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"New growth opportunities in gaming, Internet, and OS's on horizon"![]() |
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Microsoft is a powerful and aggressive technology leader with diversified revenues.![]() |
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New growth opportunities in gaming, Internet, and OS's on horizon![]() |
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Slowing PC demand growth hurts demand for pre-installed of Windows![]() |
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Threats to core OS and Office businesses by Apple and Google![]() |
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Microsoft Corporation (NASDAQ: MSFT) is the world's largest software maker by revenue, with the company's $60.42 billion of revenue in 2008 showing an 18% increase over 2007.[1] In total, 80% of Microsoft's revenues comes from sales of its Windows, Office, and Server & Tools (used by IT professionals to manage groups of users) software products. While Microsoft's revenue from these products is strong, however, these products show slow growth; in 2008, the revenue generated from the Windows operating system increased by 13%,[2] Server and Tools increased 18%,[3] and Office software revenues increased 15%.[4] In contrast, Microsoft's Online Services and Entertainment division (which includes the Xbox 360 console, Zune digital music player, PC software games, and other entertainment devices) saw a 34% increase from 2007 and its first operationally profitable year to date.[5]
Microsoft is also making a venture into the internet advertising industry, which generated $23.4 billion in revenues during 2008, up 10.6% from 2007.[6] Google has dominated this business thanks to its advantage in search, where it controlled 76% of the market in 2008 Quarter 4.[7] Online ads made up just 5.3% of Microsoft's 2008 revenue and the division took an operating loss of $1.2 billion that year.[8]
While Microsoft plays David to Google's Goliath in search, it is also fighting off challenges from a number of upstart competitors in its traditional software business.[9] The "software as a service (SaaS)" market directly challenges the PC-based software market; in 2008, it saw $6.6 billion in revenues and is projected by IT research and advisory firm Gartner to account for $9.6 billion in 2009.[10] Microsoft's newest Office version will offer online versions of Word, Excel, PowerPoint that can be managed and edited on a computer, a Web browser, or a mobile phone in order to compete with this new type of software.[9]
In 2008, Standard & Poor's, the ratings agency, upgraded the stock to AAA, the highest possible rating. Microsoft was the first company to receive the rating in a decade. Only 5 other corporations in the United States held such a rating at that time.[11]
Co-founded in 1975 by Bill Gates and Paul Allen, Microsoft Corporation has built a dominant position the computer industry. Its 1992 introduction of the Windows 3.1 operating system created a successful recurring revenue source for the company, as in subsequent years, the highly successful releases of Windows 95 and 98 consolidated its industry lead, as did well-received updated Microsoft Office software. Today, multi-national Microsoft remains at the head of the industry, its desktop operating system market share exceeding 90% and its global annual revenue of more than $44 billion. While the bulk of Microsoft’s profits derive from corporate contracts, a significant minority of its profits is derived from consumers, and Microsoft is a common name both at home and work.
Microsoft’s products and service offerings fall into five divisions or business sectors:
Of these divisions, the greatest revenue generators are Client, Business, and Server and Tools. However, the strongest rates of growth are in are Entertainment and Devices, with Server and Tools placing a distant second. The table below shows revenue breakdown by segment (in millions) and their perspective percentages of Microsoft’s total revenue for 2008.
Revenue growth was driven primarily by increased licensing of the 2007 Microsoft Office system, increased Xbox 360 platform sales, increased revenue associated with Windows Server and SQL Server, and increased licensing of Windows Vista. Foreign currency exchange rates accounted for a $1.6 billion or three percentage point increase in revenue during the year.[19]
Operating income increased primarily reflecting increased revenue, partially offset by increased headcount-related expenses (increase of 12%), increased costs for legal settlements and legal contingencies ($1.8 billion of legal charges during the year primarily related to the European Commission fine of $1.4 billion), and increased cost of revenue (increase of 8%). At right is a graph detailing Microsoft's Revenue (in millions) and Operating Income as a percentage of total Revenue for the years 2006, 2007, and 2008:[20]
Revenue increased in each of Microsoft's five segments:
Microsoft reported earnings for its 2Q Thursday, Jan 22 2009. Microsoft said profit fell to $4.17 billion, or 47 cents per share, from year-ago earnings of $4.71 billion, or 50 cents per share. Total revenue edged up 2 percent to $16.63 billion, as software for corporate computer servers helped offset an 8 percent drop in revenue for PC software. The results missed Wall Street's forecast for earnings of 49 cents per share on sales of $17.08 billion. In response to suffering earnings, Microsoft plans to cut 5000 jobs over the next 18 months.[25]
80% of Microsoft's revenue comes from software sales, primarily MS Office and MS Windows - both of which are packaged with a PC.[26] A slow-down in PC purchases in most developed countries means a decrease in profit growth for Microsoft as well. In addition to the maturation of the markets, the global recession has decreased PC sales by 6% globally in 2008. However, Gartner predicts that Worldwide PC sales will increase 10.3% percent in 2010 due to the recovering markets.[27] Microsoft's revenues will increase with this growth.
