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TheStreet Open House

Satya Nadella: Microsoft's Chief Believability Officer

Stocks in this article: MSFT GOOG NOK AAPL ADBE

A Lot For ValueAct To Like

Nadella made it a priority to speak about Microsoft's strategy to offer its newer SaaS and mobile software products on a subscription model. Traditionally, software bundles like Windows XP were sold on a license basis.

"[We] are well on our way to making that transition in terms of moving from pure licenses to long-term contracts and as well as subscription business model," Nadella said. He also indicated that monetization will be determined based on usage, with well-received service increases leading to subscription price increases.

That is exactly how hedge fund ValueAct Capital Management envisions Microsoft's earnings growth in coming years.

When asked about Microsoft's turnaround strategy, ValueAct's Jeffrey Ubben told TheStreet it is similar to a revitalization orchestrated at Adobe (ADBE) under CEO Shantanu Narayen. Ubben said that like Adobe, Microsoft's in the direction of a SaaS model will eventually drive pricing power and rising profitability at the company.

ValueAct, which owns a stake in Microsoft, may have a very patient view of the company's turnaround. The fund first disclose a 5% stake in Adobe in 2011 and Ubben said ValueAct recently re-underwrote the investment given its belief that earnings growth at the company is just beginning.

Ubben, who spoke to TheStreet at the IMN Active-Passive Investor Conference on Tuesday, said Microsoft, having already launched Office 365 and Azure with a SaaS pricing model, is further along than Adobe was when the hedge fund first invested in a turnaround. He also pointed to Microsoft's recent introduction of Word, Excel and PowerPoint to iPad tablets as another positive recent development for the company.

In late 2013, Microsoft signed a cooperation agreement with ValueAct, letting ValueAct Capital President Mason Morfit meet with selected Microsoft directors and company management "to discuss a range of significant business issues." Morfit also joined the Microsoft board in Nov. 2013.

Earnings Results, Partial Guidance

Microsoft posted net income of $5.66 billion, or 68 cents a share, vs. $6.055 billion, or 72 cents a year earlier. Revenue was $20.403 billion versus $20.489 billion the prior year. Microsoft was expected to earn 63 cents a share on revenue of $20.4 billion, according to Bloomberg data.

CFO Amy Hood said Microsoft expects to report Devices and Consumer Licensing revenue of $4.1 billion to $4.3 billion; Devices and Consumer Hardware revenue of $1.3 billion to $1.5 billion; and Devices and Consumer Other revenue of $1.9 billion. Commercial revenues are expected to be at $13.1 billion to $13.3 billion, and within this, Commercial Other is forecast to be at $2.1 billion.

That guidance excluded any impact from the Nokia acquisition, which will be included in Microsoft's fourth-quarter earnings report. Hood confirmed Microsoft's previous operational expense guidance and said the company is expecting a higher tax rate for the fourth-quarter, reaching 18% to 20% for the full year.

-- Written by Antoine Gara, with Andrea Tse in New York.

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