How Microsoft Could Supplant Apple As The World's Most Valuable Firm - Mint

How Microsoft could supplant Apple as the world’s most valuable firm | Mint 28/09/23, 8:02 PM
How Microsoft could supplant

Apple as the world’s most valuable
firm
Economist
The mind-boggling capabilities of “generative” AI look set to transform many desk jobs. It is also a glimpse into
the future of Microsoft
For years Microsoft has been trying to coax office workers to write
reports, populate spreadsheets and create slide shows using its office
software. No longer: now it wants to do the writing and populating for
them. At its headquarters in Redmond, a leafy suburb of Seattle, the firm
demonstrates its latest wizardry. Beyond the plate-glass windows, snow-
capped mountains glisten and pine trees sway. Inside, a small grey
rectangle sits at the top of a blank Word document. With a few words of
instruction, a chatbot powered by artificial intelligence (AI)—or “Copilot",
as Microsoft calls it—finds a vast file in a computer folder and summarises
its contents. Later, it edits its own work and succinctly answers questions
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about the material. It can perform plenty of other tricks, too: digging out
emails on certain topics, drawing up a to-do list based on a meeting and
even whipping up a passable PowerPoint presentation about your
correspondent.
This is a glimpse into the future of work. The mind-boggling capabilities of

“generative" AI look set to transform many desk jobs. It is also a glimpse
into the future of Microsoft, which was once the world’s most valuable
public company and hopes to reclaim the title by selling the technology
that will power the transformation. Through the firm’s investment in
OpenAI, the startup behind ChatGPT, a popular AI chatbot, it is able to
inject cutting-edge AI into its products.
Pilot whale
That does not just mean adding the Copilot to its office-work software
(previously called “Office", but recently rebranded as “Microsoft 365"),
which will be rolled out in November. This week the firm will launch a
Copilot for Windows, its operating system, which will be able to change
your computer’s settings, generate images and summarise web pages.
Copilots for its sales software and human-resources offerings are already
available. One for its security software is in the works. In February
Microsoft added ChatGPT-like functions to Bing, its search engine, in
effect another Copilot. With its squadron of Copilots, Microsoft is inserting
generative AI into almost every aspect of its business.
View Full Image
(Graphic: The Economist)
This is perhaps the biggest bet any company is taking on AI. The prize is
potentially huge. Copilots could transform the world of work for the 1.2bn
people who use Microsoft 365 and the 1.4bn who use Windows. This
would allow Microsoft to bring in new customers and charge them more.
That, in turn, could drive business to Azure, Microsoft’s high-margin cloud
business, possibly helping it overtake Amazon Web Services (AWS) to
become the world’s biggest cloud firm. It could even help Microsoft’s
valuation above the current $2.3trn, potentially closing the gap with
Apple, currently the world’s most valuable firm (see chart 1).
In effect AI offers Microsoft a tantalising chance to do something that has

eluded it until now, and bring together all that it offers, argues Mark
Moerdler of Bernstein, a broker. Teams, Microsoft’s video-conference
service, might be more attractive to IT managers than Zoom, a rival, if it
features a Copilot that can sort through employees’ emails in Outlook and
summon up information from their Word documents and PowerPoints. All
this wizardry can also be channelled through Azure, further boosting
Microsoft’s business.
Nonetheless Microsoft is also taking a big gamble. Next year its capital
spending is expected to jump by almost two-fifths, to about $40bn. That
is a near-record 16% of the firm’s revenue and a higher share than any
other tech giant save Meta, the parent of Facebook. Much of this will be
spent on new AI chips and high-performance networking to go into the
120-odd extra data centres it plans to bring online. Whether such an
investment will pay off is an open question. For all their promise, Copilots
still have plenty of problems. At the demonstration in Redmond the AI-
generated slide show described your correspondent as “CEO of ABC Inc",
which he definitely is not. Competitors, in particular Alphabet (the parent
of Google), are eyeing up all the same markets. As the battle over the
future of work heats up, Microsoft’s position is enviable but not
unassailable.
Putting itself in that position has been a long endeavour. Microsoft’s