The growth of SaaS means there is more competition for traditional Microsoft products like Microsoft Office. Browser-based software represented approximately 5 percent of business software revenue in 2005 and, by 2011, 25 percent of new business software will be delivered as SaaS, according to Gartner, Inc. [28] Although shareware, open-source, or low-cost alternative software (like Google (GOOG) Spreadsheet, and Open Office by Sun Microsystems ) are still several years away from the security and functionality most businesses need, analysts agree that software will continue to move towards these browser-based models in the long term. Microsoft is taking steps to benefit from this trend itself, starting with the release of a new version of its Microsoft Exchange Server that is available on demand. Furthermore, the next Office suite will be available as On Demand on the internet. [29]
Another trend, the shift from client-server to Service-Oriented Architecture (SOA), marks the further and parallel movement of the server industry in the direction of On Demand. Here, the companies that may stand to benefit the most are those with solid bases in the small-to-medium business market, such as Oracle (ORCL). Linux software distributor Red Hat may also benefit significantly, since the resulting restructuring of the software industry could mean a revival of interest in open-source alternatives. Microsoft may have a lot of ground to make up in this area.
Starting in 2005, Microsoft rebranded its Hotmail, MSN, and LiveJournal offerings under the name of Windows Live. Products in the Windows Live pipeline include a new graphics-heavy "digital human" search interface and "adCenter", Microsoft's first totally self-developed advertising platform. AdCenter uses both the maximum amount an advertiser is willing to pay per click (PPC) on their ad and the advertisement's click through rate (CTR) to determine how frequently an advertisement is shown. To compete with Google’s acquisition of DoubleClick, and expand its online advertising market, Microsoft agreed to purchase aQuantive, for roughly $6 billion, in May 2007. [30] aQuantive had an online advertising revenue of $161 million and a total revenue of $345 million in 2008.[4]
In Entertainment, Microsoft's most successful device is the Xbox 360. Microsoft's Xbox 360 models were the most popular videogame consoles for online gaming (25% of the gaming market), being used by half of the more than 20,000 consumer panel members NPD surveyed for the report.[31]Introduced in late 2005, Xbox360 is leading the next-generation of video game consoles in terms of units sold. By launching the Xbox 360 nearly 12 months before Sony's PlayStation3 and the Nintendo Wii arrived, Microsoft hoped to seed the market, aiming to have 10 million Xbox 360 units sold by December 2006.[32]The strategy seemed to pay off; December saw more than twice as many Xbox 360 sales as PlayStation sales. However, despite the 360's year-long head start, the Wii has managed to catch up in sales, and as of April 2007 is approaching 7 million units in cumulative net sales worldwide (Xbox 360: 10 million). Likewise, in March 2008, Nintendo sold 721,000 Wii, according to NPD, more than Microsoft, who sold 262,000 Xbox 360 units, and Sony who sold 257,000 PlayStation 3 systems, combined.[33] In April 2008, Microsoft reported third quarter earnings and the results for the entertainment division, which includes all Xbox products. The results were a 68% increase in profits from the same period a year earlier.[34]
The software industry lost $48 billion in potential sales in 2007 because of the distribution of pirated software, according to the Business Software Alliance, a trade association.[35] Microsoft loses a staggering US$18 billion every year from pirated Windows operating systems alone. With a total piracy rate of about 30% and the number even higher in some countries, Microsoft suffers massive losses from the distribution of pirated Windows. For instance, in China, 90% of all Windows operating systems are pirated. Worst of all for Microsoft, the countries with the highest rates of piracy are exactly those with the fastest-growing number of PC purchases. Thus the opportunity cost of piracy to Microsoft is huge: the software giant finds itself unable to tap into these burgeoning PC markets just when it needs them the most. In fact, fast-growing PC markets Latin America and Asia/Pacific account for about 1/3 of total PC shipments, but only 1/10 of total PC software spending.
Microsoft has a history of running afoul of anti-trust laws. In July of 2006, the company was fined US$356 million by the European Union in response to a 2004 antitrust ruling. In 2008, Microsoft incurred $1.8 billion of legal charges, primarily related to the European Commission fine of $1.4 billion (€899 million) as compared with $511 million of legal charges during the prior year. Given its monopolistic prominence, Microsoft is always under a slew of lawsuits, and this can affect the company's profitability, business strategy, and public image. Potential legal problems can have a variety of impacts, from negative publicity to fines to possible forced reorganization of the company.[1]
Microsoft's involvement in many different aspects of technology and computing result in competitive pressure from a number of different sources:
| Gross Rev. ($M) | |||
| 2006 | 2007 | 2008 | |
| Google[36] | 10,604 | 16,593 | 21,795 |
| year over year growth | 53% | 31% | |
| Yahoo![37] | 6,425 | 6,969 | 7,208 |
| year over year growth | 8.4% | 3.4% | |
| Microsoft (advertising rev. only)[4] | 1,517 | 1,800 | 2,300 |
| year over year growth | 18.6% | 27.7% | |
At a gathering of investors in New York City on February 25, 2009, Steve Ballmer, Microsoft CEO, made a presentation which included a strong committment to high expenditure levels in support of continuing research despite his belief that the current period of economic weakness would continue for an extended period. There is much historic evidence in support of Mr. Ballmer's belief that such a continuing committment will result in Microsoft emerging from the recession in a stronger competitive position.
Other competitors include SAP (servers), Red Hat (Linux software), Symantec (Internet Security) and Cisco (internet telephony).
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