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How will $10bn ChatGPT deal affect Microsoft’s earnings?

While the software giant’s announced combination of ChatGPT with its Azure platform will take a while to show up in revenue and earnings, analysts are largely bullish on the stock and optimistic for short to medium term. EPS is expected to drop 7.7%, while revenue is forecast to grow 2.3% year-over-year.

-Microsoft cut 10,000 jobs, primarily in its engineering and videogame divisions, in a fresh round of tech layoffs last week.

- According to FactSet, 91% of analysts polled gave the stock a “buy” rating.

- The iShares Expanded Tech-Software Sector ETF, in which Microsoft is a top three holding, was up 6.6% in the last month.

Microsoft Corp. [MSFT] said last week that it plans to integrate the viral AI chatbot ChatGPT into its cloud-based Azure platform “soon” as part of an earlier $1bn investment Microsoft made in OpenAI in 2019. Meanwhile, it is making a deal to pump a further $10bn stake in the chatbot’s developer over a multiple-year period, an unnamed source familiar with the discussions told Bloomberg. The Azure OpenAI Service product has been available to an exclusive customer group since its launch in 2021. It grants users access to OpenAI tools for use in their own cloud applications, including the GPT-3.5 language system that ChatGPT is built on and the Dall-E model allowing text prompts to generate images.

As Opto previously reported, Microsoft’s main threat is currently Alphabet Inc. [GOOG]’s Google and its competing laMDA technology, which the search giant has held back from releasing prematurely as it works on refining its accuracy. Meanwhile, several rival start-ups are cropping up in hopes of grabbing a slice of the hot AI market. Among them are Adept AI Labs and Anthropic, founded by former leaders of OpenAI and Google AI.

The software giant also announced a fresh wave of mass layoffs, cutting 10,000 jobs as tech budgets contract after years of abundant hiring. Microsoft CEO Satya Nadella said the cuts are to reduce costs due to a drop in demand for personal computers, software, and digital services as part of the global economic movement towards a recession. However, in comparison, the company has hired 40,000 new employees in the year to June 2022. The layoffs comprise 5% of the company’s workforce and are unlikely to impact spending significantly. The company cut jobs in its goggles business, video-game division, and some engineering divisions but plans to continue hiring for strategic units and competitive divisions like AI.

Wall Street expects EPS drop, but analysts remain bullish

Microsoft is set to announce its earnings results for the quarter that ended December 2022 on 24 January 2023. Analysts are predicting a worse quarter for Microsoft’s EPS performance, estimating earnings of $2.29 per share in its upcoming results, which reflects a 7.7% year-over-year decline, according to Zack Equity Research.

However, Zack’s consensus estimate expects revenues to come to $52.93bn, up 2.3% from the same quarter of the previous year. Most analysts remain bullish on Microsoft’s stock, seeing an upside thanks to the announced ChatGPT-Azure integration. According to FactSet, 91% of analysts polled rated the stock a “buy” and expect an average upside of 21% on the share price.

Gil Luria, an analyst at D.A. Davidson, predicts a 15% upside on the current price. On the potential integration of ChatGPT into Microsoft’s Bing search engine, he said, “We believe the company has a once-in-a-decade opportunity to unseat Google’s dominance.” Trent Masters, a fund manager at Alphinity Investment Management, told CNBC Pro that he is more optimistic about Microsoft than Google over the short to medium term. “MSFT is almost unrivalled in terms of their market positioning for productivity tools, then add in the leading position in Cloud with Azure, and you have a very strong business positioning,” he said.

Fund in focus: iShares Expanded Tech-Software Sector ETF

Microsoft is one of the top three holdings of the iShares Expanded Tech-Software Sector ETF [0U5Z], with a 7.95% weighting. The fund was up 6.6% in the last month. The Invesco Dynamic Software ETF [PSJ] also offers exposure to SaaS companies. The fund was up 3.7% in the last month, but down 12.5% year-over-year.

The WisdomTree Artificial Intelligence UCITS ETF [WTAI] offers exposure to several key players in the global AI industry. AutoStore Holdings Ltd. is the fund’s top holding, with a 4.16% weighting. The fund was up 11.92% in the last month but down 23.69% year-over-year.

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