A report by IDC, which follows the tech industry, estimates that worldwide spending on artificial intelligence (AI) could increase at an annual pace of 50% through 2021, hitting $57.6 billion in revenue at the end of the forecast period. Several companies are scrambling to integrate AI into their products and services to make sure they don't miss out on this opportunity.
For investors in the AI boom, Microsoft (MSFT -1.84%) is one such company to consider, thanks to its tangible progress in this space. Here's how AI is impacting Microsoft now, and what it means for the company's future.
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AI gives Microsoft a massive boost in the cloud
Microsoft has already started reaping the benefits of AI in areas such as cloud computing and productivity software and services. Its market share of the public cloud space has grown by leaps and bounds of late at the expense of rivals such as Amazon and Alphabet. KeyBanc Capital Markets, an investment bank that provides financial advisory services, estimates that Microsoft now holds 20% of the public cloud market -- a market currently worth $106 billion.
The company's latest quarterly report corroborates this estimate. Microsoft's commercial cloud revenue increased 56% year over year to $5.3 billion, translating into an annual revenue run rate of $21.2 billion. Even if Microsoft just holds on to this market share, its cloud business will take off rapidly, as the public cloud market's revenue could almost triple over the next five years to $314 billion.
But it won't be surprising if the software giant carves out a larger portion of the market thanks to the variety of AI services it offers through its platform. Last September, Microsoft announced that it is adding a host of new tools to the Azure cloud to help developers and data scientists to quickly develop AI services.
For example, developers can now use the company's Azure Machine Learning Studio to quickly convert raw data into the appropriate format for further processing. Other Azure services allow them to deploy AI models on a large scale to improve the productivity of developers and data scientists.
These new tools should help developers reduce deployment time. In fact, Microsoft is trying to democratize AI by simplifying model training with the help of a visual drag-and-drop studio that eliminates the need for coding, allowing users to quickly move from an idea to deployment. The addition of such tools has been a boon for Microsoft's Azure cloud service, which saw 98% year-over-year revenue growth last quarter.
French advertising and public relations company Publicis Groupe recently announced that Microsoft will build its AI platform using the Azure Cloud and Office 365. And recently released data from RightScale, a cloud-computing management company, puts the share of respondents using Azure in 2018 at 58%, up from 43% last year.
The adoption of Amazon's cloud services among respondents in the public cloud space, by comparison, has increased just 9% this year. This clearly indicates that Microsoft's AI integration in the cloud is working in its favor, but the cloud isn't the only area where this tech trend is weaving its magic.
Office 365 is on a roll
Microsoft's productivity and business processes segment, which includes revenue from Office 365 subscriptions, has also received a massive boost thanks to AI. The segment's revenue jumped close to 25% last quarter, primarily driven by a 41% increase in revenue from Office 365. And Microsoft has embedded its Office 365 platform with several AI features that have increased its adoption.
For instance, last December, Microsoft added a host of new AI features. Users will now be able to decipher corporate lingo in Word documents using the Acronym feature. The Time to Go feature is intended to help users make it to their appointments on time, with alerts from the Cortana voice assistant.
Microsoft's Office 365 suite should keep gaining traction thanks to the consistent addition of new features.
Why Microsoft is a smart AI bet
Including AI-centric features in Microsoft's solutions is giving its business a nice shot in the arm, and its valuation makes it one of the top picks to take advantage of this trend. Microsoft trades at 29 times next year's earnings, far below the 48.5 industry average.
Some might argue that Microsoft is currently expensive with a trailing price-to-earnings (P/E) ratio of almost 75. But this is because of the $13.8 billion one-time tax hit that it took due to the new tax law. Excluding this charge, Microsoft would have reported $0.96 per share in earnings last quarter as compared to a loss of $0.82 per share, which would have kept its trailing P/E well below the industry average.
Microsoft's attractive valuation -- and the fact that AI is tangibly contributing to its growth in fast-growing markets, such as the cloud -- make it one of the top picks in this space.
