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Microsoft stumbles in Q4, takes $900M Surface RT charge

The company missed profit and revenue expectations

Microsoft closed its fiscal year with a less-than-stellar earnings report, missing Wall Street's revenue and profit expectations and taking a gigantic charge related to its Surface RT tablet sales.

Revenue came in at US$19.9 billion for the fourth fiscal quarter ended June 30, up 10 percent compared with $18.1 billion in the same quarter last year. Analysts polled by Thomson Financial had expected, on average, revenue of $20.7 billion.

Net income was $4.97 billion, or $0.59 per share, compared with a net loss of $492 million, or a loss per share of $0.06, in 2012's fourth quarter.

The results include a charge of $900 million, or $0.07 per share, related to Surface RT "inventory adjustments," a clear sign that the much-maligned tablet has had serious problems gaining traction among consumers and has been unable to compete well against the iPad.

The results also reflect the recognition of $782 million of previously deferred revenue related to the Office Upgrade Offer.

Adjusted for the Office Upgrade Offer item, pro-forma revenue would have been $19.1 billion and earnings per share $0.52, Microsoft said in a statement Thursday. Analysts had expected earnings of $0.75 per share.

That compares unfavorably with pro-forma revenue of $18.6 billion and earnings per share of $0.73 in 2012's fourth quarter, which excluded a huge charge for goodwill impairment of $6.2 billion related to Microsoft's Online Services Division.

CFO Amy Hood said in the statement that fourth-quarter results were affected by the PC market's continuing decline, but that the company is seeing continued strong demand for its enterprise and cloud computing products.

Other products that experienced strong demand during the quarter were Office 365, Outlook.com, Skype and Xbox Live, she said.

CEO Steve Ballmer said in the statement that the company is "working hard to deliver compelling new devices and high value experiences from Microsoft and our partners in the coming months, including new Windows 8.1 tablets and PCs."

The Microsoft Business Division, which includes Office sales, had revenue growth of 14 percent year on year, or 2 percent when adjusted for the recognition of the Office Upgrade Offer deferred revenue. Office 365, the cloud suite of Office desktop and server products, is now on a $1.5 billion annual revenue run rate, the company said.

Revenue at Server & Tools grew 9 percent, helped by strong growth of SQL Server and System Center.

Windows Division revenue grew 6 percent, but excluding the impact of the Windows Upgrade Offer revenue deferral last year, quarterly revenue actually dropped 6 percent.

Microsoft plans to ship Windows 8.1, which is intended to address a number of issues for which Windows 8 has been loudly criticized, later this year.

The Online Services Division, which includes the Bing search engine, grew its revenue 9 percent.

The Entertainment and Devices Division had an 8 percent revenue increase, helped by Xbox Live sales growth of almost 20 percent.

On a conference call following the report, Hood said that the fourth quarter reflected the trends that affected Microsoft positively and negatively throughout the fiscal year, namely a faltering PC market that continues to hurt the Windows business and strong demand for the company's enterprise products and cloud services.

Microsoft is working to transition Windows into a "new era of computing," she said, referring to the trend of the past three years in which consumers and businesses can't buy smartphones and tablets fast enough, at the expense of PC sales.

However, it's not an easy task, because the Windows installed base is so massive worldwide, she said. "We know we have to do better," she said.

Unfortunately for Microsoft, Windows has so far missed the sales frenzy for tablets and smartphones, which mostly run iOS and Android. Windows Phone 8, Windows 8 and the Windows RT variant for ARM devices were supposed to put the OS on the map for the tablets and smartphones, but they've struggled in the market so far.

Hood insisted that Microsoft is aware of what it needs to do, and that it will be more innovative, quick and efficient as a result of the corporate reorganization that is now being implemented.

She said Microsoft is confident that Surface RT tablet sales will pick up thanks to a recently announced price reduction and an increase in retail channel availability.

For the full fiscal year, Microsoft had revenue of $77.8 billion and net income of $21.9 billion, or $2.58 per share.

Last week, Ballmer unveiled a broad reorganization that he described as a "far-reaching realignment" of the company, intended to transform Microsoft and lead it to innovate faster and operate in a more cohesive manner in order to better compete against rivals that include Apple, Google, IBM, Oracle and Cisco.

Ballmer's plan is designed to shift Microsoft's focus away from providing packaged software and toward supplying devices and services for personal and work use.

The reorganization also seeks to foster a more collaborative, collegial corporate culture at Microsoft, which has been criticized for internal conflict, and to create "one Microsoft."

"This is a big undertaking. It touches nearly every piece of what we do and how we work. It changes our org structure, the way we collaborate, how we allocate resources, how we best empower our engineers and how we market," Ballmer said in a statement last week.

The company's stock was down almost 7 percent in after-hours trading late Thursday.

Juan Carlos Perez covers enterprise communication/collaboration suites, operating systems, browsers and general technology breaking news for The IDG News Service. Follow Juan on Twitter at @JuanCPerezIDG.


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