Microsoft's Cloud Plan Is Risky

Microsoft, taking on Amazon and Google, walks a revenue tightrope as it prepares to launch the next stage of its ambitious cloud strategy.
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REDMOND, Wash. (TheStreet) -- In an aggressive move to one-up cloud computing rivals Amazon (MSFT) - Get Report and Google (MSFT) - Get Report, Microsoft (MSFT) - Get Report, which beat analysts' estimates in its fourth-quarter results on Thursday, is launching the next stage of its ambitious cloud strategy.

Microsoft will begin charging for its Azure offering on Monday. Aimed at software developers who want to create cloud services and applications, Azure was initially offered on a free-trial basis. The software giant has announced two pricing models: a six-month subscription and a-pay-as-you-go plan whereby users can access compute power for 12 cents an hour.

The big challenge for Microsoft, though, is how to make its

cloud

initiatives work without eating into its traditional software business, something that investors will be closely monitoring.

"Cloud brings both opportunity and threats," wrote Allan Krans, an analyst at Technology Business Research, in a note released Thursday. "Cloud offerings may be a growth driver for Microsoft, but do not come close to approaching the 50%-plus operating margins produced in its core businesses."

While cloud services will inevitably put pressure on Microsoft's margins, this is clearly a risk that the software maker feels is worth taking.

During the company's fourth-quarter conference call, Microsoft CFO Peter Klein explained that, in addition to Azure, the company is planning to launch another service, dubbed Natal, later this year. "Based on our natural user interface work,

Natal will energize this generation's gaming and entertainment experience starting this coming holiday season," he explained.

Klein, however, was cagey about the impact of Azure when grilled by analysts, refusing to be drawn on whether the cloud effort will drive down the company's gross margin and Cost-of-Goods Sold in fiscal 2011.

Krans says that Microsoft, which recently announced a

cloud pact

with

Hewlett-Packard

(HPQ) - Get Report

, is carefully weighing the financial implications of its strategy.

"Microsoft will combat lower cloud margins by focusing on revenue volume, producing lower margins, but higher operating income dollars," he wrote. "With a large traditional business to protect, Microsoft is taking a measured approach to its cloud strategy, moving only as fast as customer demand."

The analyst added that the software firm has shrewdly avoided offering comprehensive cloud offerings such as those from

Salesforce.com

(CRM) - Get Report

and

NetSuite

(N)

.

The next major cloud announcement from Microsoft will be tied to the launch of Office 2010 in June, when the software giant unveils Office Web Applications, a challenger to Google Docs.

Cloud services

, which offer compute power and storage via the Internet, are fast becoming one of the tech sector's hottest technologies, thanks in no small part to the IT spending

slowdown

. Companies like

IBM

(IBM) - Get Report

, Microsoft and

EMC

(EMC)

are all pushing

cloud technology

as a way for firms to avoid the upfront costs of hardware and software.

Despite plenty of hype, however, cloud computing is still in its

relative infancy

. Stymied by vendor

in-fighting

and businesses' reluctance to relinquish control of key applications and data, the technology has struggled to achieve widespread adoption.

The times, though, may be a-changing.

The Economist

recently ran an online debate, "This house believes that the cloud can't be entirely trusted." More than half of respondents to the poll disagreed with the motion, spelling good news for cloud vendors in 2010.

Shares of Microsoft dipped 3.36% to $28.18 at the closing bell on Friday; it was the day's worst performing stock on the Dow.

-- Reported by James Rogers in New York

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