heyday was in the 1990s. The dominance of Windows as an operating
system combined with a cut-throat business mentality made the firm
mighty but roundly despised. A period of stagnation followed, as it lived
off the revenue from Windows. When Satya Nadella took over in 2014, he
shook things up. Windows would no longer be the firm’s main focus.
Instead the company was reorganised around Azure, with blockbuster

programmes, such as Office, shifting to the cloud. This involved an
enormous build-out of data centres. Microsoft’s capital spending went
from 6% of revenue in 2014 to 11% five years later. Crucially, the firm
moved away from a walled-garden approach. Mr Nadella allowed
Microsoft’s software to run on other operating systems, such as Google’s,
Apple’s and Linux, an open-source rival to Windows.
All the while Microsoft was also investing in AI. It first announced it was
working with OpenAI in 2016; it has since invested $13bn, for what is
reported to be a 49% stake. The deal not only allows Microsoft to use
OpenAI’s technology, but also stipulates that OpenAI’s models and tools
run on Azure, in effect making OpenAI’s customers into indirect clients of
Microsoft. And it isn’t just OpenAI. Microsoft has bought 15 AI-related
firms since Mr Nadella took over. That includes paying $20bn for Nuance,
a health-care firm with cutting-edge speech-to-text technology, in 2022.
View Full Image
Today Microsoft’s business relies on three divisions for growth. The first is
Azure. For the past five years it has been closing in on AWS (see chart 2).
Cloud spending is slowing as IT managers tighten purse strings. Despite
this, in the most recent quarter the business grew by 27% year on year.
Microsoft does not reveal Azure’s sales, but analysts think that it accounts
for about a quarter of the firm’s revenue, which hit $212bn last year. Gross
margins for its cloud business are also secret, but Bernstein puts them at
a lofty 60% or so.
Second is Microsoft 365, which also accounts for about a quarter of

revenue. That has been growing by about 10% a year of late, thanks to
take-up among smaller businesses, especially in service industries such
as restaurants. The third source of growth is cybersecurity. In earnings
calls Microsoft executives have said it accounts for roughly $20bn in
revenue (about a tenth of the total). That is more than the combined
revenues of the five biggest firms that provide only cybersecurity. What is
more, revenues are growing by around 30% each year. (Microsoft’s video-
game arm, which brings in $15bn a year, is also set to grow substantially
now that British antitrust regulators have signalled they will approve the
long-delayed acquisition of Activision Blizzard, another gamemaker, for
$69bn.)
Blue fine-tuner
Using Azure as the underlying infrastructure for Microsoft’s other
businesses has helped spread costs, streamline operations and boost
profits. Since 2014 operating margins have risen from 29% to 43%—
higher than other titans of tech (see chart 3). That has excited investors.
During Mr Nadella’s tenure Microsoft’s market value has risen by about
$2trn. Microsoft’s price-to-earnings ratio, an indication of investors’
expectations of future profits, has more than doubled during Mr Nadella’s

reign, to 32. That is higher than the S&P 500 average, and more than all
tech titans bar Amazon, whose figure is skewed by its paltry earnings.
View Full Image
Cheerleaders say Microsoft has two big advantages when it comes to

generative AI. The first is the range of software it sells. Asking a single
chatbot to peruse emails and spreadsheets to pull together a slide show is
much easier than dealing with different AI helpers for each programme.
Second, Microsoft has a first-mover advantage. It has been quicker to

deploy AI than rivals, thanks to its tie-up with ChatGPT and possibly also
because Mr Nadella feels that it was slow to react to smartphones and the
cloud. Whatever the reason, Microsoft’s speed has made OpenAI the
default for big firms trying out the technology. A recent survey of IT
managers by JPMorgan Chase, a bank, found that over the next three
years they expected 56% of their spending on generative AI to go to

