The Steadily Increasing Average Revenue Per User Microsoft Extracts from Office 365

Higher Office 365 Revenue Per User Leads to Bigger Profits

Every time Microsoft releases a set of quarterly results, CFO Amy Hood takes the opportunity to reinforce growing the ARPU (average revenue per user) from its cloud customers. It’s a trend that’s existed for several quarters, including Microsoft’s recent FY23 Q2 earnings.

To understand why ARPU is so important to Microsoft, I tried to figure out how much it is and how ARPU has increased over time. The mathematics involved in the calculation are not difficult if you have the numbers. Unfortunately, Microsoft loves to obfuscate the information given about cloud revenues, so some detective work is necessary.

Microsoft uses a bucket called the Microsoft Cloud to report revenues associated with cloud products. It does not break out Office 365 or Azure revenues in the form of definite numbers. Instead, Microsoft gives details like Office 365 revenues grew 11% year over year. That’s only helpful if you know the base figure.

Microsoft Cloud revenues amounted to $27.1 billion in FY23 Q2. On an annualized basis, the ARR (annual run rate) is $108.4 billion, which is a lot of money. The ARR is calculated as if the revenue achieved for the quarter flowed in for four quarters. This doesn’t happen in the real world. For instance, Microsoft Cloud earned $25 billion revenues in FY22 Q4, or an ARR of $100 billion. The actual sum for Microsoft Cloud over the four FY22 quarters is $91.2 billion.

Office 365 Revenues within the Microsoft Cloud

Microsoft hasn’t defined the exact make-up of Microsoft Cloud. We know that it covers Office 365, Azure, LinkedIn, Dynamics 365, and other cloud products, so the first thing we need to figure out is how much does Office 365 contribute to Microsoft Cloud. One way to approach the problem is to ask what the other parts contribute. For FY22, we get some insight from:

• LinkedIn reported that their annual income was $11 billion across talent and marketing solutions.
• According to a CNBC report about a Google analysis of Azure revenue, the range could be as wide as $29 billion (Google’s figure) to $37.5 billion. Let’s say that Azure brought in $33.25 billion in FY22.
• Putting a figure on Dynamics 365 revenue is difficult. I can’t find any good source. Let’s say that it’s $4 billion.

Together, this amounts to $48.25 billion, which leaves Office 365 with revenues of $42.95 billion, or around 47.09% of the total revenues for Microsoft Cloud. That’s a bit over what I estimated in July 2022, but better data is now available.

Calculating ARPU

To determine the APRU, we need to know how many Office 365 users exist. Microsoft used to give this number on a regular basis, but has become more reticent recently, possibly because the number is not increasing at the same rate as it once did. In April 2022, Microsoft said that Office 365 had reached 345 million paid seats. That’s not the same as active users, which we need for apple-to-apple comparisons with previous years.

For this comparison, I used a figure of 335 million active users. This tracks the regular monthly growth of active users of about 3-3.5 million observed over the 2015-2020 period when Microsoft did report active user numbers. Using this number, we get an ARPU of $128.21 per Office 365 user in FY22. To give some context, that’s 28.49% of what Microsoft receives annually for a user with an Office 365 E5 license.

The number seems low, but you’ve got to account for the mix of license types that exist across the Microsoft 365 spectrum. Some are expensive (like E5), some are very cheap or zero cost, like those used by frontline workers or students. In FY22 Q4, Microsoft said that E5 represented 12% of their license mix.

But what we can say is that by using the information Microsoft releases and some analyst interpretations, the ARPU has increased since 2019 and is likely to increase again in the current fiscal year based on the reported revenues for the first two quarters. If anything, the FY23 numbers might be higher if the Teams Premium license (due in February 2023) is popular with customers. Table 1 summarizes the numbers. In a nutshell, Microsoft is steadily going towards extracting 30% of an annual E5 license from every user (the annual cost of an E5 license increased by $36 from March 2022).

Year	Microsoft Cloud Revenues	Office 365 Revenues	Users (end FY)	ARPU	Office 365 E5 Annual Cost	Percentage of E5 Cost
FY19	41.11	19.36	190,000,000	$101.90	$420.00	24.26%
FY20	51.80	24.39	240,000,000	$101.65	$420.00	24.20%
FY21	69.10	32.54	280,000,000	$116.22	$420.00	27.67%
FY22	91.20	42.95	335,000,000	$128.21	$450.00	28.49%
FY23 (est.)	108.24	50.97	370,000,000	$137.77	$456.00	30.21%

These calculations assumes that Microsoft 365 licenses that include Office 365 are in the Office 365 revenues. Again, we don’t know if this is true. However, just like using Fitbit or any other fitness tracker, trends emerge by using the same measurements over time.

Growing ARPU is Good for Microsoft

Obviously, the more money you can extract from a customer base, the more profit you can make. With the size of the Office 365 installed base, Microsoft can extract more revenue and profit through:

• Continuing sales activity to convince customers to move licenses to more expensive variations.
• Engineering investments to make high-end licenses more attractive by bundling most new security and compliance functionality in those products.
• The introduction of new products like Teams Premium (which Microsoft is offering for $7/user/month for a limited period).

Some would call this the dark side of capitalism. To me, it’s just business and Microsoft is perfectly within its rights to monetize the user base it has built up. What it does mean for tenant administrators is that license management will continue to be a critical task. Office 365 and Microsoft 365 licenses can be expensive. If you buy licenses, make sure that the licenses are used efficiently.