Microsoft discloses its gross margin on Commercial Cloud, which is a revenue stream comprised of O365 Commercial, Azure and Dynamics CRM Online. From aggregate Commercial Cloud GM, it is possible to back into Azure?s current gross margins by assuming a gross margin for the SaaS portion of Commercial Cloud (Office 365 Commercial, Dynamics CRM Online) as well as the portion of the Commercial Cloud revenue stream that is SaaS and Azure.
Of the four variables (SaaS revenue / gross margin, Azure revenue / gross margin), we have the most confidence in SaaS gross margins (given it?s a metric that is widely available based on public comps) though this confidence is relative given at-scale SaaS gross margins across software can range widely from 55-85%. We believe with ~100mn users across O365 Commercial / Consumer, O365 should be considered at-scale though with incremental room for gradual gross margin improvement.
There is significant uncertainty around the degree to which Office 365 will cannibalize Commercial Office on-prem revenue. Related to this, O365 likely brings some uplift to traditional Office revenue (although not clear how many customers this impacts and the magnitude of the uplift). The interaction of these two dynamics is very difficult to parse. This is a particularly important consideration given we estimate the Commercial Office on-prem revenue stream is roughly double the size of Commercial O365 today and comes in at a higher ~93% gross margin.
