Microsoft News Tracker

I’ve belabored the numbers in the 2Q FY07 Microsoft earnings report, but some of the juiciest tidbits are in the forward looking guidance:

Microsoft cuts Xbox 360 shipment forecast:

Microsoft Corp. on Thursday cut its fiscal 2007 forecast for Xbox 360 video game console shipments, citing unsold inventories in stores, and said it is trying to make sure its gaming division turns a profit in the upcoming fiscal year.

Chief Financial Officer Chris Liddell said Microsoft aims to ship a total of 12 million Xbox 360s by the end of its fiscal year on June 30, down from a previous target of 13 million to 15 million.
…
“We’re very glad to see Microsoft is trying to rein in Xbox so it can be a profitable concern rather than a market-leading, money-losing concern,” said Kim Caughey, an analyst at Fort Pitt Capital, which manages more than $1 billion in assets, including shares of Microsoft.

Ouch!

Microsoft ‘not happy’ with search results:

Microsoft is continuing to lose market share in the search business to industry rival Google, something the software maker’s financial chief (CFO Chris Lidell - ed.) said Thursday he is “not happy” about.

And things aren’t expected to turn around any time soon. Microsoft said Thursday that its Internet services business will produce less sales growth over the next two quarters than the company had previously forecast.

Where it once forecast that revenue might grow by as much as 11 percent, the company now sees full-year sales growth in its Internet services business of just 3 percent to 8 percent.

“Success continues to elude Microsoft in this market,” Technology Business Research analyst Allan Krans said in an e-mail interview. He said Microsoft is hardly alone, with other rivals also struggling to keep pace with Google.

Yet another ouch!

While I love hitting the “ouch” button, these conclusions aren’t really any surprise and it’s good news for Microsoft that they aren’t proceeding blindly no matter how disappointing it may be to the fans of the respective products. Of course, the big test will come when it finally comes time to prune some nonproductive branches.

John Letzing at MarketWatch:

Microsoft Corp. late Thursday reported a 28% drop in quarterly profit as the world’s largest software company was hurt by the delayed release of Vista, the newest version of its flagship Windows program.

Microsoft said it earned $2.63 billion, or 26 cents a share, for its fiscal second quarter ended Dec. 31, compared to $3.65 billion, or 34 cents, a year earlier.

Sales rose 6% to $12.54 billion from $11.84 billion, helped by higher sales of server software and stronger-than-expected demand for Microsoft’s Xbox 360 video game player.

The results, which reflected the deferral of $1.64 billion in sales and 11 cents a share in earnings related to a Vista marketing program, still beat Microsoft’s own forecast and the expectations of Wall Street analysts.

It should be “still beat the already reduced expectations”, as I mentioned earlier today.

The earnings report is here, but we don’t have to be constrained by annoying accounting artifacts, so here are some segment one liners with the raw numbers from Microsoft’s 10-Q neatly augmented by deferrals where appropriate:

Client:

Add back in the $1.1 billion of Client revenue that was deferred and you get $3.689 billion in revenue, a 7.6% increase which is a little below independent estimates of 4Q06 PC sales growth and Microsoft’s estimate of 8-10%. Microsoft says they actually sold 10% more units so it’s not an unmixed blessing.

Business (mostly Office):

Add back in the $0.5 billion of Office revenue that was deferred and you get $4.012 billion in revenue, a 8.8% increase which, while not fantastic, is better than past quarters.

Entertainment and Devices (mostly Xbox and an occasional Zune):

Here’s $1.3 billion of increased revenue without any additional profits due to the usual suspects. No, not keyboards and mice.

Online Services:

Going nowhere even faster than usual due to increased headcount for “Windows Live, adCenter, and other properties” plus building datacenters.

Server and Tools:

The Rodney Dangerfield of Microsoft kicks butt and takes names yet again.

Bottom Line:

The oddity of the “deferral” aside, Microsoft’s cash cows came close to keeping pace with the overall market which was a bit better than last quarter while Server and Tools continued its winning ways. Entertainment and Devices and Online Services keep stinking out the joint. There wasn’t really a lot new here despite the Three Card Monte with the Vista and Office 2007 deferral.

Finally, Microsoft reported that there was $1.1 billion in net income deferred for Vista and Office 2007 but gave no break out. Adding that back in would give Client and Business in aggregate a little better than 0% income growth, but that is likely largely due to the expenses accompanying the new products.

Microsoft will announce its financial results for the 2nd quarter of its 2007 fiscal year (4Q2006 calendar year) this afternoon after the market closes. Here’s a round-up of punditry on what to expect:

First of all, the basics:

Microsoft said it expects to earn between 22 cents per share and 24 cents per share on revenue of $1.5 billion to $11.8 billion, with $1.5 billion of revenue deferred due to delays in getting Vista to market.

Analysts polled by Thomson Financial expect Microsoft to earn 23 cents per share on $12.07 billion in sales.

More on that $1.5 billion deferral below. Now for some analysts from the same link:

In a Jan. 16 note to investors, Lehman Brothers analyst Israel Hernandez wrote that he expects Microsoft’s Server and Tools group to post better-than-expected revenue in the quarter, but that the online business, including the company’s recently launched search and display advertising platform, lagged.

No real surprises there, that’s what Microsoft’s Server and Tools, and Online businesses do best.

UBS analyst Heather Bellini wrote in a Jan. 22 note to investors that better-than-expected sales of the Xbox console and games helped buoy Microsoft in the quarter.

“Our channel checks indicate strong demand for Office 2007 due to its collaborative features that allow users to share data more efficiently. We believe that solid demand for Office 2007 is driving more enterprises to renew their subscription agreements,” she added.

Since the game profits have to overcome the loss on every Xbox 360, it will be interesting to see exactly how much buoying of profits there actually is and, of course, the Zune marketing campaign is another boat anchor for Entertainment and Devices profits. The Office 2007 technical description is a trifle wacky, but one of the reasons for getting Vista and Office 2007 out in 2006 was to convince volume purchase customers to renew their Software Assurance contracts, so maybe there is some gold there.

As for the $1.5 billion Vista deferral:

Under the Vista “Express Upgrade,” users who purchase a computer with XP or Office 2003 will be eligible for an upgrade to Vista or Office 2007 at a steep discount or for free.

As a result of the program, which spans five months and ends March 15, Microsoft cannot claim revenue booked under this program until the users take advantage of the vouchers or coupons, said Charles Di Bona, an analyst with Sanford C. Bernstein.

The size of this revenue deferral is $1.5 billion.

We’ve previously discussed the Vista coupons and Microsoft’s related scurrying to claim the oddly arranged deferral, but the real question is how many people are actually going to take Microsoft up on their offer particularly for the Vista coupons that require an additional payment. You can examine Microsoft’s deferral assumptions in the PowerPoint slide deck where they also revealed that they will actually also be getting a revenue and earnings boost by not taking an undelivered element deferral for Vista like they did for Windows XP. Confusing? You bet. 

But these are future considerations and not really relevant for 2Q FY07 where the question is more mundane - Did Client grow with the PC market at about 8% deferral or not? Profits almost surely didn’t due to Vista expenses. As for Business (mostly Office), specifying a benchmark is more difficult, but beating last quarter’s anemic growth would be nice although the profits will likely get eaten again by Office 2007 expenses.