It's time for a reality check on Microsoft's grand turnaround vision

When Satya Nadella took over as CEO of Microsoft in January 2014, he brought a brand-new playbook to the company. Instead of focusing exclusively on Windows, his Microsoft would take a “cloud-first, mobile-first” stance.

Just over three years later, things are looking good. Microsoft stock is hitting all-time highs, as Wall Street responds favourably to the strong and continued growth of the Office 365 subscription productivity suite, and the Microsoft Azure cloud computing service — the poster children for Nadella’s post-Windows approach.

And yet, when Microsoft announces its quarterly earnings results on Thursday after the bell, it still has a lot to prove, to Wall Street and to the world. Because while Nadella’s vision has led to a reinvigorated Microsoft, the biggest question remains: Will Nadella’s big bets on the cloud and mobile grow fast enough to offset its fading old businesses?

If Microsoft can’t show clearly that the answer is “yes,” Wall Street could lose faith in Nadella’s master plan.

Here are the major things to look out for when Microsoft announces earnings on Thursday:

  1. Windows: The PC industry has been shrinking for five years straight now, and Microsoft’s missteps in mobile have resulted in Windows 10 not quite getting the uptake that the company was hoping for. So far, the Windows business has very slightly outpaced the decline of the overall PC industry, but its future prospects are still an open question. We’ll get an update on that business on Thursday.
  2. Cannibalization: As a subscription service, Microsoft Office 365 has the potential to make more money per customer for Microsoft in the long-term, as they (theoretically) pay monthly in perpetuity. But the service is luring people away from the traditional, pay-once versions of Microsoft Office. Similarly, the fast-growing Microsoft Azure cloud is eating into the lucrative Windows Server business. When Microsoft announces earnings, we’ll get an update on how that dynamic is playing out.
  3. LinkedIn: This is the first full quarter since Microsoft’s $US26.2 billion acquisition of LinkedIn closed, and investors are going to want to see some kind of results. Last quarter, LinkedIn lost $US100 million on $US282 million in revenue. And while Microsoft is making steps towards integrating LinkedIn data with its other software, the company really needs to prove that this acquisition will pay off at some point.

In other words, investors are on board with Nadella’s vision for a world where Microsoft weathers the shrinking PC market by dominating the worlds of the cloud and business software.

But these older businesses still account for a tremendous chunk of Microsoft’s revenue. And while the cloud is growing fast, investors will be looking for signs that this growth will translate into a big enough, high-margin business to offset that shrinkage.

We’ll be covering Microsoft’s earnings live, so make sure to come back Thursday after the bell. Wall Street analysts are expecting Microsoft to report earnings of $US0.70 a share on revenue of $US23.62 billion.

Get the latest Microsoft stock price here.

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