Analysis: Overall, a monster quarter. Crushed consensus top and bottom lines, and raised guidance significantly. Moreover, operating margin in the quarter was up 2 points to 43%*, and the company’s new guidance for the year calls for only a 40% margin–so likely plenty of EPS upside.
Weakest division was online services, where organic advertising revenue growth fell back to 25% (ex aQuantive) after hitting 33% in Q2. Operating loss less aQuantive did improve modestly, however. (See attached spreadsheet). Every other division was firing on all cylinders. Emerging markets very strong. Company beginning to see a tech-spending recovery in the US. Vista has sold twice as many units as XP thus far in the rollout. Company regards economic weakness as more likely than last quarter, but has not seen any weakness in Q4 orders.
- Revenue of $13.76 billion and EPS of $0.45, vs. consensus $12.57 billion and $0.39.
- Overall revenue up 27%
- Client (operating systems): revenue up 25%, op income up 27%
- Server/Tools: revenue up 16%, op income up 25% (nice leverage!)
- Online: revenue up 25%, operating income plummeted again (spreadsheet soon). Importantly, online advertising revenue decelerated from last quarter (excluding aQuantive contribution).
- Business Division (Office, etc.): Revenue up 20%, operating income up 21%
- Entertainment/Devices (XBox, etc.): Revenue up 91%, operating income up sharply from loss to gain
Key Points: Online Division
- aQuantive acquisition contributed to P&L for slightly more than half the quarter. Deal closed August 10th.
- Organic online ad revenue decelerated significantly from last quarter’s 33% rate to only 25% growth. Online ad revenue grew 33% to $487 million–same rate as last quarter–but aQuantive contributed $29 million of online revenue (and $51 million of agency revenue)
- 23% growth of display revenue
- Access revenue fell $33 million or 32% (as expected–it’s headed to zero).
- Windows Live IDs hit 405 million from 340 million.
- Excluding aQuantive, the division’s operating loss shrank modestly (see spreadsheet) OSB operating loss includes a $58 million loss from aQuantive.
- The $151 million or 63% increase in cost of revenue was primarily driven by increased data centre costs, online content expenses, and aQuantive-related expenses.
- Sales and marketing expenses increased $69 million or 42% primarily due to increased marketing costs and amortization of customer-related intangible assets
- R&D expenses increased $60 million or 28% primarily as a result of increased headcount-related expenses and product development costs.
Conference Call: Key Points
Upgrade cycle and emerging markets drove revenue
Operating margin up 2 points to 43%.
PC growth rates emerging markets +20%
Europe/Canada led mature markets, begin to see recovery US and Japan.
Forex added 2 points to growth.
XBox: 1.8 million units, Halo drove. Attach rates high.
“Risk of economic slowdown has increased.”
Increasing PC unit growth estimate by 1% for year.
Guidance online services: advertising revs +35% including aquantive.
Vista 2x XP at this stage of rollout.
PC units 14-16%, our shipped units 20% (anti-piracy). Consumers will grow faster than businesses, but client in great shape.
Health of consumer spending Q4? In Q1, console sales 1.8. We look at volume over six months–lots of stocking in anticipation of Xmas. No particular signaling of weakness for Christmas.
Online: Where we thought we’d be. Not great, but fine. 25% ad growth ex-aQuantive. We are investing heavily for organic growth, in addition to the acquisitions. Lots of investment in search, relevance. $3.2-$3.3 billion capex, half of this is going into OSB ($1.6-$1.7 billion). Strong organic and inorganic. Facebook: we committed to multi-year agreement. We’re willing to suffer operating loss in that division, but underlying metrics on track.
Guidance puts operating margin at 40% vs. 45% for this quarter. Why? We think Q1 just outstanding. Different COGs mix rest of year. Won’t see so much expansion. We think EPS grow 20%-plus.
Eric Savitz has guidance changes:
For the second quarter, the company sees revenue of $15.6 billion to $16.1 billion, and EPS of 44-46 cents; the Street has been looking for $15.64 billion and 44 cents.
For the June 2008 fiscal year, Microsoft sees revenue of $58.8 billion to $59.7 billion, and EPS of $1.78 to $1.81; the Street has been at $57.42 billion and $1.73. Previously, the company had been projecting revenue of $56.8 billion to $57.8 billion, with EPS of $1.69 to $1.73 a share.