Microsoft's Bottom Line Harmed by Economy, PC Sales, Netbooks

Microsoft took hits from a number of directions on its way to a massive decline in revenue for the fourth quarter of 2009, including a recessionary environment, still-slumping PC sales and a rise in the sale of mininotebooks, also known as "netbooks," that only run Microsoft's lower-margin products. However, Microsoft CFO Chris Liddell suggested that improvement in key areas could come in 2010.

Microsoft's devastating financial results for last quarter were due to a number of factors, including a flagging economy, lowered sales in traditional PCs and a rise in mininotebooks, known popularly as "netbooks," which can only be loaded with lower-margin Microsoft products.

During a July 23 earnings call, Microsoft reported a 17 percent decline in year-over-year revenue for the fourth quarter of 2009, undershooting Wall Street estimates by more than $1 billion. Overall, the company earned $13.10 billion for the quarter, below predictions of $14.37 and a substantial drop from the same quarter in 2008, when it earned $15.84 billion.

"Average PC sales are sort of down in the traditional market 16 to 18 percent, and business was disproportionately badly affected," Chris Liddell, Microsoft's chief financial officer, said during the earnings call. By 2010, he hoped, "we'll see a double impact of a better PC market year-over-year and a better mix in the types of PCs we'll be selling relative to the average selling price."

Microsoft's savior in this situation would be SMBs and the enterprise engaging in a massive, collective tech refresh.

"Hopefully business PC growth will be at or greater than consumer," Liddell added, "and so you'll start to see higher average selling price, units will have a higher growth rate and, hence, ASPs [average selling price] will go up."

Businesses are also less likely than consumers to purchase mininotebooks, also known as "netbooks," which represent the one bright spot of growth for the PC manufacturing industry but, because they come installed with a cheaper version of Windows XP, do not earn as much for Microsoft as those higher-end systems installed with a full operating system.

Microsoft will offer a stripped-down version of its upcoming OS, the Windows 7 Starter edition, for netbooks. The Starter edition will not run certain features present in the larger version of the operating system, such as multi-monitor support, DVD playback and Aero Glass.

However, margins on Windows 7 Starter will likely be lower for Microsoft than other versions, and the operating system does not reach general release until Oct. 22. Although Microsoft's Windows 7 Upgrade Option program launched on June 25, revenue from that is deferred until later in the year, which dragged down Microsoft's earnings per share by 2 cents.

Microsoft also plans on investing heavily in the cloud, which Liddell termed a "significant opportunity."

Key to its embrace of the cloud, and its larger fortunes, will be the launch of Office 2010, which Microsoft plans on offering as a free online service to subscribers of Microsoft Live. Microsoft will also offer the productivity suite as a hosted subscription service and an on-premises version, which it hopes will give it an advantage among SMBs and the enterprise over cloud-based productivity offering such as Google Apps.

The financial prospects for the second half of 2009 and into 2010, then, look somewhat more promising. But at least in the short term, Liddell cautioned, economic "macro-conditions are going to continue to trump everything."