competition. But in this human-driven cloud competition, investors' attention may need to shift from growth rate to a more profound profit structure.

The AI cloud competition is not just a test of technology and growth; it's also a reshaping of the profitability models for tech giants. The latest analysis article by TheInformation points out that in this competition, Microsoft and Google are facing pressure from the expansion of their cloud businesses, while Amazon's AWS business has an opportunity to boost its overall profitability, which seems to be underestimated by the market.

In the latest quarter, both Microsoft and Google have announced accelerated growth data for their cloud businesses. Compared with AWS, which grew 17% in that quarter, its business structure reveals a different story. AWS's profitability far exceeds its core e-commerce business, meaning that each incremental growth in its cloud business optimizes Amazon's overall profit.

The Cost of High Growth: Microsoft and Google's "Sweet Worry"}

For Microsoft and Google, the strong growth of their cloud businesses is a double-edged sword.

According to the latest quarterly data, Microsoft's "Intelligent Cloud" department has a profit margin of 40.6%, while its "Productivity and Business Processes" department, which includes commercial software, has a profit margin of 57.4%. Similarly, Google's cloud business has a profit margin of 20.7%, far lower than its main advertising business with a profit margin of 40%.

The issue is that the two companies' cloud businesses, which have lower profit margins but faster growth rates, are diluting their overall profitability. Data shows that Microsoft's cloud business grew 26% in that quarter, far higher than its software business growth rate of 16%; Google's cloud business also grew 32%, much higher than its service department growth rate of 12%.

Analysts believe that as AI continues to drive companies towards the cloud, this "growth imbalance" trend will become more pronounced. In the long run, it may mean that these two companies' overall profit rates will be gradually diluted by their growing cloud businesses, and eventually converge with the profitability of their cloud businesses. Additionally, whether new AI products will erode Microsoft's profitable enterprise software and Google's search advertising business is another potential risk.

Amazon's Potential Being Underestimated? Cloud Business May Become Profit Engine}

Amazon's situation is exactly the opposite. Its AWS business is the core engine of its profitability. In the latest quarter, AWS's operating profit margin reached 33%, while its massive e-commerce business has a profit margin of only 6.6%.

Historical data confirms this trend. From 2017 to 2024, as AWS' share in Amazon's total revenue increased from 9.8% to 17%, the company's overall operating profit rate also rose from 2.3% to 10.7%. The expansion of its cloud business is the key driver of Amazon's profitability.

Although the market is concerned about AWS' 17% growth rate, there are signs that it may be poised for an acceleration. According to a report by New Street Research analyst Dan Salmon, AWS' backlog business (i.e., customer commitments for future orders) surged 25% in that quarter, which is a strong indicator of future revenue.

Naturally, all cloud service providers face common challenges: the massive capital expenditures required to support AI will push up depreciation costs and pressure the profitability of their cloud businesses. However, the core issue lies in the long-term evolution of business combinations. For Google, the market seems to have already recognized the risk of profit rate erosion, with its stock price performance lagging behind Meta's and other advertising industry peers. However, from Microsoft's stock price valuation, investors seem to be selectively ignoring the same risk.

And for Amazon, the market may be overemphasizing its current growth data while underestimating its business reserves' potential for future growth and its unique profit growth model.