Microsoft Cuts Outlook, Wary of Economy

SAN FRANCISCO -- Microsoft (MSFT) is hunkering down for an economic winter -- albeit a mild one.

The company's lower financial outlook on Thursday is assuming a mild-to-deeper recessionary environment, CFO Chris Liddell said on the company's fiscal first-quarter earnings conference call.

Although the quarter began normally, Microsoft began to see weakness in software sales by September, as customers faced market uncertainty and credit restrictions. The new wariness has continued through October, he added.

For the second quarter, Microsoft projected revenue ranging from $17.3 billion to $17.8 billion and EPS of 51 cents to 53 cents. Analysts were expecting revenue of $18 billion and earnings of 55 cents a share.

The company lowered its full-year expectations to a range of $64.9 billion to $66.4 billion in revenue and EPS of $2 to $2.10. The company had previously projected revenue ranging from $67.3 billion to $68.1 billion and EPS of $2.12 to $2.18. Analysts were expecting full-year revenue of $67.7 billion and EPS of $2.11.

The company is tightening its belt in anticipation of an economic slowdown. "We're pulling back spending in lower-priority areas," Liddell said. Microsoft will cut second-quarter spending by $400 million to $500 million on marketing, travel, capital expenditures and vendor services. The company also will shoot for lower-than-expected headcounts, as it adjusts hiring plans.

Technology Business Research analyst Allan Krans wrote in a note late Thursday that "Microsoft's spending control efforts will remain shallow, as the company's core business will likely remain strong in spite of the downturn."

Despite spending cuts, Microsoft will continue making appropriate investments, Liddell said. "We're making the right balance of taking costs out in the short term, but investing for the future."

"The benefit to us of this environment is in lower asset prices," Liddell said. "I don't see us necessarily increasing the volume of acquisitions. But to the extent we do continue to buy, it will cost us less. We're still very cash-rich. We're not constrained from a capital point of view."

The only issues are whether Microsoft has the people and management ability to integrate prospective targets, he added.

During the first quarter, profit at the Redmond, Wash., software company rose 2% to $4.4 billion, or 48 cents a share, from $4.3 billion, or 45 cents a share, in the year-ago period. Analysts were looking for earnings of 47 cents a share on net income of $4.4 billion.

Revenue grew 9.4% to $15.1 billion, from $13.7 billion in the same quarter of last year. Analysts polled by Thomson Reuters expected $14.8 billion.

Shares of Microsoft, which fell through much of the week, were down 6 cents, or 0.3%, in recent after-hours trading to $22.26.

Unearned revenue rose 16% year over year to $13.5 billion, but declined 12% from last quarter.

The business software division turned in the best performance, growing revenue 20% year over year to $5 billion, surpassing Microsoft's outlook for about $4.8 billion in revenue. The division's performance made up for lower-than-expected revenue in other business lines.

The client business, which sells Vista and Office software for the PC, grew a scant 1.9% year over year to $4.2 billion in revenue, falling short of Microsoft's projection for revenue of at least $4.4 billion. The unit was hurt by falling PC sales, reported by Dell ( DELL) and others.

PC shipments fell below double-digit revenue growth during the quarter, and Vista sales shifted away from the premium versions, Krans stated.

Server and tools revenue rose 17% to $3.4 billion, coming in just shy of the company's projection for $3.45 billion.

On the consumer side, Entertainment and Devices revenue fell only 6% to $1.8 billion on a tough comparison with the same quarter last year, when Microsoft released the latest installment of its hugely popular Halo gaming franchise, which also pushed up sales of the company's Xbox game console last year. Microsoft had forecast the division's revenue to drop by as much as 26% year over year, to no more than $1.5 billion.

The unprofitable online-services business picked up more steam, with revenue growing 15% year over year to $770 million and surpassing Microsoft's estimate for revenue of $718 million to $745 million. But the business lost $480 million in the quarter, vs. a loss of $267 million one year ago.

Business software competitor Oracle ( ORCL) last month reported 18% revenue growth to $5.42 billion for its first fiscal quarter, which ended in August. For the second quarter, Oracle projected top line growth of 12% to 15% in constant currency.

And IBM ( IBM), which sells Windows software with its servers but also competes with Microsoft with its Lotus and WebSphere brands, reaffirmed full-year earnings guidance last week.

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