Microsoft reported second-quarter financial results that exceeded analyst expectations for revenue and earnings per share, driven by growth in its cloud services. Despite these figures, the company's stock experienced a significant decline, attributed to investor concerns regarding substantial capital expenditures on artificial intelligence (AI) infrastructure and its AI strategy. Concurrently, details emerged about Microsoft's future Xbox console, which is anticipated to function as a full Windows PC, with a planned launch in late 2027 or later, though this strategy introduces potential operating system challenges.
Financial Performance and Investor Sentiment
Second-Quarter Financial Overview
Microsoft reported second-quarter earnings per share (EPS) of $5.16 on revenue of $81.27 billion. These figures surpassed analyst expectations of $3.92 EPS and $80.3 billion in revenue.
The company's cloud revenue reached $51.5 billion, exceeding an anticipated $51.2 billion and marking the first time it surpassed $50 billion. This figure represents an increase from $40.9 billion in the same period last year.
- The Productivity and Business Processes segment, which encompasses Microsoft 365 Commercial and Consumer Cloud revenue, generated $34.1 billion, surpassing a $33.6 billion forecast.
- The Intelligent Cloud business, including Azure sales, reported $32.9 billion, exceeding estimates of $32.2 billion. Azure cloud services specifically grew by 39%.
- Operating income for the quarter rose 21% year-over-year to $38.5 billion.
- Usage statistics indicated growth, with Microsoft 365 Copilot usage increasing 160% year-over-year and Github Copilot usage increasing 75% year-over-year. Shareholder returns also increased by 32% year-over-year.
- The More Personal Computing division, which includes Surface, Xbox, and Windows software sales, reported $14.3 billion, aligning with expectations. Xbox revenue within this segment decreased by 9%.
Stock Performance and Investor Concerns
Following the earnings report, Microsoft's stock price experienced a 6% decline before trading on Thursday and a single-day fall of 5.37%.
This resulted in a $440 billion reduction in the company's market value, marking the second-largest single-day decline in history, exceeded only by NVIDIA's decline the previous year.
The stock has decreased by almost 14% for January 2026 and is down 2% year-to-date, negating AI-related gains from the previous year. This downward trend began in the summer.
Investor concerns primarily focused on Microsoft's artificial intelligence (AI) strategy and its Azure cloud division. Capital expenditures (capex) on AI infrastructure increased to $37.5 billion in the quarter, up from $22.6 billion in the previous year's comparable quarter, representing an approximately 65% year-over-year increase. A significant portion of this investment was directed towards NVIDIA GPUs for data centers.
Concerns cited by investors included:
- The depreciation rate of GPUs in large data center clusters.
- The company's reliance on OpenAI, which requires substantial ongoing investment.
- The pace of profitability relative to aggressive spending on data center construction, permits, electricity, cooling, and maintenance.
- The scalability of current AI applications to deliver significant revenue, despite Microsoft citing high demand for AI-related compute.
Microsoft CEO Satya Nadella stated that the company's AI business is growing significantly, with ongoing efforts to advance its AI stack. The company is considered a beneficiary of AI growth, partly due to early investments in OpenAI. Remaining performance obligations (RPO), representing future revenue from existing customer contracts, totaled $625 billion, with approximately 45% attributed to OpenAI commitments, indicating AI demand. The company also reported facing AI capacity constraints, where customer demand for AI services exceeds its supply capabilities, potentially impacting revenue.
In comparison, Google's approach to capital expenditure is perceived as more disciplined by investors, leading to its stock outperforming Microsoft's. Google's integrated ownership of the AI technology stack is viewed as potentially more efficient than Microsoft's partnership-based strategy with OpenAI.
Future Xbox Console and Windows Integration
Next-Generation Xbox Plans
The upcoming Xbox console is anticipated to function as a full Windows PC, with a projected launch in late 2027 at the earliest. Microsoft has affirmed its commitment to first-party Xbox hardware, including a multi-year partnership with AMD and full compatibility with the existing Xbox console ecosystem library.
The console is expected to feature a default TV and controller-first interface, with the capability to install and run third-party stores such as Steam, GOG, and Epic.
Windows Integration Challenges and Quality Focus
An indication of this strategy is observed in the ASUS Xbox Ally handheld, which utilizes the Xbox Full Screen Experience (Xbox FSE) mode. Xbox FSE is a Windows 11 setting that allows applications to take over the operating system's user experience, transforming the Xbox app into the primary interface and disabling non-essential Windows tasks to optimize RAM usage and enhance controller-based navigation.
Concerns have been raised that an Xbox-optimized Windows experience might not achieve the same level of polish as the current Xbox Series X|S consoles.
Recent challenges include a Windows Update that reportedly disrupted critical Xbox Ally features by blocking power settings and other ASUS Xbox Ally systems. While a fix was implemented, such issues are noted as not uncommon with Windows.
Current Xbox Series X|S consoles are recognized for their reliability, contrasting with the Xbox Ally, which has experienced performance issues and lacks integrations present in dedicated consoles, such as embedded Discord, simplified clip and screenshot sharing, and efficient library management without needing a mouse and desktop environment.
Microsoft is reportedly establishing a task force to improve the quality of Windows 11, with a significant focus on Xbox-related aspects. PC gaming remains a primary leisure use case for millions of Windows users. The company's increased investment in gaming properties, including Battle.net, Blizzard, and Call of Duty, provides an incentive to enhance the Windows gaming experience, particularly amid competition from Linux distributions like SteamOS. Delivering a refined, console-like Windows experience by the projected late 2027 launch is considered a substantial undertaking.