Microsoft Needs Its Traditional Business, Revenues Suggest

Microsoft has taken an "all in" approach to cloud computing, but its revenues from software such as Windows 7 suggests it will need to leverage its traditional, more desktop-bound products for some time to come.

Microsoft's quarterly revenues of $16.04 billion exceeded many industry analysts' expectations, and suggested that the economy-at least the portion of it that purchases software-is indeed slowly reviving from the deepest global recession in a generation. However, a deeper analysis of those results also reveals a peculiar dichotomy: despite Microsoft's "all in" approach to cloud computing, the company's fortunes are still very much tied into that most traditional of tech areas, the desktop.

"Microsoft's messaging around cloud is becoming increasingly aggressive, but its execution in traditional businesses had revenue pouring in during [the quarter]," Allan Krans, an analyst with Technology Business Research, wrote in a July 22 research note. "Windows 7 and Office 2010 have generated significant growth despite the ongoing economic uncertainty."

During its July 22 earnings call, Microsoft reported sales of 175 million Windows 7 licenses since the operating system's October 2009 release. Overall, Microsoft's Windows division reported revenues of $4.5 billion, up from $3.2 billion during the same quarter last year. Krans estimates the company could earn an additional $50 billion in coming years by converting PCs running older versions of Windows to Windows 7.

Microsoft's Business division pulled in $5.3 billion, suggesting that both enterprises and SMBs (small and midsize businesses) are beginning to spend on software after several quarters of slashed IT budgets. Although Microsoft launched Office 2010 during this quarter, it may be some time before the true fiscal impact of its next-generation productivity suite becomes clear.

But Microsoft's signature cloud platform, Azure, did not contribute significantly to the company's bottom line-a fact the company attributed to its recent release.

"On the Azure side, it's early," Microsoft Chief Financial Officer Peter Klein told analysts and media during the earnings call. "It's not material to the financials this year."

During Microsoft's Worldwide Partner Conference earlier in July, Microsoft announced what it called "IT as a service," offering to take businesses' IT infrastructure into its hosted cloud. The company also introduced Windows Azure Platform Appliance, a service that brings Windows Azure's cloud-development capabilities into a company's data center. However, recent surveys by Tech Target and other firms suggest that IT administrators still have reservations about embracing the cloud, including issues with security-which in turn could slow industry-wide adoption.

"After being talked about for years, [cloud] adoption is occurring, but it will take time for customers to grow comfortable with the new technology," Krans wrote. "Cloud is important and is capturing a large amount of Microsoft's investment and messaging, but its existing business will sustain revenue and profit for quite some time."

As suggested by Microsoft's aggressive push at the WPC, partners will be a key part of driving cloud initiatives.

"The first wave of cloud computing growth was led by direct sales-led vendors Google, Amazon and Salesforce.com, but TBR believes partners will play a much larger role in driving the next wave of cloud computing adoption," Krans wrote. "Microsoft is seizing this opportunity early, as IBM and Cisco, amongst others, are also vying for partners to commit to their cloud strategies."

"Of all Microsoft's strategic assets as an organization, its partner channel may just be its most valuable and not one it can afford to let slip as customers transition to the cloud," Krans added. Microsoft's introduction of Cloud Essentials and Cloud Accelerate, two new components of its partner program devoted to cloud, could help with this push. "Few IT vendors have cloud-specific designations, so Microsoft is ahead of the market at this early stage."

Other analysts suggested that Microsoft will likely need to rely on its flagship products and traditional channels for some time to come, as many of its newer, non-cloud initiatives have not had time to bear financial fruit.

"We think it's too early to see a boost from Kinect (formerly Project Natal) units, which are slated to start shipping in early November," Katherine Egbert, an analyst with Jefferies & Co., wrote in a July 19 research note. "We don't see Bing search or Azure cloud services add meaningfully, despite recent market share gains and customer wins." Even Office 2010 will need some time to ramp, Egbert added, "although a [fiscal year end] wave of volume license agreements that include Office 2010 could benefit unearned revenue."

In other words, Microsoft's head may be in the cloud, but it still remains tied to its desktop.