Credit Suisse Technology Conference
Filter Events:
Credit Suisse Annual Technology Conference
Who: Dave O’Hara, EVP & Commercial CFO
Event: Credit Suisse Annual Technology Conference
Date: November 30, 2021
Phil:
There we go. Sorry about that. I turned that off, user error it said. Well thank you for joining us today. My name's Phil Winslow, I’m a software analyst at Credit Suisse. Very excited to have what has been one of my favorite companies for a very long time, Microsoft joining us today. So David, thank you for, well, you were already down here in Arizona, but so I was going to say thank you for coming down. Thank you for coming over.
David:
Thanks for making the drive. Yeah, here I am.
Phil:
Exactly. So it's not a bad place to be.
David:
Not a bad place to be.
Phil:
Relative to Seattle right now.
David:
Yes.
Phil:
I know the IR team's happy, but let's focus in, you're going to be going to be shocked where we're going to be in again, Microsoft Cloud. So maybe just start at a high level for us, kind of talk us through sort of the vision that the company has for Microsoft Cloud. Obviously that's very expansive vision. And how do they actually create value for customers in your mind?
David:
That's great. So thanks Phil. Thanks for having us down here and happy to be here and tell a little bit of the story. I think it's a pretty well told story at this point, but still there's always something new going on. I remember back in the early days when we were talking about Microsoft Cloud and how big it could get, and each year we were wrong and each year we were wrong because we guessed under. And so we just kind of quit guessing at this point and just said, cloud's ubiquitous. Satya has an interesting perspective, which he says anything that shows up as OPEX is potential to him. Which I think is true because if companies are spending money in any way on OPEX, that's something that can be brought to a computer and brought to the cloud. We started out as everybody did with primarily starting out as infrastructure and then data became pretty quickly relevant.
And then after that, it's SaaS and now it's some of the ML and AI. And so I just think it keeps growing. And I think the power of it keeps getting exponentially better because when you start out with infrastructure, that's all well and good, but it's a pretty simple process, but when you're actually running a SaaS app and you can reason over the data and use ML to help run your business better, then I think it's all that much more powerful. And so that's sort of where we're at.
Phil:
Yeah. And then let's focus on Azure because actually this is my 10th anniversary being an Azure bowl. So I wrote that in our 2011 outlook report saying, "Hey, it begins now." And then 13, when Azure infrastructure services came out, we sort of doubled down on that. And obviously we've seen years and years and years of steady share gain. And if you think about the past five quarters, if for the past five, Azure's outgrown Google cloud, five of the five has outgrown AWS. So what are you seeing from customers as leading to this incremental share gain by Microsoft?
David:
Well, I think they see the value prop. There's a few things we have going as a company, I think. One is that we're the most global cloud and there's a lot of companies that want that assurance that if they're going to move into a new geo that there's a cloud there to support them. So I think the global nature of it helps us a ton and has helped us land some big deals, even in countries like China, where it's hard to break in, but we have the cloud infrastructure there to support it. So, that's a big benefit for us. I think we also have some of the best security in the world and some of our security software, which has been a big push for a lot of companies in the last decade, but even more recently in the last five years.
And I think we're pretty well positioned to go do that. Teams is super popular and the pandemic of course help drive adoption of that. We just happened to be in a good position at the right time, but even with Teams that was years worth of investment to get where it got. And so you sort of have to start early on some of these things. And then we recently announced some of our industry clouds and the industry clouds are generating lots of buzz, lots of interest. Customers of course want something and it's closer to what they do and that's what it's intended to be. And so the industry clouds are getting a lot of traction. And so I think we just keep adding on to it. Again, I would just emphasize AI and ML, which, once you have all that data and you have that functionality and you can reason over it and figure out a better way to run your business, that's what people are ultimately looking for. So we just keep moving closer and closer to what the specific customers need.
Phil:
Let's double click on industry clouds a little bit, because I think that's been also to your point, sort of one of the differentiators of Microsoft and Microsoft Cloud, the focus by industry, but what if you shared just a little bit more about what the focus areas are with industry cloud and how is this opening opportunities for growth?
