Microsoft’s Earnings Call Suggests Trouble Ahead

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Microsoft reported strong quarterly earnings, but a bit of softness in numbers hints at potential future difficulties, says Nicholas Kolakowski

Microsoft should probably give the executive who signed off on developing the Kinect a serious raise.

The hands-free controller, along with Office 2010, helped power some solid quarterly revenue numbers for Microsoft: $16.43 billion (£9.96bn), a year-over-year increase of 13 percent. Net income rose 31 percent, to $5.23 billion (£3.17bn). The company’s Business Division performed well, rising 21 percent year-over-year, and the Entertainment and Devices Division reported a 60 percent increase.

While Microsoft continues to practically print money every quarter, thanks in large part to the performance of legacy products like Windows and Office, this most recent quarterly report has three areas of potential concern:

Yahoo

Microsoft should also give a raise to whichever executive decided to scuttle the potential Yahoo acquisition, a few years back. In place of spending billions of dollars snatching up the web portal company, Microsoft eventually entered into a search-and-advertising partnership that features Bing powering Yahoo’s backend search, while the latter takes over the lion’s share of online sales-force duties for the two companies.

On paper, the deal makes sense for Microsoft. It increases Bing’s market presence, the better to battle Google. However, so much depends on perfect execution.

However, during a 28 April earnings call, Bill Koefoed, Microsoft’s general manager of investor relations, cautioned that “expected monetisation” of the Yahoo search-and-advertising agreement is “taking longer than expected” and that “international integration efforts” have been delayed as a result.

It could be a speed bump on the way to a tight and successful integration. Or it could be an early warning sign that something in this deal is about to go wrong. Either way, it’s definitely worth keeping an eye on.

Windows

Microsoft’s Windows segment reported a 4 percent dip, something the company explained in a statement ahead of its earnings call as “in line with PC trends.”

Windows 7 has sold some 350 million licenses since its October 2009 launch. That’s impressive, but an operating system is nothing without hardware – and global sales of PCs declined over the last quarter. During the earnings call, Microsoft estimated that PC dip at between 1 and 3 percent. Analyst firm IDC takes a harder view, suggesting the drop is 3.2 percent.

“A spike in fuel and commodity prices and disruptions in Japan” was at least partially responsible for the slackening, according to a recent note from IDC, along with a “cautious business mentality and waning consumer enthusiasm.”

In the wake of the call, a number of analysts posted research notes suggesting that Windows will continue its strong selling pattern into the future, particularly with businesses. But the rise of tablets (which are cannibalising netbooks), and increased emphasis on mobile devices as a primary means of daily computing, could threaten to eat at Windows’ previously rock-solid foundation. That is, unless the next version of Windows appears on mobile form-factors in addition to PCs, and Microsoft executes a smart strategy that makes it a strengthened player in all parts of the hardware/software stack. But that’s a big “if.”

It’s very likely that a Windows-style response to tablets is in the works. Microsoft announced previously that the next version of Windows, rumoured to arrive sometime in 2012, will support system-on-a-chip architecture, in particular ARM-based systems from partners such as Qualcomm, Nvidia and Texas Instruments. ARM’s expansive presence on current mobile devices suggests that Microsoft has plans to port “Windows 8,” at least in some fashion, onto tablets.

But 2012 is also a long time away.

Windows Phone 7

Microsoft is still playing close to the vest in terms of breaking out Windows Phone 7 consumer-sales data. At this point, we have so many other official data-points – unit sales from manufacturers to retailers, number of third-party developers registered, etc. – that the absence of that consumer-facing data seems more and more conspicuous. And silence, remember, has a habit of making people think that something’s not going well.

Microsoft’s going to have to bite that bullet and release those numbers at some point. This isn’t Kin, or even the Zune HD; they’ve put a lot of capital into pushing Windows Phone 7 into the world, and a lot of people (analysts, investors, journalists) are going to be expecting to see some sort of hard-number result at some point.

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