Amazon Web Services reported $3.536 billion in revenues during the fourth quarter of fiscal 2016, which put its annual cloud revenue run rate at above $14 billion. Since Amazon (AMZN, Financial) has a negligible presence in the software-as-a-service segment, most of that revenue is coming from the infrastructure-as-a-service segment, which continues to grow at double-digit rates.
Microsoft’s (MSFT, Financial) cloud segment has been keeping pace with Amazon on the revenue front, and the company reported a commercial cloud annualized run rate of $14 billion during the most recent quarter. But the difference here is the bulk of Microsoft’s cloud revenue is coming from its SaaS portfolio. Microsoft’s Intelligent Cloud segment, which houses Azure along with server products and enterprise services, had only $6.9 billion in revenues during the most recent quarter.
But Microsoft’s advantage is that its SaaS lineup, led by Office 365, has been growing at a phenomenal rate, while Azure revenue has been growing near triple-digit rates for the past several quarters. For Microsoft’s SaaS customers, Azure remains one click away. In addition, consumers tend to prefer a single vendor when possible because it reduces a lot of integration and development headaches. Microsoft does stand out from other cloud providers for this reason: nobody else has such a strong SaaS and IaaS offering.
Microsoft has already positioned itself as the one-stop solution for organizations. You can use Azure to take care of your infrastructure, Office 365 for office collaboration and Dynamics 365 for business management. The further the SaaS lead Microsoft registers, the wider the moat for competition.
Amazon and Alphabet (GOOG, Financial)(GOOGL, Financial) have realized this problem and are quickly moving to address the gap. Google announced several new features and services to G Suite, its office productivity application, while Amazon has Workdocs, Amazon Workmail and Amazon Chime under its belt for office productivity. Amazon Chime, a competitor to Skype, was launched earlier this year, and the company updated Workdocs just yesterday.
Amazon is extremely late to the office collaboration game, while Google let the market slip between its fingers. Microsoft already has 85 million monthly active Office 365 users and is growing fast. Switching from one productivity software vendor to another is easier said than done because there are huge barriers like cost, migration and training involved.
Even if Amazon and Google try to undercut Microsoft by keeping their pricing lower than those of Office 365 subscriptions, it will not be enough to poach users because their products have not yet evolved to be comparable to it. What’s more, Microsoft keeps expanding Office 365 services at a furious pace, while keeping a tight rein its own pricing.
By the time Amazon and Google get their respective products up to par with Microsoft’s, the giant will have already captured a huge chunk of market share. Amazon’s lead in IaaS and Microsoft’s lead in SaaS cannot be erased that easily, and both these companies are going to rule these segments for at least the next few years. Considering the operating margins in these two segments, they are going to be very profitable businesses.
Disclosure: I have no positions in the stock mentioned above and no intention to initiate a position in the next 72 hours.
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