David:
Sure. So the industry clouds that we announced are healthcare, retail, manufacturing, nonprofit, sustainability, and financial services. And so those are the industries that everybody's after, but they all have very unique needs. And again, as you look at the migration up through infrastructure to data, to SaaS to industry cloud, it's just natural that we'd get closer to what the customers are looking for. And just let me use sustainability as an example. We have lots of interest in our sustainability cloud, just to pick one out. When we announced it was going into preview, Judson and I did calls with customers in Europe, and then we did another call with customers in North America. And what I was surprised by the attendance lots. Lots of people called into it. And two is they had very specific questions.
This isn't some sort of ethereal idea. This is like, "Hey, we need to make this real, how are you going to make it real well? How does your industry cloud help us make it real?" And so there's a ton of interest in those industry clouds. I also think, it's just the beginning when we launch those industry clouds, it's not like we check a box and call it done, and we're going to continue to build those out and we're going to continue to make them more specific to customers. And the more specific they get, the more value add they have. And just from a financial perspective, there's obviously very well known competitors in the infrastructure business. And a lot of times, the margins on that might get driven down just by competition. But when you can differentiate with the industry clouds, I think it just puts us in a better position as a company and a better position to help customers. But the sustainability cloud, I was shocked at how much interest there is in that. I mean, we knew there would be some interest, but there is more than we expected.
Phil:
Interesting, interesting. Now commercial bookings continue to grow, double digit this last quarter. And Amy noted that it was really driven by consistent execution across add-on, new and renewal sales motions. So when it comes to new deals, what is the tipping point in your mind of like sort of why Microsoft wins?
David:
Well, I think one is the hybrid story and we started early with the hybrid story because companies had invested a lot in what Microsoft had offered and they had a lot of on-prem investments and they just said, "Hey, we don't want to throw all that out. We paid for it, it's working, it's functional. What are we going to do about this?" And so we came up with our hybrid strategy of, "Hey, if you're an Azure customer, we'll give you some licensing benefit for being an on-prem customer. And then you can move when it's good for you to move." So, the initial pitch for the cloud as everybody remembers is, "Hey, lift and shift, throw all that stuff out, move to the cloud." And we just said, "Look, we can do it in a more moderated way, in a more thoughtful way."
And that started to really take off. Two is, I do think we're seen as a trusted partner and a trusted provider and I've mentioned security software. I think we continue to build out security software. We have insights into the global internet that a lot of companies don't just because of our reach and our breadth. And I think that allows us to provide some good secure software. And then as I mentioned, we continue to come out with ubiquitously beneficial products like Teams that all companies can benefit from. And then once we do that, we can add value to that, with Teams phone and other functionality that we can add to really drive the adoption of the cloud. And so I think all of that puts us in a good position, and when we talk to customers, they just want to know they're going to be safe, secure, that it's reliable, that it's global and that it has functionality that they need. And I think that's where we're at.
Phil:
Got it. And then once again, another kind of high level question here, but when you think about existing customers, where is the growth coming from? Is this new products, increase in consumption, new seats, moving to premium skews to your point, or just, I call it new products, new services.
David:
Little of all the above. So we're constantly adding new services to Azure. And so as people consume those new services, that drives consumption. The nice thing about the consumption model, which again, everybody realizes now, I don't know if we were as smart as we thought we were at the time, but the nice thing about consumption is it's not capped. I mean, if you're out selling a licensed product, there's a certain fixed amount of market share, but with consumption, I really think it's what Satya said, which is literally if you're spending OPEX, that's an opportunity for us and that's potential TAM. And so I think that's driving a lot of the consumption, just the new services that we add. Certainly, even from a modern work perspective, if you look at the new stuff that we're adding there, we have our E5 key, which when we started out, that was really about a certain set of services and now those are getting more adoption.
And so if you look at Microsoft all up, I think the important part to us is the Microsoft Cloud. It's not about the Azure cloud. It's not about modern work cloud. It's about the Microsoft Cloud, including Dynamics, including many other things. And so, I think that's where the expansion is coming from with the existing customers and with new customers, they see the benefit of having one company that's running all of that for them.
