Microsoft just closed out its worst quarter on Wall Street since the 2008 financial crisis, as investors soured on the software giant’s prospects in artificial intelligence.

The company’s stock plunged 23% in the first quarter, a steeper drop than any of its tech peers or the Nasdaq, which fell 7% in the period. Microsoft bounced back a bit on Tuesday, alongside a broader market rally, with shares of the company gaining 3.3%, the biggest jump since July.

While Microsoft remains dominant in workplace productivity software and through its Windows operating system, the company is facing twin pressures to grow efficiently in AI while also building out its cloud AI infrastructure to support soaring demand.

Oil prices are surging because of the Iran war, potentially driving up costs for building and running data centers. And on the product side, Copilot, Microsoft’s AI assistant, has yet to show a lot of traction as users flock to competitive services from Google, OpenAI and Anthropic.

“Redmond is in a pickle,” wrote Ben Reitzes, an analyst at Melius Research, in a note on March 23, referring to Microsoft’s headquarters in Washington state. Reitzes, who has a hold rating on the stock, said the company has to use valuable capacity from its Azure cloud to fix Copilot, but has no choice “since Copilot is needed to maintain momentum in its most profitable and largest segment.”

Microsoft declined to comment.

Meanwhile, software stocks are getting pummeled as part of an AI-inspired “SaaSpocalypse” that has pushed names like Adobe, Atlassian and ServiceNow down more than 30% this year.

“Much of traditional SaaS is dying/in likely terminal decay,” Jason Lemkin, founder of SaaStr, wrote this week in a post on X, using the acronym for software as a service. In a blog post, he noted that earnings multiples for software trail the S&P 500.

Microsoft’s multiple hasn’t been this low since the fourth quarter of 2022, when OpenAI introduced ChatGPT, according to Capital IQ data.

Gil Luria, an analyst at DA Davidson, told CNBC that the sell-off isn’t justified, and he recommends buying shares. In the latest quarter, Microsoft reported revenue growth of almost 17%, accelerating from a year earlier.

“The dislocation in the fundamental performance of Microsoft and the stock performance of Microsoft, and the valuation of Microsoft, is the biggest it’s been in decades,” Luria said. He said he expects the company’s earnings growth to outpace the broader market this year.

“There is no stickier product in all of enterprise software than Microsoft Windows and Office,” he said.

Microsoft has been trying to build a larger revenue base from productivity software with the Microsoft 365 Copilot AI add-on, but so far, just 3% of commercial Office customers have licenses for it. Luria said he has access to 365 Copilot, but that he’s not a fan. More importantly, he said, Microsoft has pricing power with Office subscriptions. The company announced plans to raise prices in December.

With Copilot struggling to win over users, Microsoft said two weeks ago that Mustafa Suleyman, the former co-founder of AI lab DeepMind who had been running Copilot development for consumers, will focus on building AI models. Microsoft has tasked former Snap executive Jacob Andreou with leading the Copilot experience for consumers and commercial clients.

“Sure sounds like a demotion at best,” former Jane Street trader Agustin Lebron wrote on X. The change followed departures of prominent executives, including gaming chief Phil Spencer and Rajesh Jha, Microsoft’s highest-ranking productivity leader, who’s retiring.

Microsoft is still getting healthy growth out of Azure, which is second to Amazon Web Services in cloud infrastructure. Revenue in the division jumped 39% in the December quarter. Finance chief Amy Hood said in January that growth could have been in the 40s if the company had allocated all of its AI chips to Azure, rather than giving some to teams operating services such as Microsoft 365 Copilot.

Azure is benefiting from a massive backlog of business from OpenAI and Anthropic. Microsoft’s commercial remaining performance obligations at Azure more than doubled in the December quarter from a year earlier to $625 billion.

It’s a reminder that, among tech’s hyperscalers, Microsoft was viewed as an early mover in generative AI due to its 2019 investment in OpenAI and strategic partnership with the startup. But the companies no longer have an exclusive arrangement when it comes to cloud infrastructure and are now competing in a number of areas.