Microsoft compared with 13% for AWS and 12% for Google Cloud
Platform (GCP).
Another survey by Sequoia, a venture-capital firm, of 33 startups that it

invests in, found that 90% of them used OpenAI. Keith Weiss of Morgan
Stanley, a bank, argues that an ecosystem is beginning to form around
OpenAI’s GPT-4 model. That includes consultants who specialise in its
tools and recommend that clients use them, as well as software sellers,
such as HubSpot, which build bespoke programmes that use OpenAI’s
models.
There is some evidence for the idea that Copilots could help cement
Microsoft’s lead. In June 2022 it launched a code-generating Copilot on
GitHub, a repository for code which Microsoft had bought in 2018 for
$7.5bn. The model was trained using the reams of code stored on GitHub.
It has quickly become an essential tool for software developers. In a
survey, 90% of users told GitHub that the Copilot improved their
productivity. The firm also conducted a small study that found that coders
completed tasks 55% more quickly when using the tool. Some 27,000
businesses have a subscription, twice the number of three months ago. It
is so popular in tech circles that the term “copilot" has become shorthand
for an AI assistant, whether provided by Microsoft or not.
Microsoft says firms testing a Copilot for its “productivity" software

(meaning, for email, spreadsheets, word-processing and the like) report
similar benefits. Kate Johnson, the boss of Lumen, a telecoms firm,
describes it as a “step function change" in the way her staff work. She
uses it to look back at Teams meetings and see whether quieter
employees are being given a chance to speak. It also takes instant
minutes and draws up to-do lists for attendees. That helps with
accountability, adds Ms Johnson: the tasks staff were meant to complete
after the last meeting are “right there for everyone to see".
Copilots can also act as software coaches, teaching workers how to insert
charts in spreadsheets, for example. The goal is that they will eventually
be able to learn users’ preferences and even their writing style. “We hope
one day to deliver a highly effective alter ego—an agent that knows you
deeply," Mr Nadella wrote in his book “Hit Refresh", published in 2017.
All this does not come cheap. At $30 per user per month, Copilots may
mean a 52-83% mark-up, depending on the software package a firm
uses. Jason Wong of Gartner, a research firm, says, “That is expensive
compared to the licences but cheap if it is going to save you hours a
week."
The other way Microsoft will make money from Copilots is from the
underlying infrastructure. In May it announced its “Copilot Stack" on
Azure. This makes it easy for developers to build Copilots in their own
applications or to create “plugins" for Microsoft’s Copilots. The hope is
that lots of firms use this infrastructure, sending much more business to
Azure. Another advantage of this “platform" approach is that Microsoft
may be able to strike deals to use the data of Azure’s clients to bring, say,
legal expertise into a Word document or email. That creates an advantage
that “competitors are going to find very difficult or impossible to
replicate", a research note from Bernstein argues.
Hammerhead
In the second quarter of the year AI added roughly $120m to Microsoft’s
cloud revenues. That is expected to double in this quarter. In 2025, Mr
Weiss estimates, AI could boost revenue by $40bn, largely through
Azure’s AI tools and 365’s Copilots.
Such growth would not be cheap. New Street Research, a firm of

stockmarket analysts, reckons that Microsoft is the biggest customer of
Nvidia, the world’s largest seller of AI chips. Its research suggests that
Microsoft spent roughly $3bn on Nvidia’s AI chips in the second quarter of
2023, up from about $1bn in the first quarter. In a call with investors in
July, Amy Hood, the chief financial officer, noted that the AI build-out is
putting pressure on Microsoft’s puffy margins in the cloud. That is being
offset, she says, by more efficient data-crunching. Scott Guthrie,
Microsoft’s head of cloud and AI, says, “We are seeing inference costs
[those related to asking an AI model a question] going down and expect to
see that continue and models get more accurate and more efficient."
Even if spiralling costs are contained, there are plenty of other risks.
Competition is white-hot. One battle is for the $340bn market for
business software. In May Google announced Duet for Workspace, its
version of Copilots. Last week it released features allowing Bard, its
chatbot, to access user’s Gmail inboxes and Google Docs. Salesforce, a
software giant, has Einstein. Slack, a messaging app and one of
Salesforce’s subsidiaries, has Slack GPT. ServiceNow, whose software
helps firms manage their workflow, has Now Assist. Zoom offers Zoom
Companion. Intuit is selling Intuit Assist. Startups such as Adept and
Cohere offer AI assistants, too. OpenAI launched its enterprise-focused
ChatGPT in August.
Supplying the infrastructure to underpin such ai offerings will be another

battlefield. AWS and GCP both offer access to AI models similar to those
of OpenAI. Analysts suspect these rivals have more experience deploying
specialist AI chips than Microsoft. In August Google unveiled a new AI chip
for training large models.
All generative AI tools, including Copilots, must also be made “enterprise

