MSFT Soars On Big Azure Beat... But Backlog Stalls

The consensus long delivered.

Microsoft (MSFT) reported Azure revenue growth of 48% in constant currency for the September quarter, crushing its own 44-45% guide, the Street's ~45% and even the ~47% buyside whisper that, as we laid out this morning in "These Really Matter", was the real hurdle. In its first-ever standalone disclosure, Azure brought in $33.2 billion, a full billion above the $32.2 billion consensus. Revenue of $92.3 billion blew past the top end of guidance, adjusted EPS of $4.89 beat the $4.72–4.73 consensus, and operating margin hit 49.8%. The stock is up strongly after hours from a weak day where Mag7 stocks lagged...

And yet, buried in the investor metrics, two numbers that won't make the headlines: commercial bookings fell 12% and the $677 billion backlog didn't grow at all.

Recall what Goldman's Rich Privorotsky wrote this morning (available to pro subs):

"These really matter. Eye watering expectations… buyside probably closer to Azure growth around high 40s%... Azure probably needs a guidance raise to be properly supportive."

The quarter cleared the bar. The guide is next: Amy Hood will give December-quarter Azure guidance on the 5:30pm ET call, against a Street at ~45% and a buyside at 46-47%.

The Scorecard

Azure: Cleared The Bar, With Room To Spare

Going into the print, Goldman's software analyst Gabriela Borges laid out "a reasonable upside case where Microsoft reports Azure growth of 46-47% cc (vs. 44-45% cc guidance)," in her "Microsoft Corp. (MSFT): 1QFY Preview & Maia 300 updates" (available to pro subs). Microsoft beat even that. On the restated basis Microsoft now uses, Azure growth went from 39% a year ago to 42% last quarter to 48%, a six-point jump in a single quarter:

Microsoft Cloud growth accelerated too, to 30% (31% in constant currency), and Hood didn't hold back in the release: "Results exceeded expectations across revenue, operating income, and earnings per share."

Not everything accelerated. Windows OEM and devices revenue plunged 22% (the PC market is in freefall as memory prices soar), and M365 commercial seat growth slowed to 5% from 7%. For a company that sells seats, that one might matter more than it looks, especially two days after Microsoft offered buyouts to 60,000 of its own workers. Fewer workers, everywhere, means fewer seats.

The Backlog Stopped Growing

Which brings us to the part of the release Microsoft didn't put in bold. Commercial bookings, the contracts signed in the quarter, fell 12% y/y (-11% in constant currency), after rising 10% last quarter. And commercial remaining performance obligation, the backlog that has been the bull case's favorite number since OpenAI's giant Azure commitment last fall, came in at $677 billion vs. $678 billion in June. It still grew 73% y/y, but sequentially it went nowhere:

Put differently, Microsoft converted backlog into revenue faster than it refilled it. Privorotsky's checklist for this week asked exactly this question: "Backlog: how quickly is it converting into revenue?" The answer is quickly, which is great for this quarter's Azure number. It's less great for the quarters after that, unless new contracts pick up. Will they explain this on the call?

The timing is awkward. This is the same week OpenAI trimmed its valuation target to $1.25 trillion after a "thud" from investors and went shopping for Google's chips.

Revenue +19%, Free Cash Flow -27%

Then there's the cost. Cash spending on property and equipment came in at $39.4 billion, more than double the $19.4 billion of a year ago, though below the $45.9 billion consensus on that measure. The finance-lease-inclusive number that Microsoft guided to "over $50 billion" will come on the call.

Operating cash flow rose a healthy 29% to $58.0 billion. But subtract the cash capex and free cash flow fell 27% y/y to $18.6 billion, on revenue that grew 19%:

And that's with finance leases left out. Elsewhere on the cash flow statement, "other" investing outflows doubled to $12.9 billion, cash and short-term investments fell by $12.3 billion in a single quarter to $64.5 billion, and buybacks shrank to $4.4 billion from $5.7 billion a year ago. Microsoft also repaid $4.85 billion of debt without issuing any new bonds, which (for now) keeps it out of the debt market Meta just fled for its shareholders.

The bigger question is next year. Goldman's TMT desk flagged that its analysts have fiscal 2028 capex at $319 billion vs. the Street's $252 billion, with "debate shifting toward AI unit economics/ROIC and whether Microsoft raises FY28 capex further."

The Capex That Isn't In Capex

As regular readers know, the number we watch most closely isn't in the press release at all. Back in July, Microsoft disclosed that leases signed but not yet commenced had soared to $329.1 billion from $196.6 billion a quarter earlier:

*MICROSOFT: LEASES THAT HADN'T COMMENCED $329.1B AS OF JUNE 30

we will be updating the off balance sheet obligations/debt for Q2 soon. It will probably rise by $1TN+ to $3TN.

— zerohedge (@zerohedge) July 29, 2026

The balance sheet already shows those leases arriving. Operating lease right-of-use assets jumped 25% in one quarter to $30.2 billion, and operating lease liabilities rose 31% to $21.7 billion. The full figure for leases not yet commenced comes with the 10-Q:

Goldman credit strategist Amanda Lynam puts the off-balance sheet leases and purchase commitments of the five leading hyperscalers at $2.8 trillion, an eightfold increase since 2023. That's the AI debt we have been warning about since last October, and the market keeps forgetting to count it.

Consensus Long, Strong Reaction

Goldman's desk had Microsoft at 8/10 on its positioning score into the print, the same score Meta carried into its print last week. The stock had rallied 38% since the July report, and options were pricing a 4.7% move. The after-hours move of was enough to clear that (up 6.4% as we write). Goldman's Borges went in Buy-rated with a $640 price target and $4.71 of EPS for the quarter (chart source GS):

The Cloud Beat Was The Easy Part

We said this morning that we expected Microsoft to clear the cloud bar, and it cleared it with room to spare. But the rest of the release is less flattering. Capex doubled, free cash flow shrank, and new contracts and backlog stalled. And that's before Hood says anything about next year's spending, which we expect will be "higher". For now Microsoft can still pay for all of it out of operating cash flow, which is more than Meta can say. But a 48% Azure print that comes with a 27% drop in free cash flow is the kind of trade-off that works until it doesn't. As we put it a few weeks ago:

Just how full is the hyperscaler/AI IG debt pipeline: there have been zero deals since the start of September. And SPVs not doing better.

As a reminder, debt becomes capex, becomes revenue, becomes EPS.

Without debt, there is no EPS growth.

— zerohedge (@zerohedge) October 13, 2026

Microsoft, for one more quarter at least, didn't need the debt. Whether a backlog that stopped growing can keep it that way is the question for January.

Much more in Goldman's "Microsoft Corp. (MSFT): 1QFY Preview & Maia 300 updates" and Privorotsky's "GS Basics - Fed. Hyperscalers. UK Budget. Cross-asset Sentiment", both available to pro subs.