MICROSOFT CORP Q3 2025 earnings call

Good afternoon, and thank you for joining us today. On the call with me are Satya Nadella, Chairman and Chief Executive Officer; Amy Hood, Chief Financial Officer; Alice Jolla, Chief Accounting Officer; and Keith Doliver, Corporate Secretary and Deputy General Counsel. On the Microsoft Investor Relations website, you can find our earnings press release and financial summary slide deck, which is intended to supplement our prepared remarks during today's call and provides the reconciliation of differences between GAAP and non-GAAP financial measures. More detailed Outlook slides will be available on the Microsoft Investor Relations website when we provide Outlook commentary on today's call. On this call, we will discuss certain non-GAAP items. The non-GAAP financial measures provided should not be considered as a substitute for or superior to the measures of financial performance prepared in accordance with GAAP.

They are included as additional clarifying items to aid investors in further understanding the company's third quarter performance, in addition to the impact these items and events have on the financial results. All growth comparisons we make on the call today relate to the corresponding period of last year, unless otherwise noted. We will also provide growth rates in constant currency when available as a framework for assessing how our underlying business performed, excluding the effect of foreign currency rate fluctuations. Where growth rates are the same in constant currency, we will refer to the growth rates only. We will post our prepared remarks to our website immediately following the call until the complete transcript is available. Today's call is being webcast live and recorded. If you ask a question, it will be included in our live transmission, in the transcript, and in any future use of the recording.

You can replay the call and view the transcript on the Microsoft Investor Relations website. During this call, we will be making forward-looking statements, which are predictions, projections, or other statements about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties. Actual results could materially differ because of factors discussed in today's earnings press release, in the comments made during this conference call, and in the risk factor section of our Form 10-K, Forms 10-Q, and other reports and filings with the Securities and Exchange Commission. We do not undertake any duty to update any forward-looking statement. With that, I'll turn the call over to Satya.

Thank you, Jonathan. It was a record quarter driven by continued strength of Microsoft Cloud, which surpassed $42 billion in revenue, up 22% in constant currency. Cloud and AI are the essential inputs for every business to expand output, reduce costs, and accelerate growth. Now I'll highlight examples starting with infrastructure. We continue to expand our data center capacity. This quarter alone, we opened DCs in 10 countries across four continents. Model capabilities are doubling in performance every six months, thanks to multiple compounding scaling laws. We continue to optimize and drive efficiencies across every layer, from DC design to hardware and silicon to system software to model optimization, all towards lowering costs and increasing performance.

You see this in our supply chain, where we have reduced dock-to-lead times for new GPUs by nearly 20%, across our blended fleet, where we have increased AI performance by nearly 30%, ISO power, and our cost per token, which is more than halved. When it comes to cloud migrations, we saw accelerating demand with customers in every industry, from Abercrombie & Fitch to Coca-Cola and ServiceNow, expanding their footprints on Azure. We remain the cloud of choice for customers' mission-critical VMware, SAP, and Oracle workloads, with more regional availability than any other hyperscaler. We are also excited about the next frontier in cloud systems with Quantum. In addition to putting our Quantum stack on machines from our partners, we are also making real progress on a path to a utility-scale quantum computer with the introduction of Majorana One.

When it comes to data and analytics, we have deeply integrated our AI platform with our data stack. PostgreSQL usage accelerated for the third consecutive quarter, and it is now used by nearly 60% of the Fortune 500, including companies like BMW and BNY Mellon. Cosmos DB revenue growth also accelerated again this quarter and remains the go-to database for globally distributed NoSQL workloads at any scale. It is used by customers in every industry, like CarMax, DocuSign, Intuit, and OpenAI. This quarter, we also saw analytics consumption accelerate. Microsoft Fabric has more than 21,000 paid customers, up 80% year over year. Fabric brings together data workloads like data warehousing, data science, real-time intelligence, along with Power BI into one end-to-end solution. Real-time intelligence is now the fastest-growing workload in Fabric, with 40% of customers already using it in just five months since becoming generally available.

