• Chart: Microsoft Financials for the Last Five Quarters
• Chart: Revenues by Product Line

In spite of a difficult economic climate, Microsoft reported revenues of US$6.13 billion in the first quarter of fiscal 2002 (ending Sept. 30, 2001). The 6% improvement over the same quarter last year was good news, but was tempered by a US$980 million loss on investments—the second big investment loss in a row. Microsoft Chief Financial Officer John Connors credited the revenue growth to strong business desktop and server sales and better-than-expected growth in volume licensing agreements, but adjusted net income expectations for FY'02 downward because of the investment loss.

Server Revenues Grow

Microsoft reported its strongest revenue growth in enterprise applications and services (including Windows servers and all the .NET Enterprise Servers), which grew US$156 million (15%) year-over-year to US$1.19 billion. More businesses than expected signed up for or renewed volume licensing agreements this quarter, a gain that may be partly attributable to licensing changes that made it advantageous for corporations to purchase volume licensing agreements in the first quarter, although Microsoft corporate controller Scott Boggs denied this had a material effect on this quarter's revenues. (See "Customer Complaints Delay Licensing Changes".) In addition, sales of SQL Server (up 40% from last year) and Exchange Server (up 50%) remained high, a trend that has continued through several consecutive quarters. Finally, sales of Windows 2000 Advanced Server—which costs about three times as much as Windows 2000 Server—more than doubled from last year, further bolstering results in this segment.

Microsoft also reported decent (7%) year-over-year growth in desktop platforms in spite of a sharp decline in worldwide PC sales. This is thanks primarily to continuing corporate adoption of Windows 2000 Professional, which, for the first time, outstripped revenues from Windows ME and 9x desktops.

Revenue for the company's largest segment, desktop applications, was up only 2% over the same quarter last year, despite the fact that this was the first full quarter of Office XP sales. The company attributed this lackluster growth to extremely weak retail PC sales in Asia, where Office is frequently bundled with new PCs.

A 22% year-over-year jump in revenue from MSN Networks, which includes both subscriber fees from MSN Internet Access and ad sales on the MSN Web sites, contributed to 5% revenue growth in the consumer services segment. The company expects this segment to shine next quarter with the introduction of the Xbox gaming console.

Regionally, the Asia region saw revenues drop a startling 15% from last year, thanks both to slow PC sales and a drop in the value of local currencies. Other regional trends remained consistent, with the Americas showing 13% growth and the Europe-Asia-Middle East region remaining flat at about 2%.

Broadband Investments Hurt Income

After-tax income for the quarter was only US$1.28 billion, or US$.23 per diluted share, a big drop from last year's US$2.21billion. This result reflects continuing declines in the realizable value of Microsoft's strategic investments, particularly its European cable and telecommunications investments, as well as some Internet content and services companies. Last quarter, the company took a US$2.62 billion loss on investments. Connors noted that Microsoft has written down about 70% of the original cost of its investments this calendar year, and he expects, but cannot guarantee, that this quarter's write-down will be the last.

However, the value of the company's cash and short-term investments continues to skyrocket and now stands at more than US$36 billion. Costs of revenues, sales and marketing, research and development, measured as a percentage of net income, remained in line with previous quarters, but Connors expects the retail releases of Windows XP and the Xbox to raise marketing expenses in Q2'02 (ending Dec. 31, 2001).

Expectations Slightly Lowered

Based on the investment loss this quarter and continuing weakness in the stock market, Microsoft lowered its earnings estimates for FY'02. The company now expects to earn between US$1.61 to US$1.66 per diluted share (about US$12 billion), compared with earlier estimates of US$1.91 to US$1.95.

In addition, Microsoft slightly lowered its revenue expectations for the fiscal year and the next quarter. It now expects revenues of US$28.4 to US$29.1 billion in FY'02 (compared with earlier estimates of US$28.8 to US$29.6 billion), and only US$7.1 to US$7.3 billion next quarter (compared with earlier estimates of up to US$7.6 billion).

Connors also made some other predictions of note:

• Microsoft expects to earn about US$650 million from the sale of its stake in travel site Expedia to USA Networks; it had expected US$800 to US$900 million.
• Worldwide PC shipments will drop about 2% next quarter and will decline overall in this fiscal year; the company originally expected low single-digit growth in PC shipments for FY'02.
• The company still expects to sell between 1.0 and 1.5 million Xbox units over the holiday season, and 4.5 to 6.0 million in FY'02.

Complete results, including detailed histories of Microsoft's financials, are available at www.microsoft.com/msft.