Phil:
I call it sort of the Azure to Office to Power, to Power to Office to Azure pipeline, back and forth. And that's why I'm sort of sticking with Microsoft cloud in the questions first, because it is the three working together. Now let's drill down a little bit more into Azure. I want to hit on consumption base. Because I think that that is a key point, which is obviously thriving, as you mentioned. How do you structure these agreements and the go to market strategy to help facilitate more consumption growth?
David:
Sure. I think, and it's always, everything's an evolution. This has been an evolution as well. I think that there's so much cost up front in terms of how people thought about building out data centers and infrastructure that we basically said, "We need good long term contracts. Because we need to be able to build out a viable business and we're willing to commit to you. We need you to be willing to commit to us." And we still work with customers on long term contracts, but we've also built in a lot more flexibility. If somebody says, "I don't know how much I'm going to consume." Then we can go do a pay-go deal with them and they can consume what they consume. And we have even things like meters in there to make sure they don't go over a certain amount.
But we give them maximum flexibility in terms of how they pay for it. And then we work with them on making sure that, again, even with Modern Work, as another example. Like, "Do you have the right number of users? Do you have too many users? Do you have too few users? How should we think about that?" And so we just build maximum flexibility in the contract so that customers can pay for what they use.
Phil:
Got it. Awesome. And obviously, as you mentioned, sort of the breadth and the depth of the Azure portfolio continues to expand. And how do you think about sort of the rate and pace of innovation here within side of Azure, but also how does this affect the gross margins of Azure, particularly to your point as you move sort of up the stack infrastructure?
David:
Yeah, it's always interesting when you report out financial results because it's sort of very numeric as if there's a grand plan and there's sort of a grand plan, but I think it's a lot of things coming together. One is you do have to keep driving revenue growth. And fortunately that hasn't been an issue for anybody in the cloud business. There's lots of revenue, growth opportunity. Secondly, we just always have a sort of a very focused approach to how we're going to drive down costs and how we're going to make this more efficient. And then we pass that through to customers and it's part of being price competitive, but it's also part of just making the cloud more efficient. And then when we think about all that, there's timing that comes into it. When do things get built out, how do they get built out?
Where do they get built out? Folks have asked, as an example, how do we feel about our data center expansion? We're covering 90% of the globe and like 95% of the GDP. And so we feel good about where we're at, but we still need to add capacity in those geos. But I do think that we've seen a more moderated CapEx spend, maybe on a relative basis than we historically did. And so when you have good revenue growth and driving down costs and you have moderating CapEx spend, you tend to have margin expansion. That's kind of where we're at, but it's all of those things have to come together. It's not any one thing or it's not sort of like you just plan it out and it happened. You just have to be sort of maniacally focused on each of those things and getting better at each of them.
Phil:
Yeah. So, okay. Expanding products, it's like increased consumption, frankly accelerate secular shift to the cloud. One of the questions I get is that, is frankly, can Microsoft keep up the sales hiring to essentially on the go to market side to support all this innovation and these trends?
David:
Yeah. I'd say knock on wood, but there's no wood up here. I would say right now, we have a good talent pool coming to us and saying, "Hey, we'd love to work for Microsoft." So I think culturally, we're perceived as a pretty good place to work. I think that from a positioning perspective, people feel like we're well positioned. I think sales people feel like they can come in and they have something they can go sell to companies and that it's got value and value add, and we continue to add value. And so, I mean, it's a super competitive market. Everybody's hiring from everybody else and there's a lot of horse trading going on with employees, but I think overall, on a relative basis, we're in a pretty good position. And so far we've been able to keep up. In the same way that we have that's a question on sales, I think it's a question on engineering. I think it's a question on support.
Hopefully it's a question on finance people, although we're usually just happy to have a job. So, but still, I think it's competition for high tech labor right now. And we think we're doing okay. Again, knock on wood.
Phil:
Got it. All right. We touched on Azure, now let's go to Office. Office commercial going up and down that pipeline that I discussed, obviously Office 365, install base keeps growing. ARPU keeps increasing, even with some, I call it Dynamics and maybe in the install base of where the growth is coming from. So, help us walk through those. I guess break them in two. Sort of growth in the install base, where you seeing the growth come from and then ARPU, how do you think about sort of ARPU growth from here?
