Update: Microsoft grows earnings, revenue in Q1, helped by server software

The company said SQL Server, Lync, SharePoint, and Exchange sold well during the quarter

Microsoft's revenue and earnings per share grew more than 15 percent each in its first fiscal quarter of 2014, during which enterprise server software products sold particularly well, the company said Thursday.

Microsoft generated revenue of $18.5 billion in the quarter, ended Sept. 30, up 16 percent compared with last year's first quarter and topping the $17.8 billion consensus estimate of Wall Street analysts polled by Thomson Financial.

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Net income came in at $5.2 billion, or $0.62 per share, up from $4.5 billion, or $0.53 per share, in last year's first quarter. That comes out to about a 17 percent increase in earnings per share.

These numbers include the deferral of $113 million of revenue primarily related to Windows 8.1 pre-sales, the company said. Meanwhile, last year's first-quarter report included the deferral of $1.4 billion of revenue related to several Windows and Office offers and pre-sales.

On a pro forma basis, which excludes certain one-time items, earnings per share were $0.63, down 3 percent year on year but exceeding the consensus expectation of analysts by 9 cents.

The company's stock (MSFT) was trading up almost 6 percent after hours in the Nasdaq exchange.

"Our devices and services transformation is progressing and we are launching a wide range of compelling products and experiences this fall for both business and consumers," said CEO Steve Ballmer in a statement.

Ballmer, who is slated to retire at some point in the coming 10 months or so, was referring to the company's ongoing effort to reinvent itself from a provider of packaged software into a provider of hardware devices and cloud-hosted services.

In this quarter, Microsoft is introducing a new financial reporting format for breaking down its revenue and profits. The format splits the company's business into two main buckets: Devices & Consumer and Commercial. The first bucket in turn has three subcategories, and the other one has two subcategories.

Devices & Consumer revenue grew 4 percent to $7.46 billion. Microsoft highlighted that in this category Windows OEM revenue fell 7 percent year on year, while revenue from the company's Surface tablets grew to $400 million, including an increase in revenue and units sold compared sequentially with the fourth fiscal quarter of 2013. Search advertising, provided via websites like the Bing search engine, grew 47 percent year on year.

In the Commercial category, revenue grew 10 percent to $11.2 billion, helped by strong sales of server software products like SQL Server, Lync, SharePoint and Exchange, as well as by a jump of more than 100 percent in revenue from enterprise cloud services.

Windows Server Premium and System Center grew their revenue by "double digits," the company said.

When it announced the new reporting format last month, Microsoft said that it would provide more transparency and clarity into its business. The company also said the new format better represents the company's transformation into a provider of hardware devices and cloud services.

However, some critics pointed out at the time that the new format might accomplish just the opposite, making it more difficult to evaluate how certain products are faring in the market, because of two main reasons.

First, the new format mixes very different products into the same subcategories, complicating efforts to single out how a particular product performed. Second, the new format also splinters the results of certain key products like Windows and Office into several subcategories, making it hard to get a unified view of their sales.

Indeed, in the press release Microsoft issued to announce the first-quarter results, the company didn't provide enough granular data in it for investors, customers, analysts and other interested parties to get a clear view of how many of its products did during the period.

However, during the earnings conference call and in complementary tables and materials, Microsoft offered deeper looks at how specific products and product lines fared.

Xbox unit sales fell by about 500,000 year on year to 1.2 million, but Microsoft has high hopes for strong holiday season sales for the gaming console's new Xbox One model, scheduled to launch in late November. Revenue from the Xbox Live online multiplayer platform grew more than 25 percent.

Sales to OEMs (original equipment manufacturers), such as HP, Dell and Lenovo, of Windows Pro, the version of the PC and tablet OS for businesses, grew 6 percent. However, sales to OEMs of the consumer versions of Windows fell 22 percent, hurt in part by China. Windows sales via volume licensing to businesses were up 6 percent. In the case of Windows Phone, the OS version for smartphones, revenue increased $102 million, a figure that includes a rise in patent licensing revenue.

CFO Amy Hood said during the call that the results for the Windows business were better than expected. For example, instead of the actual 7 percent drop in total Windows OEM revenue, Microsoft had anticipated a fall in the "mid-teens," she said. A positive factor for Windows was a PC market that was more stable than expected, especially business purchases, she said.

The company has high expectations for Windows 8.1, the recently released update of the PC and tablet OS designed to address a host of complaints that have hurt adoption of Windows 8, launched a year ago. New, better Windows 8.1 PCs and tablets are arriving at a variety of prices, sizes and configurations, and could yield strong Windows sales during the holidays.

Microsoft's own Surface tablet is doing better after a poor start, specifically the Surface RT, for which Microsoft was forced to take a $900 million charge in the previous quarter. Surface units sold during the first quarter "more than doubled" compared with the fourth quarter and "Surface RT did better than expected," she said.

Sales of the Office suite to consumers dropped 23 percent, due in part to lower consumer demand and to cannibalization from Office 365 Home Premium, the version of the suite that's sold on an annual subscription basis, as opposed to via traditional perpetual -- buy once, own forever -- licenses. There are now more than 2 million Office 365 Home Premium subscribers. Sales of the suite to businesses grew 11 percent.

Hood attributed the strong growth in search advertising -- a market where Microsoft competes against Google's search business -- to improvements in Bing's algorithms and its ability to monetize queries. Total online advertising revenue, which also includes other ad formats like display ads, grew 13 percent. Display ad revenue dropped 31 percent, mostly due to the new Outlook.com webmail service, which apparently hasn't been able to retain the ad volume of its Hotmail predecessor.

Paid seats of Office 365 -- a cloud email and collaboration suite that includes cloud versions of Exchange, Lync, SharePoint and Office -- increased by 135 percent.

Microsoft is also in the midst of a major corporate reorganization orchestrated by Ballmer and announced in July that it seeks to unify the company and make its different teams work more cohesively and collaboratively. That "One Microsoft" effort is supposed to make the company more agile and innovative.

As part of the restructuring, Microsoft dissolved its five business units -- the Business Division, which housed Office; Server & Tools, which included SQL Server and System Center; the Windows Division; Online Services, which included Bing; and Entertainment and Devices, whose main product was the Xbox console.

It replaced them with four engineering groups organized by function, around operating systems, applications, cloud computing and devices, and by centralized groups for marketing, business development, strategy and research, finance, human resources, legal and operations.

"I'm really pleased with our results this quarter. It was a great start to the fiscal year," Hood said.

Copyright © 2013 IDG Communications, Inc.