MSN, servers and Xbox lead Microsoft's storming quarter

Amid a strong PC market, Microsoft reported quarterly revenue well ahead of analysts' estimates, though earnings fell short of what some investors were hoping for.

The software giant said it earned $2.69bn, or 25 cents per share, on revenue of $9.29bn for the three months ended 30 June. That compares to earnings of $1.48bn, or 14 cents per share, on revenue of $8.07bn for the same quarter a year ago.

Microsoft said the earnings included five cents per share of stock-related expenses and a two-cent-per share tax benefit, while the company's year-ago earnings were dented by the costs of its $750m settlement with Time Warner.

Excluding the tax benefit and compensation charges, Microsoft had earnings of 28 cents per share. Analysts were expecting the company to post 29 cents in per-share earnings, according to Thomson First Call, while Microsoft itself had forecast per-share earnings of 28 cents in April. Revenue of $9.29bn was well ahead of the $9bn that analysts had been expecting, and the $8.9bn to $9bn that Microsoft forecast in April.

In after-hours trading following the earnings report, Microsoft shares dipped to $28.09, down 91 cents, or more than three per cent. Ahead of the report, the company's shares had risen narrowly, closing the regular session at $29, up 14 cents from the day before.

Microsoft CFO John Connors said in a statement: "We had a great quarter, with 15 per cent revenue growth, as all of our businesses met or exceeded our expectations, and our progress on cost efficacy delivered higher operating margins overall."

In addition to benefiting from strong PC sales and improved MSN advertising sales, Microsoft's revenue was boosted by a relatively weak dollar. The company said the impact of foreign currency rates contributed to about three per cent growth in its total revenue.

For the current quarter, Microsoft said to expect revenue of $8.9bn to $9bn, with earnings per share of 25 cents, including about five cents per share in stock-based compensation expenses.

Microsoft hiked its revenue expectations for the coming fiscal year but cut its expectations for per-share earnings. The company said it now expects revenue of between $38.4bn to $38.8bn and earnings per share between $1.05 and $1.08, including 16 cents of stock-based compensation expenses.

Connors said the higher revenue outlook stems from higher-than-anticipated signing of long-term contracts in the prior quarter as well as an improved forecast for Xbox sales. The lower earnings figure is largely due to decreased investment income as Microsoft proceeds with its cash disbursement plans.

In April, the company had forecast revenue in the range of $37.8bn and $38.2bn and per-share earnings of between $1.16 and $1.18, including stock-based compensation expenses of about 15 cents per share.

Of course, the big news came on Tuesday, when Microsoft unveiled a plan to return $75bn to shareholders through the combination of a stock buyback, an increased dividend and a one-time payout of $32bn.

Microsoft said its balance of cash and short-term investments rose to $60.6bn during the quarter, up from $56.4bn at the end of March.

Microsoft's balance of unearned revenue at the end of the quarter was $8.18bn, up $651m from March, spurred by an increase in new multiyear licences and renewals. Microsoft watchers study this figure closely to try to estimate what the company's prospects are for future quarters.

The result was better than expected. Microsoft was able to convince more customers of its expiring Upgrade Assurance program to sign new types of long-term agreements. The company had said it expected only 10 per cent to 30 per cent of such customers to sign new pacts.

"So far we are tracking to the high end of that range," Connors said in a conference call with analysts. Microsoft said it expects its balance of unearned revenue to dip by $200m to $300m during the current quarter because of seasonal factors, but predicted by the end of the fiscal year next June it will grow to more than $8.6bn.

Looking at the results for Microsoft's seven business units, the client unit, which includes desktop and notebook versions of Windows, saw revenue of $2.75bn, up nine per cent, as operating income increased 10 per cent to $2.06bn.

The Server and Tools unit, which includes Windows Server 2003 and other server software, generated $2.3bn in revenue - up 20 per cent - and $567m in operating income, up 85 per cent. The unit saw a 19 per cent increase in Windows-based server shipments and got an additional boost from foreign currency exchange.

The Information Worker unit, which includes Office, posted $2.88bn in revenue, up 23 per cent, and $1.96bn in profit, up 33 per cent.

Microsoft's Business Solutions unit, which includes its Navision and Great Plains lines, narrowed its operating loss to $42m from $73 million a year ago, as sales increased nine per cent to $196m. The Mobile and Embedded Devices unit, which includes Windows CE-based products, grew sales 59 per cent, to $70m, and narrowed its operating loss to $42m from $68m a year ago.

MSN, which just completed its first profitable year, posted a $35m quarterly profit on $588m in revenue. That compares to a loss of $83m on revenue of $559m in the year-ago quarter.

The Home and Entertainment unit, which includes Xbox, was the only unit to see its quarterly loss widen, growing to $339m from $245m a year ago. Sales increased two per cent, to reach $499m.

Ina Fried writes for CNET News.com