David:
I would say that, there might be a historical perception of Office just literally as office, Word, Excel, PowerPoint. And we've expanded far beyond that. And I think, as we continue to add value and we continue to add skews that helps with our growth. It used to be that we had our E1 skew and we talked about E3 and people were always asking like, "When are you going to be over 50% of your penetration with E3?" And now they ask that same question about E5. When we architected E5, we really said, "Hey, let's go identify places of value for customers where they might be underserved or where we might be in a better position provided outside of classic Office."
And so we came out and said, "We really think it's about communications. We think it's about security. And we think it's about analytics." And so that's what we did. That's how Teams came to be because we started out with a product called Link and then we bought Skype and then out of that evolution came Teams. And so I think we're in a pretty good position for communications and some of the Teams' usage numbers we've published lately, again very pandemic driven, but we just happen to be in a good position to take advantage of that. So the comm stuff is landing, security is always a big issue. I think people are getting smarter about how they think about analytics. And so when we think about Office, migrating folks from E1 to E3 to E5 is a natural progression. And I think a lot of them are benefiting from that and seeing that.
And so we're getting better penetration with E5. I would also just say from a usage perspective, we've come out with a lot of functionality that's directly beneficial to small businesses and to frontline workers. And so we're adding users there. So at the same time that you're migrating from E1 to E3 to E5 and driving ARPU up, we're adding users in the frontline worker, which is a lower price skew. And so again, it's like several moving things that end up resulting in the number. But the key for us is to make sure that we're continuing to add value at those higher end skews and provide value for the lower end skews. And in between there you end up with good ARPU growth and good usage growth.
Phil:
I think you're bringing up a great point because like you said, finance folks, we like to look at the numbers, be like, "Oh, here's the gap between your revenue growth and seat growth, and this is ARPU." But inside that seat growth, inside the ARPU, there're two of these very different dynamics. And so I describe it makes the ARPU increase even more impressive in the sense that, "Hey, a lot of the unit growth that's coming from the frontline workers."
David:
Yeah. And it's not, you can't focus on one number. You have to focus on all the individual drivers. And I think that's what we've gotten better at, is focusing on individual drivers and then what comes out of that as the number.
Phil:
Yeah. And so you talked about E5. Amy talked about it in July. 8% penetration in the O365 commercial install base. How are you thinking about just E5 adoption, from here and then within that, how are you thinking about the enterprise voice? You mentioned Teams phone, sort of in that strategy.
David:
So, we tried to make it so that it was easy as possible for customers to make use of that. So E5 is, what I said, a bundle of communication, security and analytics, but then we also came out with mini skews that allowed people to just say, "Look, I don't want the whole thing. I'll just take this piece." And then we've seen over time, is that customers go, "Okay, I'll start with one. Start with security. Hey, I'll add comms. Hey, this analytics stuff is kind of not bad. And so maybe I'll go do that." And then they go, "You know what, we'll just buy E5." And so we do think it's allowing people to consume what they really need at the time, but over time in the spirit of the Microsoft Cloud, I think they see the benefit of all that. And at some point we just make it attractive for them to go the whole way on that piece of it.
And so I think it's early days in the adoption of E5, obviously 8% isn't where we're going to finish, but we're not going to force people to go there and we're not going to have some big push to get there fast. We're just going to let them migrate there as it makes sense for them.
Phil:
To your point, everybody's asking, "When's penetration of E3, when there's E5." So next question, next time we're up here, I'm going to ask about E7. When's that coming? But let's focus on Teams because the other thing you're announcing July, the earnings. So it's 250 million monthly active Teams users, obviously to your point. Huge hockey stick over the past two years here. On October call, you said usage has never been higher. So not to simply monthly active users, but actually usage of those monthly active use is higher than ever. How do you think about the monetization strategy of Teams? There's a question I get a lot because obviously it's included in O365, but what is sort of the strategies or of monetization addressable market there?