All up, more than 50% of Fabric customers, like Amore Pacific, Louisiana State Government, and Petrobras, use three or more workloads. The amount of data in our multi-cloud data lake, One Lake, has grown more than 6X over the past year. Now on to AI platform and tools. Foundry is the agent and AI app factory. It's now used by developers at over 70,000 enterprises and digital natives, from Atomic Work to Epic, Fujitsu and Gainsight, to H&R Block and LG Electronics, to design, customize, and manage their AI apps and agents. We processed over 100 trillion tokens this quarter, up 5X year over year, including a record 50 trillion tokens last month alone. Four months in, over 10,000 organizations have used our new agent service to build, deploy, and scale their agents.

This quarter, we also made a new suite of fine-tuning tools available to customers with industry-leading reliability. We brought the latest models from OpenAI, along with new models from Cohere, DeepSeek, Meta, Mistral, Stability, to Foundry. We have expanded our PHY family of SLMs with new multimodal and mini models. All up, PHY has been downloaded 38 million times. Our research teams are taking it one step further with BitNet B1.58, a billion-parameter large language model that can run on just CPUs coming to the Foundry. Now on to developer tools. We're evolving GitHub Copilot from pair to peer programmer. With agent mode in VS Code, Copilot can now iterate on code, recognize errors, and fix them automatically. This adds to other Copilot agents like AutoFix, which helps developers remediate vulnerabilities, as well as Code Review Agent, which has already reviewed over 8 million pull requests.

We are previewing a first-of-its-kind SWE agent capable of asynchronously executing developer tasks. All up, we now have over 15 million GitHub Copilot users, up over 4X year-over-year. Both digital natives like Twilio and enterprises like Cisco, HPE, Skyscanner, and Target continue to choose GitHub Copilot to equip their developers with AI throughout the entire dev life cycle. With Visual Studio and VS Code, we have the world's most popular editor with over 50 million monthly active users. With Power Platform, we have the leading low-code platform for AI makers too. We now have 56 million monthly active Power Platform users, up 27% year-over-year, who increasingly use our AI features to build apps and automate processes. Now on to future of work. Microsoft 365 Copilot is built to facilitate human-agent collaboration.

Hundreds of thousands of customers across geographies and industries now use Copilot, up 3X year-over-year. Our overall deal size continues to grow. This quarter, we saw a record number of customers returning to buy more seats. We are going further. Just last week, we announced a major update bringing together agents, notebooks, search, and create into a new scaffolding for work. Our new researcher and analyst, deep reasoning agents, analyze vast amounts of web and enterprise data to deliver highly skilled expertise on demand directly within Copilot. Beyond horizontal knowledge work, we are introducing agents for every role and business process. Our sales agent turns contacts into qualified leads, and with sales chat, reps can quickly get up to speed on new accounts. Our customer service agent is deflecting customer inquiries and helping service reps resolve issues faster.

With Copilot Studio, customers can extend Copilot and build their own agents with no code, low code. More than 230,000 organizations, including 90% of the Fortune 500, have already used Copilot Studio. With deep reasoning and agent flows in Copilot Studio, customers can build agents that perform more complex tasks and also handle deterministic scenarios like document processing and financial approvals. They can now build computer-use agents that take action on the UI across desktop and web apps. With just a click, they can turn any SharePoint site into an agent too. This quarter alone, customers created over 1 million custom agents across SharePoint and Copilot Studio, up 130% quarter over quarter. When it comes to business applications, Dynamics 365 again took share as companies like Avaya, Brunswick, and SoftCat switched to Dynamics from legacy providers.

