On Thursday, Microsoft announced fiscal fourth-quarter earnings that missed Wall Street estimates by a significant margin. The company also announced a $900 million write-down related to unsold Surface RT inventory, a revelation that exposes the desperate subtext of the product's recent $150 price cut.
Overall, Microsoft's posted $19.9 billion in sales, with earnings of 59 cents per share. Analysts had expected revenue of $20.7 billion and earnings of 75 cents per share. Investors lost 7 cents due to the Surface charge.
[ Not everybody cares about Windows 8. Read Microsoft's XP Eulogy: Not Everyone's Listening. ]
Last week, Microsoft CEO Steve Ballmer unveiled a sweeping company restructuring. Dubbed "One Microsoft," the plan is designed to make the company more collaborative, such that it delivers products more quickly, and creates better synergies among the various platforms and devices in the Windows ecosystem.
In hindsight, the plan telegraphed the disappointing financials. CFO Amy Hood, leading her first conference call since replacing Peter Klein in May, conceded as much. She said Microsoft "needs to do better," and that the recent reorg will help the company to do so.
Now that the PC market has finally revealed some of Microsoft's vulnerabilities, investors and IT observers have a better sense of not only the challenges Steve Ballmer and his re-organized company will face, but also some of the new strengths that are already developing.
Here are nine major takeaways from Microsoft's lousy earnings report.
1. Microsoft remains a very profitable company.
Microsoft had a surprisingly bad quarter, but revenue was still up 10% year-over-year. The company continues to dominate important enterprise markets, and to build reliable, multi-billion dollar revenue streams
2. Windows has never been this vulnerable.
To be clear, "vulnerable" is a relative term. Windows will be at the core of hundreds of millions of enterprises for years to come.
But Microsoft's empire was built by leveraging the ubiquity of Windows, both in the office and among consumers. If consumers reject Windows 8 for other platforms, particularly on tablets, then Microsoft's core business can only recede. There's a line that separates a huge business from a de facto monopoly, and Microsoft could soon learn the difference.
For the quarter, Windows Division revenue grew 6%, but this includes deferred revenue from a previous Windows Upgrade Offer. If this sum is subtracted, Windows sales actually declined 6%. This confirms what market share reports had already indicated: Windows 8 hasn't sold well in general, and in the months since promotional pricing ended, the OS really hasn't sold well.
Consumers might not be the only problem; Windows XP users aren't upgrading as fast as Microsoft would like, meaning that hundreds of millions of potential Windows 7 and Windows 8 licensees are still in flux.
3. The Surface RT is an epic flop.
Microsoft's Surface RT write-down confirms that buyers have rejected the much-hyped tablet -- but most observers had already assumed as much. But a $900 million write-down -- a jaw-droppingly huge figure -- was a surprise.
Based on Microsoft's disclosure, Alex Wilhelm, a reporter with The Next Web, estimated on his blog that Microsoft has between 3 million and 6 million unsold Surface RT tablets. If Microsoft actually produced anywhere near this much inventory, the company misread the consumer market by a comical degree.
CFO Hood said the Surface RT's price reduction will accelerate the tablet's adoption. But the device is still more expensive and less consumer-friendly than many competing tablets.