Amazon (NASDAQ: AMZN) And Microsoft (NASDAQ: MSFT) are the #1 and #2 cloud infrastructure companies, respectively. While Amazon pioneered the industry, Microsoft helped bounce back from the PC industry’s decline, mainly by moving to the cloud. As a result, all stocks have focused heavily on artificial intelligence (AI), a technology that relies heavily on the cloud for support.
Admittedly, both companies are among the largest companies in the technology sector. Furthermore, they both have large amounts of cash and diverse income streams, so both AI stocks are likely to outperform the S&P500. Still, either of these likely offers the potential for higher returns.
Image source: Synergy Research Group.
The case for Amazon
Many investors view Amazon as an e-commerce company and may ignore Amazon Web Services (AWS), whose cloud platform generates most or all of its profits in most quarters. Nevertheless, Amazon was a pioneer in the cloud industry and, as mentioned, has maintained its leading position in the sector. It remains the leader, in part by excelling in AI. To this end, AWS leverages AI so customers can create new AI-driven applications without worrying about infrastructure requirements.
Additionally, AWS AI detects fraud, cybersecurity vulnerabilities, and IT infrastructure issues. It can also analyze text and videos to extract important points.
Much of that functionality is achieved through an AI application called machine learning (ML), which allows the AI to learn from mistakes and adjust systems without pre-programming. This can help solve a company’s problems, build and scale generative AI applications, and add AI to applications.
Although it generated only 16% of Amazon’s revenue, AWS generated more than $7 billion in operating revenue in the third quarter of 2023, well above the $4 billion combined for Amazon’s two e-commerce segments. That resulted in net income of nearly $10 billion over the same period, a significant increase from the $3 billion earned in the same period a year ago.
Investors have noticed Amazon’s recovery and AI prowess in 2023, and the stock is up more than 60% in the past year. And while some investors may wince at the price-to-earnings ratio of 76, that earnings multiple is low by historical standards. With AI leading the way on the AWS side of the business, the company’s rapidly rising revenues could likely push the stock much higher.
Why investors might choose Microsoft
As mentioned, the cloud was Microsoft’s salvation. Once known for its PC operating systems and productivity software, its largest source of revenue now comes from the intelligent cloud segment, which powers Azure. Microsoft uses Azure for applied AI services, cognitive functions, and ML. However, the reach of AI affects almost all parts of the company.
The company has integrated AI-related functionality into its productivity software. It achieves this through Microsoft Copilot, which allows users to unlock productivity and skills through Word, Excel and other applications. It also supports Business Chat, a large language model (LLM) that can produce output using one’s data.
Furthermore, LLM skills were improved when it built an alliance with Open AI’s Chat GPT. That technology therefore supports Azure-related applications and the search functions in Bing Chat, which supports its chatbot.
Such functionality helped Microsoft generate more than $57 billion in revenue in the first quarter of fiscal 2024 (ending September 30). And because it kept the cost of revenue growth to a minimum, net income of $22 billion rose 27% in the first fiscal quarter from year-ago levels.
Like Amazon, Microsoft has benefited from the AI boom and its share price has risen more than 50% in the past twelve months. This resulted in a price/earnings ratio of 36, a historically high level in the past five years. Its AI prowess may have led to that multiple expansion, though the stock should continue to rise despite that valuation.
Amazon or Microsoft?
While both stocks should thrive, Amazon will likely generate higher shareholder returns. In Amazon’s case, a relatively small part of the company, AWS, is driving most of its revenue growth, allowing it to maintain higher earnings growth rates.
Admittedly, Amazon’s higher price-to-earnings ratio may turn off some investors. Still, faster earnings growth will likely justify higher earnings numbers as the reach of AI tools grows.
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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Will Healy has no position in any of the stocks mentioned. The Motley Fool holds and recommends positions in Amazon and Microsoft. The Motley Fool has a disclosure policy.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