David:
Well, one is, I think people expect us to continue to deliver new value for modern work. And so some of the stuff just gets built in because it's the new value that people are looking for and they're already paying us, and so we include it. That was our thinking on Teams. As we said, "Hey, we want people to use it. We want people to consume it. We want people to benefit from it. So let's not sort of constrain it by charging more because they're already paying us a decent amount of money anyhow." But still even with that, if you had referenced in your previous question, I just forgot to answer about the Teams phone stuff. We have 80 million Teams phone users and I think that's an example of where people or we can monetize and people can get additional benefit because in some cases, they can just go throughout their PBX, which is a pretty expensive system and just switch Teams and there's huge value-add for them.
And so I think that there's, in addition to just the core Teams platform, there are ways that we can monetize beyond that. And even some of our industry clouds are tapping into Teams now and that's the way that they're going to operate. And so it doesn't have to be directly monetizable by Teams itself. I think it can be monetizable through things that work with Teams. And so I think the key for us is to continue to gain share, which we feel good about the share we're gaining and then build around that and add value. And I think there's plenty of ways to monetize even if it's not directly.
Phil:
Yeah. Just sort of just the engagement of living in Teams, so to speak. I mean, I just said Credit Suisse, a path we're going down, we signed these like 10 year contracts with these PBX guys and telephony folks was like, "Actually we wanted to terminate in Teams." And so even though we're not using a posted PBX, because we signed long term contracts, but it's like, "Actually, no, we still want it to terminate in Teams." That actually becomes the hub.
David:
And at some point the option might be there for everybody to go do that. But I think, that's a good example. I also think that not just us, but for ISVs that want to build on Teams as a platform, there's an opportunity for them to monetize as well. And so we're seeing lots of ISV interests. It's sort of, I mean, everybody knows how ISVs operate, which is, they add value to specific pieces of software, but mostly they just look for like a big user base. And so once you get over a certain number of users, they're like, "Hey, we want to build around that." And so we're seeing lots of ISVs show interest in Teams.
Phil:
Teams as a platform. And I'm very much looking forward to my Team's avatar. Pretty pumped about that coming up. I'm going to trick that out.
David:
It's there.
Phil:
Yeah. We are a little slow, we're a bank to roll out the new feature.
David:
You can say. We have a couple senior execs who show up every meeting in an avatar.
Phil:
It's like get ready for a marketing call near you. So avatar Phil coming at you. The Power Platform. So that's been, on my call was almost like the hidden successes, sort secret successes inside of Microsoft. You've obviously seen strong growth there as I mentioned, and recently talked about 20 million in monthly active users. What is the value? Actually, maybe just step back for some people that don't know, what is the Power Platform? What is involved in it? What are you seeing the strong growth?
David:
Well, I think we're seeing strong growth. A Power Platform allows people to basically write low code, no code and essentially help more of the world become developers. And so if you look at Power Apps, Power Platform, the real value it add is the ease of use, but also just the flexibility and the ability to create apps quickly. We've had customers that would come to us again, as you think about the evolution of cloud, it used to be lift and shift and then optimize. And now we're getting to the point to where we've had customers that have 10,000, 12,000 apps, and they're trying to figure out, "How can I cost effectively migrate all these apps to the cloud?" And then they look at them and they go, "You know what, maybe we don't need all these apps or maybe we should rewrite some of these apps."
And so they might cut down on the number of apps. They might go and add new apps, but they do all that through Power Apps and Power Platform. And so it really allows a lot more people to become developers and a lot more people to build apps that fit their exact usage. And so all of that is done in the background by us. And so I think that's a driver of the adoption. I get involved with lots of customer conversations and deals. And invariably we'll talk about the Microsoft Cloud and Dynamics in Azure and Modern Work. And then at the end they circle around and go, "Hey, we really want Power Apps. Like we really want Power Apps for as many people as we can get." And so it's interesting how that just almost becomes an anchor in some of these deals. Like they see that as the hidden treasure.
Phil:
Interesting. Fascinating. What's next then for the Power Platform, because it's amazing how much it has evolved organically? What are the product innovations that you're most excited about?