Verizon, for example, chose Dynamics 365 Sales to improve the efficiency of its sellers. In healthcare, Dragon Copilot is off to a fast start. Last quarter alone, we helped document nearly 9.5 million physician-patient encounters at providers like City of Hope, Ottawa Hospital, Tufts Medicine, and WellStar, up over 50% quarter over quarter. In manufacturing, we introduced factory operations and safety agents at Hanover Massey, and leading partners like Autodesk, PTC, and Siemens have all built their own industrial AI solutions on our stack. In retail, we have introduced agents to help customers like Bath & Body Works build more personalized shopping experience and improve store operations. When it comes to Windows, Copilot+ PCs are faster and have better battery life than any other device in their category. We also continue to win new customers with best-in-class AI capabilities.

We offer a growing number of AI apps from partners like Adobe, Canva, and Zoom. Just last week, we rolled out exclusive AI experiences like Recall, Click to Do, and Windows Search to all Copilot+ PCs. We continue to see increased commercial traction as we approach end of support for Windows 10. Windows 11 commercial deployments increased nearly 75% year-over-year. Now on to security. Security is our top priority, and we have made significant progress against the engineering objectives we outlined a year and a half ago as part of our Secure Future initiative. We are now applying these learnings to deliver new innovation across our platform. Last month, along with our partners, we introduced Security Copilot agents to help Defender autonomously handle high-volume security and IT tasks informed by 84 trillion daily threat signals.

We also added new capabilities to Defender, Entra, and Purview to help organizations secure and govern their AI deployments. All up, we now have 1.4 million security customers, over 900,000, including EY Global, Manpower Group, TriNet, and Regions Bank, have four or more workloads, up 21% year-over-year. In identity, Entra now has more than 900 million monthly active users. Now on to our consumer businesses, starting with LinkedIn. Over 1 billion professionals use LinkedIn to connect, learn, hire, and sell, and our membership continues to grow at double digits year-over-year. Time spent watching videos on the platform was up 36%, and comments were up 32% year-over-year. We are also seeing more members use AI to gain new skills and find jobs. The number of learners who have used AI-powered coaching increased over 2X quarter over quarter.

We remain the market leader in hiring as customers like Equinix and Verizon use LinkedIn Hiring Assistant to find qualified candidates faster. When it comes to LinkedIn Premium, we saw over 75% quarter over quarter subscriber growth to our premium pages offering for SMBs. LinkedIn Marketing Solution continues to be the best way to reach B2B decision-makers with two consecutive quarters of accelerated revenue growth. More broadly, when it comes to advertising, we are transforming how people search, browse, discover content, and use AI as a personal assistant. With Copilot Search and Bing, we are reimagining search results with overview pages curated by AI and embedded conversational capabilities. With Copilot Vision and Edge, Copilot sees what you see and gives you real-time responses while you browse. With Copilot Discover, we are personalizing MSN experience based on user interactions and preferences.

Thank you, Satya, and good afternoon, everyone. This quarter, revenue was $70.1 billion, up 13% and 15% in constant currency. Gross margin dollars increased 11% and 13% in constant currency, while operating income increased 16% and 19% in constant currency. Earnings per share was $3.46, an increase of 18% and 19% in constant currency. Results exceeded expectations driven by focused execution from our sales and partner teams. We continue to see strong demand for our cloud and AI offerings as they help customers drive productivity, increase efficiencies, and grow their businesses. Again this quarter, revenue from our AI business was above expectations. Commercial bookings increased 18% and 17% in constant currency, significantly ahead of expectations again this quarter, driven by an Azure commitment from OpenAI.

We also saw consistent execution across our core annuity sales motions and continued long-term commitments to our platform. Commercial remaining performance obligation increased to $315 billion, up 34% and 33% in constant currency. Roughly 40% will be recognized in revenue in the next 12 months, up 17% year-over-year. The remaining portion recognized beyond the next 12 months increased 47%. This quarter, our annuity mix was 98%. FX was roughly in line with expectations on total company revenue, segment-level revenue, and operating expense growth. FX decreased COGS growth by only one point, one point unfavorable to expectations. Microsoft Cloud revenue was $42.4 billion ahead of expectations and grew 20% and 22% in constant currency. Microsoft Cloud gross margin percentage was 69% in line with expectations and decreased 3 points year-over-year, driven by the impact of scaling our AI infrastructure.

