Guild Companies

Microsoft finished its fiscal 2002 at the end of June and reported pretty respectable numbers, especially compared to the myriad software companies who have seen revenue declines anywhere from 20 percent to 50 percent in this difficult world economy. But Microsoft is ever cautious about managing expectations, and has told Wall Street to curb their estimates for fiscal 2003. With Microsoft expecting to post only around 13 percent growth in the next 12 months, about the same revenue growth it posted in fiscal 2002.

This is perhaps one of the best indicators that Microsoft does not expect conditions in the economy to improve enough to stoke sales of its software and services. With Microsoft switching to a new and complex enterprise software licensing scheme that undoubtedly is seeking to increase its revenues modestly while making them more steady and predictable, and the company's increasing expansion into the games and game console markets, it might even be fair to say that Microsoft's expectation of only 13 percent growth in 2003 means that it expects the market for corporate software acquisitions to be less than stellar. That said, Microsoft is, in many ways, better positioned to increase its revenues and market share in a down economy because its Windows operating systems and related middleware and applications are perceived to offer a better bang for the buck compared to Unix and proprietary alternatives and are considerably more established than open source alternatives running on the Linux operating system. People are flocking to Wintel and Lintel solutions in the server space because, quite frankly, they can't afford Unix and proprietary alternatives that, by and large, cannot be repurposed with other operating systems.

John Connors, Microsoft's chief financial officer, said that robust operating system sales in the fiscal fourth quarter helped Microsoft show decent growth, particularly sales of Windows 2000 Professional and Windows XP Professional, the corporate editions of Microsoft's operating systems for 32-bit Intel-based laptops, PCs, and workstations. He said that desktop software revenue (which includes operating systems as well as applications), was up 9 percent in the June quarter to just under $5 billion, and for the full year, desktop software was $18.9 billion, up 7 percent. The client operating systems segment of the desktop software category, he said, grew at 20 percent in the fourth quarter to $2.44 billion, and for the full year, growth was 16 percent. Continuing demand for Office, which is driven by Windows sales on new PCs as well as upgrades on existing PCs, was a bright spot in Microsoft's numbers, but sales were flat and did not contribute to growth.

Enterprise software and services revenues were $1.35 billion in the quarter, up a modest 4 percent, and for the full fiscal year were $5.11 billion, up 6 percent. Windows Server operating system revenues rose by 13 percent in the quarter and managed to grow by 10 percent for the year. Microsoft's financial filings indicate that Windows server operating system shipments increased in the fourth quarter as more and more companies embraced Windows 2000. These numbers seem to indicate that the non-operating system components of Microsoft enterprise software business, such as Exchange Server and BizTalk Server, are not performing as well by comparison. Microsoft did say that overall server application revenues were up slightly and that sales of SQL Server were strong, but that a significant portion of the revenues it posted were deferred to future quarters as it changes to a new licensing model. Enterprise services revenues, which includes consulting and product support revenues, were up 10 percent in the fourth quarter and helped buoy other segments in Microsoft's enterprise segment. Revenue from developer tools and other services was down 14 percent as Microsoft shifts to an MSDN subscription licensing model for its tools such as Visual Studio.NET.

All told, Microsoft reported revenues of $7.25 billion in its fiscal fourth quarter, a 10 percent increase over last year; net income was $1.53 billion, up like a rocket after Microsoft's dot-com investments imploded and wiped out $2.6 billion in profits in the June 2001 quarter. Microsoft's investments only lost $617 million this time against an operating income of $2.87 billion. Microsoft earned 28 cents a share this time around. For the full fiscal year, revenues were $28.37 billion, up 12 percent, and operating income was essentially flat at $11.9 billion. Net income was $7.83 billion, up a smidgen from last year, and for the full year Microsoft had earnings per share of $1.45.

Interestingly, Microsoft provided a spreadsheet that showed what the effect would be if it had to expense the 802 million vested and unvested share options its employees currently hold against a pool of 5.4 billion common shares outstanding in the market. The numbers show that expensing these options would eliminate about 30 percent to 40 percent of its net profits, depending on the quarter, which is why you can expect Microsoft to fight like crazy to keep Congress and the Financial Accounting Standards Board from instituting rules that will force companies to expense share options.

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