Microsoft's Q3 Earnings Miss Despite Surge in Cloud Business

Microsoft's transition to the cloud hit some speed bumps the third quarter of its fiscal 2016.

On Thursday, the company reported it expects a higher effective tax rate from licensing shifts and revenue deferrals, along with lower-than-expected earnings per share (EPS). The results -- which overshadowed strong growth in Office 365 subscriptions, Azure usage and Surface sales -- disappointed analysts, leading Microsoft's shares to fall about 3.5% in after-hours trading late Thursday.

For the quarter ended March 31, Microsoft reported a 25% plunge in adjusted GAAP-based net income of $3.8 billion, and a revenue decline of 5.5% to $20.5 billion. Putting aside those deferrals and adjustments, Microsoft said non-GAAP revenues of $22 billion increased 1.6%, and EPS was flat at $0.62 or $5.1 billion. Consensus estimates had pegged Microsoft returning $0.64 in EPS.

Microsoft attributed the drop due to a "catch-up" adjustment to account for the anticipated increase in its effective tax rate from the deferrals, along with the shift in licensing terms as customers switch from traditional software licenses to the cloud.

"Overall, we had a solid quarter," said Microsoft CEO Satya Nadella in his opening remarks during Thursday's earnings call.

Microsoft's cloud business continued to grow, Nadella said on the call, noting it's on a $10 billion run-rate for the current fiscal year, and on pace to reach the company's goal of $20 billion by its 2018 fiscal year.

Nadella emphasized commercial Office 365 licenses now total 70 million, representing a 57 percent year-over-year increase. On the consumer side, there are 22.2 million Office 365 subscriptions, up 6%. Azure revenue grew 120% in constant currency, Microsoft said, with Azure SQL usage more than doubling. Overall, the company's Intelligent Cloud business grew 3% (or 8% in constant currency) to $6.1 billion.

In total, Microsoft's Productivity and Business Processes unit grew 1% (up 6% in constant currency) to $6.5 billion. Office commercial products and cloud services revenue went up 7%. Dynamics, including licenses and cloud services revenue, went up 9% in constant currency and CRM Online seat adds more than doubled.

Not surprisingly, revenue from Windows revenue declined. Pro OEM revenues dropped 11% year-over-year, though overall licensing grew 1%. The Surface Pro 4 and Surface Book helped grow Surface revenues by 61% in constant currency, while phone revenue plummeted 46%.

The number of Xbox Live active monthly users grew 26% year-over-year to 46 million. Windows 10 usage helped drive search advertising revenue up 18% in constant currency.

About the Author

Jeffrey Schwartz is editor of Redmond magazine and also covers cloud computing for Virtualization Review's Cloud Report. In addition, he writes the Channeling the Cloud column for Redmond Channel Partner. Follow him on Twitter @JeffreySchwartz.