Company gross margin percentage was also 69%, down 1 point year-over-year, driven by scaling our AI infrastructure. Operating expenses increased 2% and 3% in constant currency, lower than expected due to our focus on cost efficiencies, as well as investments that shifted to Q4. Operating margins increased 1 pointyear-over-year year to 46%, better than expected as we continue to focus on building high-performing teams and increasing our agility by reducing layers with fewer managers. At a total company level, headcount at the end of March was 2% higher than a year ago and was down slightly compared to last quarter. Now to our segment results. Revenue from productivity and business processes was $29.9 billion and grew 10% and 13% in constant currency, ahead of expectations driven by LinkedIn, Microsoft 365 commercial products, and Microsoft 365 consumer.

M365 commercial cloud revenue increased 12% and 15% in constant currency, in line with expectations. Our growth was again driven by E5 and M365 Copilot. With M365 Copilot, we continue to see growth across customer segments and GOs. Paid M365 commercial seats grew 7% year-over-year to over 430 million. While we continue to see installed-base expansion across all customer segments, growth was primarily driven by our small and medium business and frontline worker offerings. M365 commercial products revenue increased 5% and 8% in constant currency, ahead of expectations due to higher-than-expected Office transactional purchasing. M365 consumer cloud revenue increased 10% and 12% in constant currency, ahead of expectations, driven by higher-than-expected subscription growth following the January price increase. M365 consumer subscriptions grew 9% to 87.7 million. LinkedIn revenue increased 7% and 8% in constant currency. Results were ahead of expectations due to better-than-expected performance across all businesses.

The talent solutions business continues to be impacted by weakness in the hiring market. Dynamics 365 revenue increased 16% and 18% in constant currency, in line with expectations, with continued growth across all workloads. Segment gross margin dollars increased 10% and 13% in constant currency, and gross margin percentage was relatively unchanged year-over-year, even with the impact of scaling our AI infrastructure. Operating expenses increased 1% and 2% in constant currency, and operating income increased 15% and 18% in constant currency. Next, the Intelligent Cloud segment. Revenue was $26.8 billion and grew 21% and 22% in constant currency, ahead of expectations driven by Azure. In Azure and other cloud services, revenue grew 33% and 35% in constant currency, including 16 points from AI services.

Focused execution drove non-AI services results, where we saw accelerated growth in our enterprise customer segment, as well as some improvement in our scale motions. In Azure AI services, we brought capacity online faster than expected. In our on-premises server business, revenue decreased 6% and 4% in constant currency, slightly below expectations, driven by renewals with lower end-period revenue recognition from the mix of contracts. The year-over-year decline is reflective of the continued customer shift to cloud offerings. Enterprise and partner services revenue increased 5% and 6% in constant currency, slightly ahead of expectations due to better-than-expected performance in enterprise support services. Segment gross margin dollars increased 13% and 14% in constant currency, and gross margin percentage decreased 4 percentage points year-over-year, driven by scaling our AI infrastructure. Operating expenses increased 6% and 7% in constant currency, and operating income grew 17% and 18% in constant currency.

Now to more personal computing. Revenue was $13.4 billion and grew 6% and 7% in constant currency, ahead of expectations due to better-than-expected results across all businesses. Windows OEM and devices revenue increased 3% year-over-year, ahead of expectations, as tariff uncertainty through the quarter resulted in inventory levels that remained elevated. Search and news advertising revenue ex TAC increased 21% and 23% in constant currency. Results were significantly ahead of expectations, driven by usage from a third-party partnership, better-than-expected rate expansion, and volume growth across Edge and Bing. In gaming, revenue increased 5% and 6% in constant currency. Xbox content and services revenue increased 8% and 9% in constant currency, ahead of expectations, driven by stronger-than-expected performance in third-party and first-party content. Segment gross margin dollars increased 9% and 11% in constant currency.

