The real story behind Microsoft's latest earnings report

Microsoft spent almost five bucks per search to increase Bing market share and $450 per phone to get Windows Phones out the door

Depending on which news reports you read, Microsoft's latest earning report was either the best in the company's history (revenue for April through June hit $18.6 billion, its top quarter ever) or the worst in the company's history (writing off the 2007 purchase of aQuantive led to a first-ever quarterly loss of $492 million). Neither number generated much buzz or traction in the stock market, primarily because the write-down of aQuantive had been announced weeks ago.

Even a year-over-year decline of 14 percent in Windows quarterly sales didn't stir much interest. Microsoft set aside $540 million in revenue deferral, anticipating the launch of Windows 8 (Microsoft won't put the money on the books until it delivers the promised upgrades to Windows 8). Microsoft made similar deferrals for Vista and Windows 7, and it expects to defer more than $1 billion in revenue for Windows 8 during the current quarter. If you add the deferred revenue back in, Windows quarterly sales were basically flat, year over year, and Windows sales for the entire fiscal year were down about 2 percent.

There were two numbers, though, that really struck me.

First, the Online division (primarily Bing) continues to bleed. Ignoring the aQuantive write-down, Online lost $472 million during the quarter. Microsoft justifies the expense by referring to an increase in Bing market share, but that argument's specious. Depending on whose statistics you trust, Google's share of the U.S. search market actually increased during the quarter. Bing's increased too, but at the expense of Microsoft advertising partner Yahoo.

Tracking ComScore's U.S. Explicit Core Search numbers, Google sites had 11.4 billion hits in April, 11.7 billion in May, and 11.4 billion in June. Adding the Bing and Yahoo sites together, their numbers are 2.6 + 2.3 billion in April, 2.7 + 2.3 billion in May, and 2.7 + 2.2 billion in June; the totals come in at 4.9 billion, 5.0 billion, and 4.9 billion, respectively. If you only look at Bing's numbers, Microsoft spent $472 million to rack up 100 million more searches over the course of the quarter -- almost five bucks per search. And all that money didn't put a dent in Google.

Second, the Entertainment and Devices division took an almost unbelievable $263 million hit for the quarter, ending the fiscal year with a squeaky $364 million profit. Xbox sales were down 39 percent in the quarter, compared to last year. But the number that must really hurt -- the number the company won't divulge -- is how much Microsoft is paying for Windows Phone. In addition to internal development and support expenses, Microsoft is said to be paying third-party developers to write apps for the Windows Phone platform.

Microsoft is also paying Nokia "platform support payments." Nokia's latest financial report states: "In the second quarter 2012, we received a quarterly platform support payment of $250 million (approximately €196 million). Under the terms of the agreement governing the platform support payments, the amount of each quarterly platform support payment is $250 million."

It's also hard to estimate how much Microsoft has spent on advertising the Windows Phone. Back in January, Paul Thurrott (author of "Windows Phone 7 Secrets") divulged that "according to the internal Microsoft documentation I've viewed,the total cost of this [Windows Phone] marketing tsunami is in the neighborhood of $200 million ... that's just for the United States."

How many Windows Phones has Nokia actually sold? Nokia isn't saying. But there's some evidence that, as of May, Nokia had sold perhaps 330,000 units in the United States, a number confirmed last week by Horace Dediu of Asymco. Add to that the number of Samsung Focus S and HTC Windows Phones sold, and you might hit a million total Windows Phones sold in the second quarter. Maybe. With a good tailwind.

Of course, all of this involves dead reckoning. It isn't clear precisely how much Microsoft paid for Windows Phone advertising -- other companies no doubt kicked in. But if payments are in the general ballpark of $450 million, Microsoft just spent about $450 per phone to get those shiny new Windows Phones out the door. That's just the price for keeping Nokia afloat and advertising -- it doesn't even include manufacturing costs.

This story, "The real story behind Microsoft's latest earnings report," was originally published at Get the first word on what the important tech news really means with the InfoWorld Tech Watch blog. For the latest developments in business technology news, follow on Twitter.

Copyright © 2012 IDG Communications, Inc.

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