) fiscal first-quarter earnings of 62 cents beat the Zacks
Consensus Estimate by 8 cents, or 14.8%. This was significantly
better than the 3.0% average miss in the preceding four quarters.
Shares jumped 5.3% in extended trading.
Revenue of $18.53 billion was down 6.9% sequentially and up
15.7% from last year, beating our estimates by 4.1%.
Operating Structure Changed
Management changed the operating structure beginning from the
first quarter of fiscal 2014. Accordingly, the company now has
two main segments: Devices & Consumer and Commercial.
Devices & Consumer includes
(non-volume licensing of the Windows OS and related software;
non-volume licensing of Microsoft Office for consumers; Windows
Phone, including related patent licensing; and certain other
(entire Xbox platform, Surface and Microsoft PC accessories) and
(resale, including Windows Store, Xbox LIVE transactions and the
Windows Phone Marketplace; search advertising; display
advertising; Subscription, comprising Office 365 Home Premium;
Studios, comprising first-party video games; retail stores; and
other consumer products and services not included elsewhere).
Commercial includes commercial
(server products, volume licensing of the Windows OS and Office
for business) and
(Enterprise Services, including Premier product support services
and Microsoft Consulting Services; Online Services, comprising
Office 365 other than Office 365 Home Premium, other Microsoft
Office online offerings, and Dynamics CRM Online; Windows Azure;
and other commercial products and online services not included
Devices & Consumer
Licensing, hardware and other revenue made up 23%, 8% and 9%
of quarterly revenue taking the contribution of the Devices &
Consumer segment to 40%.
The licensing side of the business was mixed, with revenue
increasing 1.2% sequentially but declining 7.2% year over year.
Management said that Office attach rates were positive for the
quarter and Windows Phone appeared stable. Windows OEM was weak,
offsetting the strength in other areas.
Hardware revenue on the other hand strengthened considerably
in the last quarter, increasing 26.9% sequentially and 37.0% year
over year. Management said that growth was driven by Surface
devices, particularly in the education and retail segments. The
much-criticized RT devices did better than the Pro line.
Other revenue increased 4.8% sequentially and 16.8% year over
year. Both advertising and online marketplaces did well in the
last quarter. Advertising was the major driver, with its 47%
growth coming from both increasing query volumes and rising
RPS. Management stated that Bing now has 18% market
Commercial licensing revenues increased 7.3% year over year,
with server product revenue growing 12%. Sequential comparisons
will be available from next quarter. Commercial office products
also did well, growing 11% from the prior year.
Commercial other revenues increased 28.4%. Cloud services are
becoming more popular, with commercial cloud revenue growing
103%. Office 365 and Azure grew triple-digits. Dynamics CRM also
contributed to the strength in cloud revenue because two-thirds
of customers moved to the cloud.
Microsoft's gross margin of 72.4% grew 56 basis points (bps)
sequentially although still 156 bps below the year-ago quarter.
The commercial licensing and other revenue saw solid gross margin
expansion (up 9,173 bps and 1,716 bps, respectively) on a
sequential basis. D&C licensing and hardware gross margins
expanded 5 bps and 6,970 bps, respectively, while other D&C
gross margin shrank 231 bps.
Operating expenses of $7.08 billion were down 13.9%
sequentially and up 8.4% from last year. On a sequential basis,
R&D increased 95 bps as a percentage of sales, but was more
than offset by a 342 bp decline in S&M and another 63 bp
decline in G&A. All expenses declined as a percentage of
sales from the year-ago quarter, more than offsetting the weaker
gross margin. As a result, the operating margin expanded 366 bps
sequentially and 103 bps year over year to 34.2%.
The company generated a net income of $5.24 billion, or 28.3%
net income margin compared to $4.97 billion, or 25.0% in the
previous quarter and $4.47 billion, or 27.9% in the year-ago
quarter. Since there were no one-time items in any of the
quarters, the pro forma and GAAP earnings were same at 62 cents a
share compared to 59 cents in the previous quarter and 53 cents
in the year-ago quarter.
Inventories were up 34.8%, as Microsoft built inventories
going into the holiday season. As a result, inventory turns went
from 11.6X to 7.8X. Days sales outstanding (DSOs) dropped from 80
Microsoft ended with a cash and short term investments balance
of $80.67 billion, up $3.65 billion during the quarter. The net
cash position was around $64.74 billion, up from $61.42 billion
at the beginning of the quarter. In the last quarter, the company
generated $8.21 billion in cash flow from operations, spent $1.00
billion to repurchase its debt, $2.19 billion on share
repurchases, $1.92 billion on dividends, and $1.23 billion on
Microsoft provided guidance for both the second quarter and
fiscal year 2014.
For the second quarter, the company expects D&C licensing
revenue of $5.2-5.4 billion, D&C hardware revenue of $3.8-4.1
billion, D&C other revenue of $1.7-1.8 billion, Commercial
licensing revenue of $10.7-10.9 billion and Commercial Other
revenue of $17-1.8 billion. Microsoft expects COGS of $7.9-8.3
billion, opex of $8.5-8.6 billion and unearned revenue n line
with historical levels.
For 2014, it expects opex of $31.3-31.9 billion, a tax rate of
18-20% and capex of $6.5 billion.
Microsoft managed to surprise to the upside, which is a
positive, particularly because of the momentum in Sarface RT
sales. But the reporting structure has become much more
complicated and it has become much harder to determine just how
much of a beating Windows is getting, which is the main concern
Management did assure that the PC business was better than
expected and that there were signs of stabilization. This is not
exactly in line with estimates provided by independent market
research companies. We therefore have to take a wait-and-see
One thing that was obvious however was the momentum in the
cloud business. Microsoft has started discounting some services
pretty heavily, but the segment gross margin didn't take a hit.
This seems to indicate solid volumes.
Another encouraging sign was the continued momentum in Office,
both on the consumer and commercial sides of the business.
Whether the company will be able to leverage this strength to
push its Surface products remains to be seen. But Microsoft is
clearly focused on app development, so sales could pick up.
) iPads remain in very strong demand at the high end and
chromebooks based on
) chrome OS are now some of the hottest-selling items on
). Microsoft is targeting Apple devices rather than Google
devices because of the margins involved. This seems to be a good
idea though of course there is some risk involved.
Microsoft shares currently carry a Zacks Rank #4 (Sell).
APPLE INC (AAPL): Free Stock Analysis Report
AMAZON.COM INC (AMZN): Free Stock Analysis
GOOGLE INC-CL A (GOOG): Free Stock Analysis
MICROSOFT CORP (MSFT): Free Stock Analysis
To read this article on Zacks.com click here.