Microsoft Earnings: Hardware Sales And Cloud Services Boosts Revenues

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Microsoft (NASDAQ:MSFT) announced its earnings for Q1 FY15 on October 23. (Fiscal years end with June.)  The company posted a 25% year-over-year growth in revenues to $23.20 billion, which also includes $2.60 billion revenues from Nokia’s phone division. In our pre-earnings note, we noted that hardware sales and cloud services would boost revenues. While the devices and hardware revenue increased by 47% to $10.96 billion, Microsoft reported 128% growth in commercial cloud services, which includes Office 365, the Microsoft Azure platform, and Dynamics CRM. We also anticipated that Windows OS license sales would grow during the quarter despite little growth in worldwide PC shipment. Microsoft was able to buck the trend in PC sales as its Windows original equipment manufacturing (OEM) revenues grew by 10% year over year. Below, we review Microsoft’s Q1 FY 15 results by segment.

See our complete analysis of Microsoft here

Hardware Sales Bolster Revenues

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In our earnings note published earlier, we stated that the device sales will drive revenue growth for Microsoft in Q1. Microsoft’s hardware revenues were buoyed by growth in Surface Pro 3 sales and Xbox-One shipments. While Surface revenues grew by 127% year over year to $908 million, the company sold 2.4 million Xbox console units compared to 1.2 million units in Q1 FY14.  As a result, revenue for hardware devices was up $1.04 billion or 74% to $2.45 billion.

Phone Division Boosts Revenues

Nokia acquired Nokia Devices and services (NDS) unit in the fourth quarter of fiscal year 2014. During the quarter, Microsoft sold 9.3 million Lumia phones and 42.9 million non-Lumia phones, which translated into $2.6 billion sales and $478 million in gross profits. Going ahead, we expect this division to do well, and Microsoft to report higher revenue. [1] However, restructuring the company and integration NDS impacted margins, and the company incurred costs in tunes of $1.1 billion.

Windows OS Licensing – A mixed bag

While Microsoft reported that its consumer Windows licensing revenues declined by 2%, Windows Commercial volume licensing revenue grew $80 million or 10%, partly due to end of support for Windows XP. During the quarter, the company took important steps to grow Windows usage and improve the health of the ecosystem. Both its existing and new OEM partners are bringing to market an expanded set of device offerings at more competitive price points. [2]

Transition To Office 365 Reflects On Revenue Growth

Consumer Office revenue declined 5%, reflecting the transition of customers to Office 365, which grew by $87 million and has over 7.1 million subscribers at present. However, commercial Office and Commercial Office 365 boosted commercial cloud revenues by 128% to $952 million. As the subscription model sets in, revenues for this division is expected to grow, and become more recurring and predictable going forward.

Server & Cloud Witness Another Quarter Of Strong Adoption

Microsoft’s Windows Server division is one of the fastest growing divisions of Microsoft. During Q1 FY15, server products revenue grew $406 million or 11%, driven primarily by higher premium mix of Microsoft SQL Server. Furthermore, adoption of the cloud based Azure platform also increased Azure revenues by 121%. We’re encouraged by the continual growth that this division posted, and it is becoming an important driver for Microsoft’s value.

Online Service Division (OSD)

The online services division did report some encouraging signs as online advertising revenue grew 14% or $129 million due to a 23% increase in search revenues as Bing’s US search market share rose 19.4% during the quarter. Furthermore, search advertising revenue improved due to increased revenue per search resulting from ongoing improvements in ad products and higher search volume. This increase was offset in part by a 9% reduction in display advertising revenue, due to continued portal traffic and monetization declines. We forecast Bing’s global market share to increase steadily throughout our forecast period but any surprises to the upside are not expected to increase the company’s value substantially.

We are in the process of updating our Microsoft model. At present, we have $41 price estimate for Microsoft, which is approximately 3% below the current market price.

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Notes:
  1. For more on this read Microsoft-Nokia Eye Bigger Share In Smartphone Industry With New Launches At Year End []
  2. Read more about it here []