Gross margin percentage increased 2 points year-over-year, driven by strong execution on margin improvement in search and gaming. Operating expenses increased 1%. Operating income increased 21% and 23% in constant currency, driven by continued prioritization of higher margin opportunities. Now, back to total company results. Capital expenditures, including finance leases, were $21.4 billion, slightly lower than expected due to normal variability from the timing of delivery of data center leases. Cash paid for PP&E was $16.7 billion. Roughly half of our cloud and AI-related spend was on long-lived assets that will support monetization over the next 15 years and beyond. The remaining cloud and AI spend was primarily for servers, both CPUs and GPUs, to serve customers based on demand signals, including our customer contracted backlog of $315 billion.

Cash flow from operations was $37 billion, up 16%, driven by strong cloud billings and collections, partially offset by higher tax payments. This quarter, free cash flow was $20.3 billion. Other income and expense was negative $623 million, more favorable than anticipated, primarily due to net gains on derivatives and investments. Our losses on investments accounted for under the equity method were slightly higher than expected. Our effective tax rate was approximately 18%. Finally, we returned $9.7 billion to shareholders through dividends and share repurchases, an increase of 15% year-over-year. Now, moving to our Q4 outlook, which, unless specifically noted otherwise, is on a US dollar basis. First, through April, demand signals across our commercial businesses, as well as in LinkedIn, gaming, and search, have remained consistent. Our outlook assumes those trends continue in Q4. If the environment changes, our results may be impacted.

In our Windows OEM business, our outlook assumes the elevated inventory levels from Q3 will come down in Q4. We have widened our guidance range in our More Personal Computing segment to account for some of this variability. Next, FX. With the weakening of the US dollar in April, we now expect FX to increase total revenue growth by one point. Within the segments, we expect FX to increase revenue growth by one point in Productivity and Business Processes, and less than one point in Intelligent Cloud and More Personal Computing. We expect FX to increase COGS and operating expense growth by less than one point. In commercial bookings, we expect solid growth on a significant prior year comparable and a growing expert base. Bookings growth will be driven by strong execution across our core annuity sales motions and continued long-term commitments to our platform.

As a reminder, larger, longer-term Azure contracts, which are more unpredictable in their timing, can drive increased quarterly volatility in our bookings growth rate. Microsoft Cloud gross margin percentage should be roughly 67%, down year-over-year, primarily driven by the impact of scaling our AI infrastructure. Now, capital expenditures. We expect Q4 capital expenditures to increase on a sequential basis. H2 CapEx in total remains unchanged from our January H2 guidance. As a reminder, there can be quarterly spend variability from cloud infrastructure buildouts and the timing of delivery of finance leases. Next, segment guidance. In productivity and business processes, we expect revenue of $32.05 billion-$32.35 billion, or growth of 11%-12% in constant currency. M365 commercial cloud revenue growth should be approximately 14% in constant currency, relatively stable compared to the prior quarter.

We expect continued ARPU growth through E5 and M365 Copilot and some seat growth moderation given the size of the installed base. M365 commercial products revenue growth should be in the mid-single digits. As a reminder, M365 commercial products includes both the Windows commercial on-premises components of M365 suites and office transactional purchasing, both of which can be variable due to end-period revenue recognition dynamics. M365 consumer cloud revenue growth should be in the mid-teens, driven by the January price increase. For LinkedIn, we expect revenue growth in the high single digits. In Dynamics 365, we expect revenue growth to be in the mid to high teens with continued growth across all workloads. For intelligent cloud, we expect revenue of $28.75-$29.05 billion US dollars, or growth of 20%-22% in constant currency.

Thanks, Amy. We'll now move over to Q&A. Out of respect for others on the call, we request that participants please only ask one question. Operator, can you please repeat your instructions?