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Microsoft Goes on the Clock

Bill Snyder

When the company reports fourth-quarter results late Thursday, investors will be waiting to see if the other shoe -- a delay in the already very late next version of Windows -- will drop.

If it does, batten down the hatches: The stock will take another hit.

At least one high-profile analyst, Rick Sherlund of Goldman Sachs, has repeatedly speculated that Vista, as the new operating system is called, will miss its January ship date. But he figures that an announcement of a delay now actually would be a plus because it will get the bad news out of the way and clear the decks for a better 2007.

Even if Microsoft doesn't announce a delay, the stock won't necessarily be in for smooth sailing. There are expectations that the company will make a number of major announcements next week during its annual analyst day on the Redmond, Wash., campus; another pushback of the Vista launch could be one of them.

However, the company lately has been signaling that the launch will proceed as planned. Microsoft is still telling its hardware and software partners that its goal is to release the new versions of Office and Windows simultaneously in January, according to Mary Jo Foley, a longtime industry observer who writes for the Microsoft Watch Web site.

Because its fiscal year is ending, Microsoft likely will give fairly detailed guidance for 2007, including a breakdown of expected sales by each of the company's five new business units. The guidance should include expectations for sales of major new products, including Windows Vista, Office 2007 and Xbox 360.

Indeed, guidance may be more significant than the fourth-quarter results, which are likely to be close to Wall Street's forecast of a profit of 30 cents a share on revenue of $11.6 billion.

To view Street Insight's video preview of Microsoft, please click here.

Analysts will be looking hard at a number of areas, including the performance of the company's server unit and any clues the results hold for the strength of PC demand, says Bill Gorman, vice present in the equity research department with PNC Wealth Management, which holds Microsoft shares in one of its funds.

Although it may be coincidental, two of the company's worst-performing divisions -- Microsoft Business Solutions (its business applications unit) and its Mobile and Embedded units -- are being folded into the Microsoft Business Division and Microsoft Entertainment and Devices units, respectively.

Because the Business Division includes revenue from cash cow Office, it will be harder to follow the progress of the company's foray into enterprise software. The new structure won't be reflected in fourth-quarter results, but will be the basis for earnings reports and guidance, beginning with the first quarter of fiscal 2007.

Investors also will be looking for clues that the Xbox 360 video-game console, which got off to a slow start because of manufacturing constraints, is moving into high gear.

According to NPD, which tracks retail sales in the U.S., cumulative sales since last year's launch were 2 million units, while sales in June were a bit more than 250,000. However, the same data show that Sony's six-year-old PS2 outsold the Xbox in the U.S. that month by 312,000 to 277,000, and software sales for Sony's game platform were more than twice as large at $153 million vs. $66 million.

Wedbush Morgan Securities analyst Michael Pachter predicts that Microsoft should be able to sell approximately 200,000 to 300,000 consoles monthly. His company does not have an investment banking relationship with Microsoft.

But the key market of Japan is another matter. Microsoft has been selling fewer than 2,000 Xbox 360s a week in Japan in recent weeks while Sony has been selling north of 20,000 PS2s a week in recent weeks, according to Media Create, a Japanese market research company.

Profitability is another matter as well. Microsoft's Home & Entertainment division, which encompasses the original Xbox and the Xbox 360, has turned a profit only once, and that was in the December quarter of 2004, when sales were driven by the success of the Halo2 game. For the first nine months of the current fiscal year, H&E lost $848 million on sales of $3.1 billion, compared with a loss of $485 million on sales of $3.14 billion a year earlier.

Goldman's Sherlund said in a note to clients last month that "the rapidly growing Xbox business will have turned positive by fiscal 2008, adding to earnings and to overall operating margins." His company has an investment banking relationship with Microsoft.

There's one other wild card in the home entertainment deck: the possibility that Microsoft will announce the jocularly dubbed "xPod," a rival to Apple's wildly successful iPod.