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Scratch the Surface: Slabtop sales slump takes the shine off Microsoft's 2017 so far

Phones also dead – but hey, $53m profit A DAY is still $53m

By Iain Thomson, 28 Apr 2017

Microsoft has reported strong results in its latest quarter, pulling in nearly $5bn in profits and showing good cloud revenue growth. Just don't mention the sagging Surface fondleslab sales.

Still, CEO Satya Nadella was in ebullient form on a conference call Thursday with investors and analysts, saying the Windows giant was driving forward in its move to cloud services, Azure was booming, and Office 365 passed a major milestone: the number of monthly active users had topped 100 million.

"I'm proud of the progress this quarter," he said. "Organizations are turning to Microsoft as a partner they can trust."

The transcript of the call is grim. At one point, Morgan Stanley's Keith Eric Weiss congratulated Nadella on a "very nice quarter," noting that Microsoft's gross margins are increasing, before asking how the price war between Azure and Amazon's AWS will affect those margins.

Nadella deftly ignored the question, and instead waffled on about Microsoft's brilliance, including the line: "Azure is pretty strategic for us, not just for the attachment of high-level services in what is defined as Azure, but the all-up digital transformation opportunity."

"Outstanding," purred Weiss. "Thank you very much."

The full GAAP results for Q3 fiscal 2017 – the three months to March 31 this year – are as follows:

  • Revenue: Over the quarter, Microsoft's sales hit $22.1bn, up eight per cent year-on-year and up nearly $2bn on the previous quarter. However, analysts had been expecting even better revenues and this caused a slight fall in Microsoft shares. Microsoft's forecasted sales for the final quarter of the fiscal year were also slightly lower than expected, again dinging the share price in after-hours trading.
  • Operating income: Redmond saw operating income rise slightly to $5.6bn, up $400m from the last quarter and up six per cent on the year.
  • Net income: Microsoft's profitability has bounced back, up 28 per cent on the year-ago quarter at $4.8bn, or about $53.3m per day in the quarter. The firm said it expected profit growth to continue to be strong. Gross margin grew seven per cent.
  • Earnings per share: EPS also showed strong growth at $0.61, up 30 per cent. This was slightly above analysts' expectations. Microsoft also spent $4.6bn in dividends to shareholders and stock buybacks to keep the share price high.
  • Productivity and Business Processes: Overall it was a very good quarter for this business unit, with revenues up 22 per cent at $8bn. Office 365 was the star performer in this quarter, with revenues growing 45 per cent while Office commercial product and cloud services revenues were up seven per cent.

    Office for consumers revenues were up 15 per cent and consumer Office 365 users now make up over 25 per cent of the total user base. Dynamics product and cloud services revenues increased 10 per cent and the Dynamics 365 revenues saw growth of 81 per cent.

    This is also the first full quarter where LinkedIn's revenue was factored into Microsoft's results, and Nadella said performance was very encouraging. The site contributed $975m to Microsoft's bottom line, user numbers now stand at 500 million, and over 10 million jobs were posted as available on the site.

  • Intelligent Cloud: Cloud revenues rose 11 per cent at $6.8bn, driving largely by Azure growth. Azure revenues were up 93 per cent and its margin improved as well to 51 per cent, up from 48 per cent. Overall server products and cloud services saw sales increases of 15 per cent.

    The red-headed stepchild of the division was Enterprise Services, which saw revenues fall one per cent. Microsoft blamed this on a fall in the number of servicing agreements from businesses.

  • More Personal Computing: Like last quarter, Microsoft saw revenues decline in its traditional PC business, down seven per cent at $8.8bn. While OEM revenues showed signs of life at up five per cent and Windows commercial product and cloud revenues up six per cent, it was Surface that dragged the results lower.

Revenues from the Surface hardware line fell 26 per cent, which Nadella blamed on product life cycles (the Surface Pro 4 is nearly 20 months old now) and increasing competition in the sector. Microsoft's CFO Amy Hood said that there was "no phone revenue to speak of." Surface will continue to dwindle, we're told.

"This quarter our Surface results fell short of expectations, impacted by end of product lifecycle and increased price competition," said Nadella.

It has been a year since HoloLens launched and Nadella reported that commercial sales were doing well, and there are now over 150 apps for the mixed reality headset in the Windows Store.

Gaming revenues grew four per cent and Nadella said he expects that to increase significantly next year with the launch of Project Scorpio, Redmond's 4K gaming console. Search revenue from Bing grew eight per cent – excluding unspecified traffic acquisition costs. ®

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