David:
Well, I think the ease of use is going to be great, but I also think that the ultimate thing is to put the power in the hands of a user and put power in the hands of the customer and let them evolve it where it needs to go. And so we'll just continue to make the product better, more powerful and more easy to use. And I think users will dictate where that goes. But I would just say again, once you get the infrastructure, once you get the data, once you get the SaaS apps, you understand the usage patterns. And when you can reason over that with machine learning and AI, that's where the real power in that comes from. And I think once people start doing that and doing it with their own apps that are tailored to what they're trying to do, I think that unleashes a lot of power. And so we'll continue to see strong demand there.
Phil:
Got it. And the last five minutes here, I'll pause for a moment to see if there are any questions from the audience. Just raise your hand and I'll call on you. Otherwise I'll just keep going down my list. Okay. We're killing it. Obviously we're killing the Q&A. But I actually want double click on AI ML because I think that's one of the, obviously I'd say artificial intelligence could be the most impactful, call it, technology innovation before any others before it. Walk us through sort of the evolution of AI ML with inside of Microsoft and inside of Azure. And then where you think we are in the adoption cycle, actually productizing?
David:
Yeah, I think it's super early in terms of how we productize AI and ML and in some level I remember having this conversation with the boss years ago, he is like, "How do we monetize this stuff?" And I said, "Hey, we'll figure it out as we go." But, part of it is just making it again, available in the Microsoft Cloud, making it ubiquitous. But AI has advanced so far. I mean, I remember when we first started out and said, "Hey, let's figure this out." One of the things that we would look at is people to do a credit check on a customer. They had to call a treasury and say, "Can you do a credit check?" And so somebody wrote a simple bot. We use that bot. Now a salesperson goes in, then there's a customer name, boom, it's all taken care of, no human interaction. All of that saves thousands of hours, which eventually that all adds up. Now I think we're getting much more sophisticated about it and connecting data sources and connecting the reasoning.
And then even with some of our own internal stuff, where you have the machine learning where every quarter it gets better and better and better. I think that's ultimately where it's going to go, but I think it's super early days in terms of how we tap into that.
Phil:
Yep, exactly. I mean probably eating your own dog food too with the forecasting. So the AI ML side.
David:
We do. There's still humans involved because I think there's still judgments to be made, but once you get that pattern and recognition and you can reason over it, I think that's ultimately where it's going to be.
Phil:
Yeah, I've joked. I was like, I swear the tightening of the ranges and the guidance. I was like, that's a machine.
David:
It's partly a machine.
Phil:
And the people and the people, of course.
David:
I would say for the finance teams, because I think it's natural for people to say some computer's going to knock me out of my job and with our finance teams, we just said, "Hey, we're going to do that. You're still going to be involved, but we're also going to free up time for you to go work with customers and show them how it works." Which isn't really a natural thing for a finance person to get on the phone with the customer. Pre COVID, everything is either pre or post, but pre COVID, I think the year before we had something like 1500 finance folks work directly with customers on solutions. And so when you can do that, when you can automate a lot of the stuff, you free up folks to go work on other meaningful and impactful things. And I think that's the ultimate benefit from it.
Phil:
Just don't put too much equity research capabilities into Power Automate. That's the one caveat, I guess, I would say.
David:
We'll save that for last.
Phil:
Pull back on any efforts there. The last question for me, unless there is anything from the audience, but when you think about sort of the dues from a management team perspective over the next, call it this fiscal year, what are just top of mind for you?
David:
It's a super competitive environment, so we need to make sure that we're working directly with customers and getting direct feedback and adapting. We've learned to be nimble. I don't know that I would've described this as nimble five or 10 years ago, but we've learned to be nimble. That's one. Two, as you mentioned recruitment. I mean, it's fast growing business and we're growing a huge business top line on the commercial side by more than 20%. And you have to have folks who are going to help do that. And so I think recruitment and retention of employees and making sure that people want to get up and come to work every day, are big deals. And then we obviously have some big numbers out there, but we'll continue to execute on that.
Phil:
Yeah. Those big numbers keep getting bigger. Which we like to see. So awesome. Well, the 30 minutes went super fast. Really appreciate your time. So thank you for coming down, or coming over like I said.
David:
Yeah. Thanks for having us.
Phil:
Yeah cool. Thanks.
Appreciate.
Upcoming Events
JP Morgan Global TMT Conference
Jefferies Software Conference