Microsoft’s Mostly Solid Quarter

Microsoft reported quarterly earnings that were in line with Wall Street estimates late Thursday, but sales of $11.84 billion missed the $11.96 billion forecast.

Microsoft got a nice bump from the start of several product cycles: the launches of Xbox 360, SQL Server 2005, Visual Studio 2005 and Microsoft Dynamics CRM 3.0. This quarter, the company also released BizTalk Server 2006 and Windows Server 2003 R2.

In a conference call, Chris Liddell, Microsoft CFO, gushed over the Xbox 360, the new game console that shipped this quarter. Demand for the 360 was outstanding, so much so manufacturing couldn’t keep up, dinging revenue for the quarter. Liddell said production was now under control.

Liddell said that while only one in ten customers of Microsoft’s original Xbox connected the console to the Internet, half of Xbox 360 users linked them to the Xbox Live, the online subscription service that starts at $49.99 per year. Xbox Live lets gamers play and communicate with each other — and it lets Microsoft sell them more stuff.

But the company’s revenue workhorse divisions, Servers and Tools and Information Worker, pulled the heavy load again this quarter. Server and Tools revenues were up 14 percent, and SQL Server sales grew more than 20 percent.

Meanwhile, the underperforming Microsoft Business Solutions (MBS) division finally became profitable, posting an operating profit of $10 million. Revenue was up 17 percent year-over-year, with revenue of $242 million this quarter, well above Microsoft’s guidance for MBS growth of 11 percent to 13 percent. In addition to the CRM product, Microsoft Dynamics GP 9.0 and Microsoft Dynamics SL 6.5 also shipped in the quarter.

Mobile and Embedded Devices division starred in the earnings story. Windows Mobile revenue grew 24 percent year-over year, while Embedded revenue grew 64 percent year-over-year. It was the first profitable quarter for this division, too, with $20 million of operating profit.

MSN, in other times a strong earner, had flat revenue for the quarter, due to the impending switchover from using Yahoo Search Marketing for ads to MSN’s home-grown adCenter, in limited beta in the United States.

Liddell said approximately 15 to 20 percent of all MSN ads are now being sold through adCenter; he expects that by spring, the bulk of ads will go through MSN’s ad platform.

The rollout of adCenter will let MSN keep all of its search advertising revenue, rather than sharing it with arch-rival Yahoo. In the short term, because there are only a few advertisers bidding against each other on adCenter, prices for keywords are lower than on other services, leading to the flat revenue for the quarter.

“While this is an important strategic decision for the long term, it does have a dampening effect on revenue for search in the short term.”

The company’s March quarter guidance of $10.9 to $11.2 billion revenues and 32- to 33-cent earnings were in line with estimates, with potential upside for revenues due to an expected 11 to 13 percent growth in PC sales in the third fiscal quarter.