Vista coupon program to have a $1.5 billion impact on Microsoft

Posted by Wolfgang Gruener

Redmond (WA) - Microsoft today announced another solid quarter that pushed revenues beyond $10 billion and profits in the range of $3.5 billion. During the quarter, Microsoft made substantial investments to launch upcoming products such as Zune and Vista and, surprisingly, also encountered rising unit costs of its Xbox 360 console, which sold six million times to date.

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The fiscal Q1 2007 earnings result was at the high end of Microsoft's and analyst's expectations and represented an 11% year-over-year increase in earnings, now at $10.81 billion, and net profits of $3.48 billion.

The Business division, which is responsible for products such as Office, Exchange, Project and Visio, remains the main revenue contributor with sales of $3.4 billion (up from 3.3 billion in fiscal Q1 2006), followed by the Client division, which made $3.3 billion (up from $3.1 billion), mainly from the Windows operating system. Online services revenues decreased from $565 million to $539 million. The strongest growth was seen in 'Server and Tools', which jumped 17% from about $2.1 billion to $2.5 billion and the firm's Entertainment Devices division, which saw revenues increase from $596 million to $1.0 billion during the quarter.

However, the balance sheet, which puts Microsoft's current warchest at just over $31 billion, is just half the story, as Microsoft is planning to introduce a range of new products, especially Windows Vista and the Zune portable media player, in the next two quarters. And especially the Entertainment Devices division will face more competition, primarily with the release of Sony's and Nintendo's next generation game consoles. To ensure a safe start of Vista, the company has announced a Vista upgrade program, which essentially locks users into a not necessarily free Vista upgrade. Microsoft estimates that, as a result of tsis program, $1.5 billion of revenue will be shifted from the second to the third fiscal quarter.

The increase of revenues in the Entertainment Devices division was primarily due to an increase in demand for Xbox 360 consoles, software, peripherals, and Xbox Live, Microsoft said. According to the company, 900,000 consoles were sold during the quarter. The tally now stands at six million Xbox 360 consoles that were sold to date. For comparison, Sony expects to sell 500,000 Playstation 3 consoles until the end of the year, while Nintendo expects to sell six million Wii consoles in less than five months after launch.

Microsoft said that its Xbox and PC game revenue increased $319 million, which is an increase of 107% over its fiscal Q1 2006 quarter. The overall operating loss of the Entertainment Devices division decreased, but was offset by a $268 million increase in cost of revenue related to a number of factors, such as "increased sales and marketing expenses related to recent and upcoming product launches including Xbox 360 and PC games, and increased development costs associated with new and upcoming products, including Zune." The company stated that the cost of revenue was "driven" by higher shipments of Xbox 360 units, increasing cost of its online services as well as "higher Xbox 360 unit costs." Especially the higher Xbox 360 unit cost is surprising, as the business model of game consoles tends to be at least partially based on decreasing unit costs over the lifetime of a device.