Microsoft grapples with AI spending payoff as stock underperforms Magnificent Seven

Microsoft Corp. faces challenges in realizing the returns on its massive investment in artificial intelligence. This has been reflected in its stock, which lags behind that of other members of the Magnificent Seven.

Despite pouring tens of billions into AI, the company’s stock has struggled, raising concerns about how quickly these investments will begin to pay off. With signs that AI adoption has been slower than expected, Microsoft’s stock has faltered, and analysts are questioning whether the company can meet the lofty expectations set for its AI ambitions.

According to Tim Pagliara, chief investment officer at Capwealth Advisors, the market realizes that AI adoption will take longer and that near-term return expectations have become unrealistic. He added:

While Microsoft is really pushing AI, it has to prove the concept at a time when it also has huge capex plans and historical standards fully value the stock.

– Tim Pagliara

Investors scrutinize Microsoft’s AI spending as stock performance falls behind

Microsoft’s stock is now over 7% below its record high set in July, and its performance since the beginning of 2024 has lagged behind the Nasdaq 100 Index. The stock rose 1.9% on Friday, in line with a broad market rally.

This reflects increasing scrutiny of the firm’s heavy AI-related spending, especially as investors seek a more noticeable return. Microsoft’s capital expenditures this fiscal year include tens of billions of dollars for data centers.

More updates on these trends will come later this month when the company reports second-quarter results. The last two reports have been disappointing, with a muted growth forecast for its Azure cloud-computing business in the most recent quarter and a slowdown in Azure the quarter before.

Wall Street maintains confidence in Microsoft despite adoption challenges

Microsoft has rebranded its main chatbot for businesses twice to increase usage. Morgan Stanley analysts noted that this “might be seen as a response to slow adoption of the existing paid Microsoft 365 Copilot offering.”

Yesterday, the company announced a 30% price increase for its Office app suite, which now includes access to AI tools.

While AI adoption is slower than expected, tech firms remain a consensus favorite on Wall Street. More than 90% of analysts recommend buying the stock, and the average analyst price target suggests a nearly 20% upside over the next 12 months, the highest return potential among the Magnificent Seven, except for Nvidia Corp.

Bank of America expects software stocks to outperform this year and named Microsoft one of its top picks. It states that Microsoft is the “best positioned” for the AI cycle in both infrastructure and applications.

Microsoft’s revenue is expected to grow by about 14% this fiscal year, with earnings also expected to expand at a double-digit rate for the next several years.

The concern remains whether that will be enough to support the stock’s valuation. Shares trade at more than 30 times estimated earnings, and although the multiple recently dropped to its lowest point in more than a year, it still exceeds its long-term average of around 25.