In February, OpenAI announced a service called Frontier that the company said “helps enterprises build, deploy, and manage AI agents that can do real work.”

Microsoft CEO Satya Nadella has been wearing a brave face, promoting the company’s AI enhancements on social media.

“It’s a lot of intense competition, but it’s not so zero-sum, as some people make it out to be,” he said in January.

Aaron Foresman, managing director of equity research at Crawford Investment Counsel, a Microsoft investor, said Nadella’s continuing presence is crucial for the company that he’s been leading since replacing Steve Ballmer in 2014.

“We’ve got a lot of trust and confidence in Satya,” Foresman said.

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Microsoft said Tuesday that it’s bringing together the engineering groups for its commercial and consumer Copilot assistants, which have yet to gain broad adoption.

Jacob Andreou, a former Snap executive who works in Microsoft’s artificial intelligence unit, will become an executive vice president in charge of the consumer and commercial Copilot experience, CEO Satya Nadella wrote in a memo to employees.

Andreou will report to Nadella. Executives Ryan Roslansky, Perry Clarke and Charles Lamanna, who will also report to Nadella, will lead Microsoft 365 applications and the Copilot platform, Nadella wrote.

The Copilot moves will free up executive Mustafa Suleyman, a former co-founder of AI lab DeepMind that Google bought in 2014, to focus more on building new models.

“The next phase of this plan is to restructure our organization to enable me to focus all my energy on our Superintelligence efforts and be able to deliver world class models for Microsoft over the next 5 years,” Suleyman wrote in a memo. “These models will enable us to build enterprise tuned lineages that help improve all our products across the company.”

Since arriving at Microsoft through the Inflection deal in 2024, Suleyman has spent time working on Copilot for consumers, among other initiatives.

Microsoft’s Copilot app had 6 million daily active users in February, while OpenAI’s ChatGPT had 440 million and Google’s Gemini had 82 million, according to data from app analytics company Sensor Tower.

Sensor Tower said that so far in March, Anthropic’s Claude, which has gotten extensive media attention because of Anthropic’s standoff with the U.S. Department of Defense, has reached 9 million daily users, while Copilot still stands at 6 million.

Microsoft incorporates generative AI models from Anthropic and OpenAI. About 3% of commercial users with Office productivity software subscriptions have access to the Microsoft 365 Copilot add-on. Google is pushing Gemini to both consumers and corporations.

In November, Microsoft announced the formation of a superintelligence group under Suleyman, who said Tuesday that frontier model development has always been his main focus and passion.

He said he will “stay directly involved in much of the day-to-day operation” of the broad Microsoft AI group that includes products such as the Bing search engine.

Google controlled 90% of search engine market share in February, while Bing had about 5%, according to estimates from web analytics company StatCounter.

“We are doubling down on our superintelligence mission with the talent and compute to build models that have real product impact, in terms of evals, COGS reduction, as well as advancing the frontier when it comes to meeting enterprise needs and achieving the next set of research breakthroughs,” Nadella wrote.

The shake-up comes as pressure mounts on software companies to show a return on AI investments, as investors worry that the models could disrupt software incumbents.

The iShares Expanded Tech-Software Sector Exchange-Traded Fund is down about 19% so far this year, with Microsoft falling 17% in that period.

Microsoft is constructing models for generating source code, images and audio, and for reasoning, which produces answers that people can find more thoughtful but requires more time, Suleyman said.

At the same time, Microsoft will keep drawing on OpenAI intellectual property. In October, Microsoft said it has IP rights for OpenAI models and products through 2032.

“I’m genuinely thrilled about this change precisely because most of the future value is going to accrue to the model layer, and my job is to create highly COGS-optimized, highly efficient enterprise specific model lineages for Microsoft over the next three to five years,” Suleyman said in an interview, using the acronym for cost of goods sold. “That is singularly the objective, precisely because the model is the product, right? That is the future direction of all the IP.”

WATCH: Microsoft shifts from OpenAI exclusivity and expands its AI basket