Although Microsoft (MSFT -0.08%) wasn't a front-runner in the artificial intelligence (AI) race a few years ago, its integration of ChatGPT into its Bing search engine catapulted the company into the conversation. Its rollout caught Google parent Alphabet (GOOGL -2.78%) (GOOG -2.47%) off guard and has opened the door to grab market share in one of the most lucrative advertising locations: search.
But is Microsoft truly an AI leader? Or is it one rollout grabbing all the headlines and making it seem like an imposter? Let's find out.
Microsoft already has many AI offerings
Although it might not seem like it, Microsoft has already built AI into many of its products. For example, Microsoft Security Copilot uses AI to identify threats and deal with an attack should one occur -- an offering almost identical to that of CrowdStrike (CRWD -0.72%). It's also rolling out AI to its Microsoft 365 apps in the form of Copilot, which can guide users on creating a PowerPoint presentation or drafting emails in Outlook.
Coders also have an AI-specific tool from Microsoft: GitHub Copilot. It can write code automatically based on a text prompt or add other capabilities based on code already written.
Image source: Getty Images.
When you dive into Microsoft's AI solutions, it's clear that it already has many game-changing offerings that solidify its leadership role in this field.
But if clients don't have the computing capacity to make their own AI solutions, the proliferation of AI in business dies out quickly. That's where Azure comes in.
A crucial component of AI infrastructure
Azure is Microsoft's cloud computing division, a vital part of AI infrastructure. Other companies can use Azure to capture and store data, then employ proprietary information to train AI using its capabilities. And Azure isn't a one-time use. It's constantly powering the AI models created and can be used to update them as needed.
On the financial end, Azure has been one of Microsoft's greatest growth drivers over the past few years, and the third quarter (ended March 31) was no different. Azure and other cloud services saw revenue rise 27% in the quarter, good for the top spot in the company.
Unfortunately for investors, Microsoft doesn't break out the exact dollar figures Azure generates. Instead, its total is captured in the Intelligent Cloud division, which generated $22.1 billion in the third quarter, up 16% year over year.
This division averaged out with More Personal Computing, which fell 9% in a weak PC market. With Productivity and Business Processes posting a solid quarter as well (up 11%), Microsoft delivered 7% growth overall in the quarter.
Because of responsible expense growth and share buybacks, the company's earnings per share (EPS) rose 10% to $2.45, underscoring how strong a quarter this was for Microsoft when the expectations weren't very high.
With the AI endeavors and business results factored in, the stock looks like a screaming buy, but you must look at its valuation first.
The stock is valued at a premium
"You get what you pay for" holds true in many scenarios, and investing is no different. Thanks to Microsoft's strong performance, its stock is highly valued.
MSFT PE Ratio data by YCharts. PE = price-to-earnings ratio.
A price that's 33 times earnings is expensive for a stock that only grows at market pace. But best-in-class companies have often traded at premiums and still done quite well; just look at Costco (COST 0.30%).
While the valuation is a bit concerning, don't let it keep you from owning a stock that is set to become an AI leader. However, that's not an endorsement to go all-in, as there is a bit of valuation risk associated with the stock. Still, Microsoft is executing well, which is highly correlated with stock outperformance.
