Thursday, October 25, 2007

Q1/08 Earnings

Pre Results:

Some sample commentary heading into earnings:

The stock is having a very good day and setting highs that haven't been seen since 2002. With expectations running so high there's growing risk for disappointment. Let's hope MSFT can deliver for a change. We'll find out shortly...

[OT: BTW, for those who are interested, I think the Facebook deal is an okay one. No, Facebook isn't worth $15B by any stretch of the imagination. And no, the incremental advertising that MSFT is likely to recoup from the deal isn't worth the $240M either, especially given likely revenue-share concessions (all management bs to the contrary). So while there's a risk that this further extends MSFT's track record of money-losing investments, in this case I think you have to call it a reasonable one. Why? Because even MSFT should be able to recover half that money in incremental advertising. The 1.6% equity stake will be worth something. They get a stronger seat at the table for one of the fastest growing application platforms on the web (a huge opportunity that was also a potential threat). They send a message that they're serious (which should result in some spin-off benefits with other potential advertisers). And finally, losing Facebook would have been a huge blow to their already struggling advertising ambitions (not to mention easily shaving $240M off MSFT's marketcap). So let's call it: Competition 100: Ballmer 1. But now he's got momentum... :-)]


Wall Street was looking for $12.57B in revenue and EPS of 39 cents a share. Microsoft had guided for revenue of $12.4B to $12.6B, with EPS of 38-40 cents. FirstCall is reporting actual of $13.76B and EPS of .45 cents a share. Wow! Still waiting on confirmation via MSFT...

Confirmed: FirstCall got it right. It's a much-needed blowout:

(More after I review the actual earnings release and listen to the conference call.)

Post results and conference call:

Okay, that's done. Other key positives:

  • Fastest Q1 revenue growth since 1999.
  • Operating income at 30% exceeded revenue increase of 27%.
  • Operating margin up ~2 points to 43%.
  • As seen above, every business grew double-digits.
  • Client growth exceeded overall PC growth for a change(primarily due to piracy reduction, especially in fast-growing emerging markets).
  • "The OEM Premium Mix increased 16 percentage points to 75% driven by increased consumer premium mix".
  • Server & Tools continued to lead in bottom line leverage (16% revenue growth but ~25% earnings growth).
  • E&D managed their second ever profitable Q (only $5.8B more to go and they can start generating a net profit lifetime-to-date).
  • Q2 guidance raised to $15.6B - $16.1B and EPS of .44-.46 versus consensus $15.64B and EPS of .44.
  • Full year guidance raised to $58.8B-$59.7B and EPS of $1.78-$1.81 versus consensus of $57.42B and EPS of $1.73.


  • Limited color on specific Vista adoption. Liddell says 85M units sold, or roughly 2x XP over the same timeframe. But that ignores the extended [pre-release] period during which many XP sales qualified for Vista upgrades. It's also units on a [now] much larger base, not relative adoption rate (which was the original goal). Lots of comments about "still early days" and management is comfortable with uptake (as incredulous as that sounds). Also, some proxies like overall growth rates and contract renewals - which are suggestive that Vista is having a positive impact and large-scale deployments may be nearing, but a step removed from hard data like marketshare and/or specific customer references.
  • Online lost even more money (along with share). Not a huge surprise, and a $58M chunk is AQNT-related. Half of MSFT's overall $3.2B-$3.3B in capex this year will get spent in this one division. OSB revenue growth net of AQNT was just 10% (includes expected access business declines). Advertising revenue itself did better - up 25%, in line with expectations. But that's down from last Q's 33%, and way behind GOOG.
  • Operating margins for the rest of year will be lower than Q1 (could be some sandbagging there, but AQNT will apparently detract some $200M from operating earnings).
  • E&D growth guidance for Q2 of -8% to flat. Blaming it on earlier Q1 ramp, but something seems odd there.
  • Unearned on the Balance Sheet decreased ~$1B vs Q4 (recognition also increased ~$1B vs year ago).
  • Common stock repurchases decreased ($2,930B versus $7,683B).
  • See increased risk of an economic slowdown.

Says CFO Liddell:

It was just a very clean quarter, outstanding financial results.

Yes it was. What a refreshing change.

Kudos to all.

BTW, MSFT traded as high as $36.02 in AH. Currently at $35.60. Nice! Lot's of open gaps on the stock chart though, which is a concern. However, if it can hold above $32 in the weeks to come, then maybe this five-year trading range is finally over.


Update: Made a few revisions/clarifications after listening to the cc again.

Update #2: A nice summary of analyst's reactions this morning following last night's results:

Update #3 (10/29/07):

Hmm...that didn't take long. Finally get a pop in the stock and Director Jon Shirley sells 500K shares - 25% of his entire remaining stake. You can never say why an exec is selling for sure, but not exactly bullish on the surface. Johnson also unloads a chunk, albeit a much smaller % of total held.


  • Results like this aren't "magic." Long-term, tenacity, focus and even some faith - of which, you have none. How 'bout now you shut down your blog and leave the company?

    By Anonymous Anonymous, at 3:16 PM  

  • "...of which, you have none."

    Does holding through this not count?:

    MSFT 5 Year Chart

    "How 'bout now you shut down your blog"

    LOL. See above and try and put today's strong showing into context.

