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Microsoft on a Roll

Shares jump 5% as a strong quarter prompts upgrades.

Updated from 7:52 a.m. EDT


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rose nearly 5% early Friday after a strong third-quarter earnings report prompted upgrades at two Wall Street firms.

Citi upgraded the stock to buy from neutral and raised its price target to $36 from $33, while CIBC upgraded the stock to market outperform, citing the software giant's improved outlook.

Shares jumped $1.42 early Friday to $30.51, putting them within striking distance of a 52-week high of $31.46.

It took five years of promises and delays, but Vista -- the latest and most advanced version of the operating system that the Redmond, Wash., company built its fortune on -- is finally paying off.

Microsoft said that revenue in its third fiscal quarter ended March 31 jumped 32% to $14.4 billion, beating the Street estimate of $13.9 billion by a comfortable margin.

Net income grew $4.93 billion, or 50 cents a share, from $2.98 billion, or 29 cents a share, a year earlier.

The latest quarter included 2 cents a share in tax benefits and a penny in legal charges. Excluding these items, Microsoft earned 49 cents a share.

Either way, Microsoft surpassed all analyst forecasts. Thomson Financial's consensus of analyst estimates called for 46 cents a share. The highest estimate of the 34 analysts surveyed was 47 cents a share.

Charly Tracy, an investor relations official at Microsoft, said in an interview with

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that the growth came from strong demand for client products such as Vista, as well as the business software, notably the flagship Office 2007 suite.

To watch David Peltier's video take of this column, click here


Client software, which accounted for 37% of revenue in the quarter, surged 67% in the quarter, thanks to Vista sales. Business software, about one-third of total revenue, gained 34%.

"There were some questions about how well Vista and Office 2007 would be received, and they've been very well received," said Tracy. "The client business was approximately $400 million higher than our guidance, and the business division was about $200 million higher."

Microsoft said there is little sign of growth slowing dramatically. In its first formal guidance for the fiscal year ending June 30, 2008, the company said revenue will come in between $56.5 billion and $57.5 billion, which translates into annual revenue growth of 11% or 12% over the current fiscal year.

The consensus among analysts had forecast revenue of $56.2 billion.

"I think some people think that Microsoft is not a strong growth company," Tracy said. "I'd like them to step back and look at our fiscal 2008 guidance. They might see 11% or 12% growth and say, 'Gee, that's pretty good.' "

But they're missing what Tracy says is the real story: "If they look at absolute fiscal dollars, that's revenue growth of more than $5billion," he said. "That growth in itself is big enough to land you on the Fortune 500 list."

Bigger revenue lets Microsoft do what Tracy called interesting things. "It allows us to invest in areas that can drive future growth. It allows us to take cash flow from the company and purchase shares back." Microsoft bought back $6.7 billion worth of its stock in the market last quarter alone.

The guidance for next year's profit was a little less optimistic, but still above analysts' consensus. Microsoft is looking for diluted EPS between $1.68 and $1.72.

The middle of that range, $1.70, is one cent above the $1.69 EPS that analysts are forecasting for fiscal 2008. It's also in the higher end of the $1.57-to-$1.75 range of the 35 analysts surveyed by Thomson Financial.

For the fourth quarter, however, Microsoft's guidance is weaker than what the Street had expected. It's expecting to earn 37 cents to 39 cents a share on revenue of $13.1 billion to $13.4 billion.

Analysts were expecting the company to earn 40 cents a share on revenue of $13.3 billion. In its conference call, Microsoft said the lower guidance is driven by a shift in operating costs to the quarter and higher costs expected from retail sales of Windows Vista.