NextDC and Megaport could benefit from accelerated data centre spend: Citi 

Citi says it sees a positive read-through for ASX-listed cloud companies like Megaport (ASX: MP1) and NextDC (ASX: NXT) from Microsoft and Alphabet’s recent results.

“While we are early in terms of AI, we expect it to accelerate cloud adoption in the first instance with Microsoft noting that cloud and data in the cloud are key enablers of AI usage by Enterprises,” Citi analysts said in a note on Thursday.

“The step-up in CapEx is a forward demand indicator for data centre space and could also drive connectivity demand once installed.”

Microsoft and Alphabet earnings at a glance

Both Microsoft and Alphabet beat earnings expectations for the second quarter, with earnings per share a respective 5.5% and 7.3% ahead of analyst forecasts. Here are some of the key takeaways  (plus the companies’ share price movements on the result day):

Microsoft (-3.8%) higher CapEx:

• Quarterly revenue increased 8% to a record US$56bn driven by a 21% increase in cloud revenues to US$30.3bn

• Microsoft cloud surpassed US$110bn in annual revenue, with Azure accounting for more than 50% of the total for the first time

• Guided to 25-26% growth for Azure in the first quarter of FY24

• Main headwinds to outlook/share price performance: Guidance for CapEx, underwhelming commercial  bookings and elevated expectations

Alphabet (+5.6%) sees ad stabilisation:

• Quarterly revenue up 7.1% to US$74.6bn on recovering ad demand and a jump in Youtube revenue

• Cloud revenue growth of 28% was another bright spot but the company flagged that customers continue to optimise their spend

• Almost 80% of advertisers already use at least one AI-powered Search ad product

• "We expect elevated levels of investment in our technical infrastructure, increasing through the back half of 2023 and continuing to grow in 2024,”.” – CFO Ruth Porat said. 

Data centre CapEx to accelerate

So what does this mean for Aussie investors? 

“Both Microsoft and Google spoke to stepping up CapEx in order to support data centre builds as well as servers/compute to support both AI and non-AI cloud workload demand,” says Citi.

“We see this as positive read-through for NextDC in terms of hyperscale demand and for Megaport in terms of connectivity once the capacity is deployed.”

The note had a $14.45 price target on NextDC, which represents an upside of 15.9% based on the stock’s previous close ($12.47). 

NextDC 12-month price chart (Source: Market Index)

“From Megaport’s perspective one of the positive comments in Microsoft’s result call was that it is seeing existing AWS customers start to use Azure for some of the new AI workloads. We see increasing multi-cloud adoption as a tailwind for Megaport.”

Earlier this month, Citi was Neutral rated on Megaport with a $9.05 target price ($9.28 as at 26 July close). It might be worth mentioning that Megaport shares are up almost 160% since late April.

Megaport 12-month price chart (Source: Market Index)

Other ASX-listed AI plays

There’s not a whole lot of large cap AI-related exposure on the ASX outside of NextDC and Megaport. But here’s a list that covers most bases:

Processing and hardware:

• Chip sets: Brainchip (ASX: BRN)

• Quantum computing: Archer Materials (ASX: AXE)

• Enablers: Weebit Nano (ASX: WBT), 4DS Memory (ASX: 4DS)

• Design: Altium (ASX: ALU)

Infrastructure:

• Data centres: NextDC (ASX: NXT), Dug Technology (ASX: DUG), Global Data Centre Investment Fund (ASX: GDC) and DXN (ASX: DXN)

• Infrastructure: Megaport (ASX: MP1)

Consulting and wholesalers:

• Consultancies: Data#3 (ASX: DTL), Atturra (ASX: ATA) and Bigtincan (ASX: BTH)

• Wholesale: Dicker Data (ASX: DDR)

Other:

• Appen (ASX: APX)