    By Blogger MSFTextrememakeover, at 5:03 PM  

  • "magic" poster up there is lame. Just because we finally got a nice spike on the stock doesn't mean management is all of the sudden doing everything right. And to be fair, just because the stock performance is horrible, it doesn't mean management is doing everything wrong ( just many things ). I really appreciate this blog ( and mini's ) because it helps provide perspective on what could be better. So keep it up. Some of us out here appreciate it. By the way, I was quite concerned that the buybacks dropped 50%. Especially after Liddell went on last time about how he thought they were the right way to go. I am hoping the reason is they had to spend that big chunk on Adquantive and next quarter they are going to get back on it and beef up the buybacks.

    By Anonymous Anonymous, at 6:44 PM  

  • msftextrememakeover, microsoft purchased $2.3 b of shares but msft share count only went down by 25 million. this would $750 million only at $30 a pop. microsoft issued about $650 million worth of shares. so there is still a mistmatch of $900 million which i can't account for. thanks.

    By Anonymous Anonymous, at 11:16 PM  

  • "so there is still a mistmatch of $900 million which i can't account for. thanks."

    They repurchased 81M shares on the Q. See 10Q discussion for background.

    By Blogger MSFTextrememakeover, at 12:17 AM  

  • thanks msftextrememakeover. what you said move the discrepency somewhere else. 10q from last quarter has 9380 million outstanding share. 10q from this quarter has 355 million outstanding share. the difference is 25 million.

    what happened to the rest of 56 million share count? msft did not issue these number of shares in the three months.

    By Anonymous Anonymous, at 7:52 AM  

  • "what happened to the rest of 56 million share count? msft did not issue these number of shares in the three months."

    I haven't detailed it, but suspect you're running into the issue that not all purchases done during a Q actually close and get reflected in that same Q. I would also use diluted share count for the analysis - not non-diluted. If the numbers still don't add up and you're a shareholder, drop IR an email query - they're excellent in my experience for getting back with timely answers.

    By Blogger MSFTextrememakeover, at 10:25 AM  

  • E&D growth guidance for Q2 of -8% to flat. Blaming it on earlier Q1 ramp, but something seems odd there.

    Call it a "Halo effect", the only big-name exclusive left for them this year is Mass Effect and if that breaks 2 million units worldwide I'd be surprised. There's actually also a depressive effect on other game sales when you have a super-blockbuster like this. The Wii looks set to be the hot holiday item for the second year in a row so we'll see

    By Anonymous Anonymous, at 1:53 PM  

  • Re: * Common stock repurchases decreased ($2,930B versus $7,683B).

    The higher repurchases last year was (largely) a result of the $3.8 Billion stock tender. From the 2007 Q1 10-Q:
    On July 20, 2006, we announced that our Board of Directors authorized.. a.. tender offer ... Under the tender offer, we repurchased approximately 155 million shares of common stock.. for approximately $3.8 billion at a price per share of $24.75.

    No tender offer this year => Fewer repurchases.

    Re: "what happened to the rest of 56 million share count?"

    Anonymous is getting confused by "Weighted average shares outstanding". Specifically, weighted average doesn't measure shares at the end of period, but *average* number of shares during the period. Thus when the vast majority of repurchases are done in the last month like they were this quarter ( 54.8M out of 80.6M were done in September) then the weight of those repurchases will be less. I believe this explains the "discrepancy" anonymous is noting.

    By Blogger Captain Reality, at 5:22 PM  

  • "No tender offer this year => Fewer repurchases."

    The result is the same. Oh, and isn't that still a nearly billion dollar decrease even ex tender?

    By Anonymous Anonymous, at 11:46 AM  

  • I picked up a comment in the Barrons blog you had sent a link to. Is there any truth in it?

    Note from April 2007:

    “Microsoft is changing its accounting around Windows Vista, essentially realizing revenue sooner. This will boost sales by $660 million next year, Chief Financial Officer Chris Liddell said in an interview. Some analysts hadn’t figured on the change or had estimated too low, he said. The change is also boosting sales by $220 million this year. ”

    By Anonymous Anonymous, at 7:09 PM  

  • Microsoft has indeed modified revenue recognition with Vista. From the 10-Q: "For some of our products, customers receive certain elements of our products over a period of time. .. The fair value of these elements is recognized over the estimated life cycle for the Windows XP and previous PC operating systems. For Windows Vista, there are no significant undelivered elements and accordingly, no license revenue is deferred for Windows Vista sales."

    More details on the Vista versus XP revenue recognition is detailed in this slide deck - specifically slide #12 which says:
    Windows Vista Revenue Recognition
    * No undelivered element deferral required
    * Compared to 5% to 25% deferral rate for Windows XP ..
    Net effect: Not a significant impact on Microsoft FY07 results but will impact timing of revenue recognition and unearned revenue going-forward

    The Liddell quote from the Barron's commentator is from this Bloomberg article from *April 2007*. Excerpt: Microsoft Chief Executive Steve Ballmer darkened investors' view of Vista in February [2007] when he told analysts some of their growth estimates for the coming year were ``overly aggressive.'' ... Since then, analysts made sufficient cuts to their estimates to be in line with Microsoft's forecasts, Chief Financial Officer Chris Liddell said. Some analysts also didn't take into account a change in the way Microsoft accounts for Windows revenue, he said in an interview. That will boost sales by $660 million next year and put Microsoft's forecast ahead of the analysts. .. Microsoft said sales next year will rise to $56.5 billion to $57.5 billion, which may exceed the $56.6 billion average analyst estimate. I assume "this year" in the article means Fiscal 2007 ending July 2007 and "next year" is Fiscal 2008 ending July 2008 of which Q1 was just announced.

    By Blogger Captain Reality, at 9:53 PM  

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