• Chart: Microsoft Financials for the Last Five Quarters
• Chart: Revenues by Product Line (Old Categories)
• Chart: Last Five Quarters' Revenues by Product Line (New Categories)

Microsoft reported net income of US$1.53 billion on US$7.25 billion in revenues in the final quarter of fiscal year 2002 (which ended June 30, 2002). Although earned revenue was flat compared with the previous quarter, unearned revenue continued to skyrocket as more corporate customers signed up for multiyear licensing programs. Profits continued to suffer thanks to writedowns on the value of Microsoft's strategic investments, particularly AT&T.

Microsoft also announced changes to the way it will report earnings in FY'03 to better reflect its changing business. The company will now disclose exactly how much of its current unearned revenue it will book in future quarters, and it will report quarterly earned revenue in five new categories: Knowledge Worker, Client, Server, MSN, and Home & Entertainment. (For details about these categories and historical financial data for them, see the chart "Last Five Quarters' Revenues by Product Line (New Categories)".)

Desktop Platforms Lead Revenue Growth

Desktop platforms (that is, desktop versions of Windows) stood out in Q4'02 with US$2.44 billion in revenues, up 20% from the same quarter in the previous year. Microsoft noted that this increase occurred despite a 4% overall drop in the number of PCs sold in FY'02, and attributed the increase to a higher percentage of customers buying the more expensive business editions of Windows XP and Windows 2000, rather than the home editions.

Q4’02 revenues from desktop applications (such as Office and Great Plains) were up 1% from the equivalent quarter of the previous year at US$2.52 billion. Microsoft says this low growth is mainly attributable to a higher number of corporate customers signing up for multiyear volume licensing agreements, which require Microsoft to defer most of the revenue from the sale to future quarters. (In contrast, Microsoft books most of the revenue from other types of sales—such as sales of Office to consumers—in the quarter in which the sale took place.)

Annuity licensing also affected revenues for enterprise software and services this quarter—although revenues were only up 4% from the previous year at US$1.35 billion, sales of multiyear licenses in this category were up 102%. Particular standouts in this category were server operating systems, such as Windows 2000 and Windows NT (revenues were up 13% from the same quarter of the previous year) and enterprise consulting and product support (up 10%).

Revenues from consumer products and services (primarily MSN and Xbox) came in at US$822 million, down 23% from Q3's figure of US$1.07 billion, thanks primarily to price cuts on the Xbox gaming console. (This segment cannot be compared with the previous year because Xbox had not yet been introduced.) The company announced that it has sold 3.9 million Xbox consoles since their introduction on Nov. 15, 2001. This is short of the original low-end estimate of 4.5 million, but in range with revised estimates revealed in Apr. 2002. Microsoft reported that it has sold an average of 4.2 games per console so far—an impressive number compared with competitors, but short of the seven (or more) games that most estimates suggest Microsoft will need to sell to break even on each console. Results in this segment were also affected by MSN's early termination of a marketing agreement with an undisclosed partner, which cost MSN US$50 million.

Regionally, revenues in the Americas grew 12% from the same quarter of the previous year, mainly because of strong Xbox sales, and grew 9% in the Europe, Middle East, and Africa region, reflecting the signing of new multiyear licensing agreements. Revenues in Asia were down 9% from the previous year thanks to declining PC shipments, which affected the sales of localized versions of Office XP, especially in Japan.

Net Income Drops from Bad Investments

After-tax income in the fourth quarter was US$1.53 billion, down sharply from the third quarter's record of US$2.74 billion. The drop is due to a writedown of nearly US$1.2 billion in the recognizable value of AT&T and other cable and telecom investments (a loss that was partly offset by gains from interest on the company's enormous cash hoard, among other things). Microsoft does not believe these losses will continue—a sentiment which comptroller Scott Boggs admitted the company had expressed incorrectly before—but warned of possible exposure as the sale of AT&T to Comcast closes and AT&T's debt, currently valued at US$3 billion, is converted to Comcast-AT&T shares.

Operating income (which measures the revenues Microsoft earned this quarter minus the normal costs of doing business) was also down 13% from the previous quarter, partly because of price cuts on Xbox and more customers signing multiyear licensing agreements.

Offsetting this bad news was the fact that unearned revenue grew to US$7.74 billion—up 37% from this time in the previous year and 12% from the previous quarter. To clear up any uncertainty associated with this unearned revenue, Microsoft has begun to reveal exactly how much of this revenue it will book in each of the next four quarters: the company will post US$2.28 billion of the current unearned revenue in Q1'03, US$1.64 billion in Q2'03, US$1.18 billion in Q3, and US$817 million in Q4.

Operating expenses remained stable as a percentage of revenue compared with recent quarters, except for sales and marketing expenses, which rose to 21.3% of revenues thanks to Xbox marketing costs and the termination of the MSN marketing agreement mentioned earlier.

Cash remained stable from last quarter at US$38.7 billion, as the company used US$4.8 billion of its cash to repurchase about 89 million shares of common stock in an effort to reduce dilution caused by its employee stock-option plan.

Microsoft’s Predictions

The company revised its revenue predictions for FY'03 down about 1%, to a range of US$31.4 to US$32 billion, based on year-end input from the sales field and local subsidiaries. The company also said that revenue for next quarter would be down slightly at US$7.0 to US$7.1 billion.

Chief Financial Officer John Connors made some other notable predictions as well:

• PC shipments will resume growth in FY'03, increasing around 5%.
• Revenues in the new Client category, which primarily consists of desktop operating systems, will be up 20% next quarter from the previous year, reflecting a continuing move toward more expensive business versions of Windows.
• Revenues in the new Knowledge Worker category will grow about 10% in FY'03 compared with FY'02 as unearned revenue from multiyear licensing agreements for Office is booked.

Complete Microsoft financial results are available at www.microsoft.com/msft.