Microsoft Profit Sinks 28 Percent in Vista's Shadow

Published: January 31, 2007

by Alex Woodie

When Microsoft officials moved the opening ceremonies of Windows Vista up a day--from Tuesday to Monday--it didn't seem like that big a deal. Now we know why: Microsoft really, really wants to start selling the new operating system. The need became apparent lsat week when Microsoft reported a 28 percent decline in net income for the quarter ended December 31, driven by weak sales in its Windows division. Xbox360 and server software sales stood out as the bright spots.

Microsoft reported $12.5 billion in revenue for the quarter, up 6 percent from the $11.8 billion in recorded for the same quarter in fiscal year 2005. Net income was $2.62 billion, a considerable drop from the $3.65 billion it recorded last year. The revenue figure is an all-time high for Microsoft, and it came, as one would expect, during the calendar's fourth quarter, which typically sees a lot of IT buying activity among consumers and businesses alike.

While you can't argue with record revenue, Microsoft could not overlook the soft sales figures coming out of the division that makes and sells the client version of Windows. The Microsoft Client division recorded revenue of $2.59 billion, a decrease of $841 million, or 25 percent, from the same amount recorded a year earlier. Net income in the division was $1.88 billion, down $780 million, or 29 percent, from the $2.66 billion profit recorded a year ago.

Microsoft CFO Chris Liddell put a positive spin on the numbers. "Results this quarter exceeded our expectations across the board, with revenue growth at or above our high end guidance for all divisions," he said. "Healthy PC and server markets as well as broad-based business and consumer demand for Microsoft offerings fueled revenue growth this quarter."

Microsoft's stock hit a 52-week high on Thursday at $31.48--up more than $10 from its low June 13--before dropping to close at $30.45. Microsoft posted its second quarter financial results following the close of trading on Wall Street.

The profit decline is a tough one to swallow for Microsoft. Obviously, the pending arrival of Windows Vista hurt sales of Windows XP. But Microsoft doesn't just have the cyclical nature of the IT business to blame, as it must bear responsibility, to its customers and to its business partners, for being more than two years late with the new operating system. The company managed to soften the blow of the decrease in profit by pushing out Vista-related costs to the second half of the year, when Windows-related sales are expected to go back up. Nearly $12 billion is in Microsoft's sales pipeline, the company says.

Among the bright spots for Microsoft was its Server and Tools business, which sells the Windows Server operating system, the SQL Server database management system, and the Visual Studio and .NET development tools. Revenue for the quarter was $2.85 billion, a $447 million, or 6.9 percent, increase from the $2.44 billion recorded a year ago. Profit jumped 35 percent to $1.0 billion.

The Entertainment and Devices division, which sells video game consoles and is a combination of the old Mobile and Embedded Devices and Home and Entertainment divisions, brought in $2.96 billion in revenue, an increase of 76 percent, or nearly $1.3 billion, compared to the $1.69 billion brought in a year ago. Despite the revenue figures, Microsoft still failed to make a profit here, and posted a $289 million loss, $3 million more than a year ago.

Also suffering from Vista's delays was the Microsoft Business Division, which sells the Office suite, Exchange Server, and ERP products. Although Office 2007 and Exchange Server 2007 shipped to business customers on November 30, one month of business sales of these new products before the end of the quarter apparently wasn't enough to offset the lost Office sales opportunities caused by the delay of Windows Vista until after the busy holiday buying season.

Microsoft's Online Services Business, which encompasses the MSN search, Hotmail e-mail, Messenger instant messenger, and Live application business areas, grew business by $31 million, to $624 million, last quarter. However, OSB went back into the red, as the company turned a $58 million quarterly gain last year into $155 million loss this time around.

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