It's safe to say CEO Satya Nadella's transformation efforts are paying off in a big way. Microsoft (NASDAQ:MSFT) absolutely crushed 2017 and is picking up right where it left off so far this year. Microsoft stock hit an all-time high on Jan. 23, which may be a bit concerning to some investors.
But even with its stellar run, the basis for so much bullishness is warranted, which bodes awfully well for Microsoft shareholders. Microsoft's cloud sales get much of the attention, and for good reason. However, the really good news is that cloud-related sales won't be the only growth driver in the months and years ahead.
Laying the foundation
Heading into Microsoft's fiscal 2018 second-quarter earnings release on Jan. 31, it would be shocking if it reported anything other than outstanding results. One of the reasons Microsoft will almost certainly share good earnings news is the recurring revenue foundation it has established.
Last quarter's annual cloud revenue run rate of $20.4 billion isn't merely an industry standard; it's also recurring revenue investors can rely on well into the future. Microsoft, similar to another cloud leader IBM (NYSE:IBM) and its $17 billion annual cloud revenue run rate, has built its ongoing revenue base by focusing on Software-as-a-Service (SaaS) and Business-Process-as-a-Service (BPaaS) solutions.
Unlike some cloud providers that offer little more than hosting, Microsoft recognized early on its Azure platform is a means to an end. Much as IBM delivers its suite of cognitive computing, data security, and analytics solutions via the cloud, Microsoft utilizes Azure to generate SaaS and BPaaS revenue.
Outside of advertising, SaaS and BPaaS are expected to be the leading source of worldwide cloud revenue this year. SaaS tops the list of cloud revenue solutions with an expected $55.14 billion in sales this year. BPaaS won't be far behind, projected to garner an impressive $47.56 billion in revenue in 2018.
Off to the races
Azure revenue soared 90% last quarter compared to a year ago, but it was cloud service sales that drove Microsoft's total revenue up 12% year over year. Commercial Office 365 revenue jumped 42%, and Microsoft's once beleaguered Dynamics CRM sales skyrocketed 69%.
Somewhat surprisingly, even Microsoft's hardware division delivered last quarter. Surface revenue climbed 12%, and software and services associated with Microsoft's Xbox gaming sales also rose by an impressive 21% compared to fiscal 2017's first quarter.
Much was made of Microsoft's decision to plunk down $26.2 billion for LinkedIn a year-and-a-half ago, and most of it wasn't positive. Thankfully for shareholders, Nadella stuck to his guns. Last quarter LinkedIn added $1.1 billion to Microsoft's total revenue, and that's just the tip of the iceberg.
Nadella recognized the true value of LinkedIn is the data from its more than 500 million members and 10 million job postings. The benefit of utilizing Microsoft's comprehensive artificial intelligence (AI) solution to analyze data is reflected in last quarter's 15% increase in search advertising. Targeting the right ad, to the right internet user, at the right time, isn't an accident.
The future is now
Microsoft's AI offerings aren't its only source of future growth, beyond today's cloud SaaS and BPaaS solutions. SaaS in particular is ideally suited for the Internet of Things (IoT), which Microsoft delivers via the cloud. Augmented reality (AR) is another burgeoning market with almost limitless potential, particularly commercial applications.
For some perspective, of the combined $108 billion in revenue expected by 2021, AR will account for $83 billion, with virtual reality (VR) making up the difference. HoloLens, Microsoft's industry-leading AR solution, will take some time before it significantly impacts the bottom line, but the opportunity it represents can't be denied.
Remarkably, Microsoft's forays into AI, AR, servers, and related services, among other growth markets, aren't breaking the bank. Last quarter's operating expenses of $8.28 billion were just a 5.5% increase from a year ago. Not bad considering Microsoft's top line rose more than twice the bump in spending.
Not only did Microsoft crush 2017 -- all the signs point to another blowout year.
Teresa Kersten is an employee of LinkedIn and is a member of The Motley Fool's board of directors. LinkedIn is owned by Microsoft. Tim Brugger has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.