Microsoft Corp (NASDAQ:MSFT) will report its fiscal second quarter earnings after US markets close, with investors set to be focused on signs that the company can convert its large backlog of AI-related commitments into revenue growth and earnings upside, according to Jefferies analysts.
The firm, which has a ‘Buy’ rating and a $675 price target on Microsoft, believes the company’s valuation has become more attractive after a pullback in the stock.
“MSFT is down 18% since fiscal Q1,” the firm noted, despite the company’s disclosure of major AI commitments, including a $250 billion OpenAI agreement and $30 billion in Anthropic Azure compute commitments. Jefferies added that Microsoft’s multiple has compressed 23% as investors continue to rotate into semiconductors.
The firm highlighted Microsoft’s remaining performance obligation, or RPO, as a key indicator of future revenue. “Fiscal Q2 RPO should show the largest sequential step-up ever,” they believe, driven by the inclusion of the OpenAI agreement and Anthropic compute commitments. The analysts said the expected RPO increase reinforces “unprecedented multi-year demand visibility underpinning a strong durable growth outlook for Azure & M365 Comm.”
Azure growth is expected to be the main focus for the quarter. Jefferies argued that Azure is “supply-constrained, not demand-constrained given massive RPO,” and that execution on new capacity could create upside.
The firm pointed out that Microsoft has beaten Azure guidance in the last three quarters, by 2 points in the most recent quarter. The firm added that execution on incremental capacity alone could drive upside to both fiscal second quarter results and full-year Azure consensus expectations. Jefferies also warned that Copilot and first-party product needs may divert capacity away from Azure.
Jefferies said management now expects capacity constraints to remain until the end of fiscal 2026, and that the OpenAI and Anthropic agreements could prompt an upward revision to capex expectations. The analysts noted that they model fiscal 2026 and fiscal 2027 capital expenditures, including leases, at about $141 billion and $155 billion, representing 60% and 10% year-over-year growth.
On productivity software, Jefferies said Microsoft’s guidance for M365 Commercial growth suggests a slight slowdown. The firm noted that fiscal second-quarter guidance of roughly 13% to 14% constant-currency growth compares with 15% growth in the prior quarter, implying a modest deceleration.
Jefferies said that third quarter expectations of 15% year-over-year growth on an easier comparison are achievable, especially with a larger tailwind from Copilot.
The firm expects operating income to grow 16% in fiscal 2026, while management has said margins are expected to stay flat year-over-year despite heavy AI investment. The analysts see the margin outlook as neutral, noting that mega AI investments could weigh on gross margins.
Despite the stock’s recent pullback, Jefferies said Microsoft remains attractively valued. The analysts pointed out that Microsoft trades at 23 times fiscal 2027 earnings, below hyperscaler peers such as Oracle, Alphabet and Amazon. Jefferies said that Microsoft’s valuation is below peers “despite superior visibility, RPO strength, and end-to-end AI monetization vectors.”
The analysts added that they see “strong potential for upside to numbers and rerating,” and that their $675 price target represents 36 times consensus fiscal 2027 EPS, or 52% upside at their time of writing.
Shares traded hands at about $480 in the early afternoon on Wednesday.
- Updated with share price movement -