ready", says Ken Allen of T. Rowe Price, a big investor in Microsoft. One
issue is legal. Most AI models are trained on copyrighted materials, which
users may inadvertently reproduce. The head of IT at a big oil-and-gas-
services firm says he stopped employees from using GitHub’s Copilot
after his firm was sued in November for breach of copyright. Microsoft, for
its part, has agreed to cover customers’ legal fees related to its Copilots,
provided they use Microsoft’s safety features, such as content filters.
Models can also get things wrong. Microsoft has reduced such problems
by training them on accurate, up-to-date information and including more
citations. But that did not prevent your correspondent’s promotion to CEO.
Jared Spataro, who is in charge of Microsoft’s productivity software, says
that Copilots entail an “entirely new way of working", in which the machine
helps you produce more “but it isn’t always right". Humans must be alert
to this and, if necessary, make corrections.
A third concern is data governance—making sure that only the right

employees get access to the right information. An analyst notes that some
early users of Copilots are discovering “really scary" results. Imagine
personnel files or confidential emails coming up in a search, say.
There is also the near-certainty that Microsoft will be accused of abusing

its market power. (Endless competition headaches plagued its previous
period of ascendancy, in the late 1990s.) The firm is already fighting on
many fronts. In August it announced that it would “unbundle" Teams from
its software packages, after complaints from Slack triggered an EU
investigation. Customers have also complained about the way Microsoft’s
software licences nudge companies to use Azure, rather than AWS and
GCP. Brad Smith, Microsoft’s president, has called this a “valid concern"
and the firm says it has made changes. But in June Google submitted
comments to a probe by America’s Federal Trade Commission, claiming
that Microsoft uses unfair licensing terms to “lock in clients".
These types of disputes will no doubt intensify as AI-powered software

becomes prevalent. If a Windows Copilot steers users to Outlook rather
than Gmail, say, trustbusters may cry foul. The upshot of this could be to
weaken Microsoft’s ability to use a breadth of software offerings to make
Copilots more useful, one of its big competitive advantages.
Even so, Microsoft is in a strong position. It failed to seize on the advent of
smartphones and was slow to grasp the potential of the cloud. Today it
finds itself poised to exploit a technology that could transform the world
of work. It must maintain a delicate balance, moving faster than
competitors while ensuring that its advance into AI does not upset
regulators, sap profits or ruffle clients. If it slips, plenty of rivals are ready
to take its place. But if it succeeds, the reward will be huge. The Copilot
will be the captain of its fortunes.
© 2023, The Economist Newspaper Limited. All rights reserved. From The
Economist, published under licence. The original content can be found on
www.economist.com
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How Microsoft could supplant Apple as the world’s most valuable firm | Mint 28/09/23, 8:02 PM

How Microsoft could supplant

This is a glimpse into the future of work. The mind-boggling capabilities of

View Full Image

(Graphic: The Economist)

In effect AI offers Microsoft a tantalising chance to do something that has

Putting itself in that position has been a long endeavour. Microsoft’s

Instead the company was reorganised around Azure, with blockbuster

View Full Image

(Graphic: The Economist)

Second is Microsoft 365, which also accounts for about a quarter of

expectations of future profits, has more than doubled during Mr Nadella’s

View Full Image

(Graphic: The Economist)

Cheerleaders say Microsoft has two big advantages when it comes to

Second, Microsoft has a first-mover advantage. It has been quicker to

years they expected 56% of their spending on generative AI to go to

Another survey by Sequoia, a venture-capital firm, of 33 startups that it

Microsoft says firms testing a Copilot for its “productivity" software

Such growth would not be cheap. New Street Research, a firm of

Supplying the infrastructure to underpin such ai offerings will be another

All generative AI tools, including Copilots, must also be made “enterprise

provided they use Microsoft’s safety features, such as content filters.

A third concern is data governance—making sure that only the right

There is also the near-certainty that Microsoft will be accused of abusing

These types of disputes will no doubt intensify as AI-powered software

Even so, Microsoft is in a strong position. It failed to seize on the advent of

Only for Subscribers

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