Microsoft Announces Strong Quarterly Profits
Revenue growth rate slows to lowest level since 1996
Redmond, Washington – April 22, 1998 – 1:30 p.m. PDT – Microsoft Corporation
today announced net income of $1.34 billion, and earnings per share of $0.50 for the
quarter ended March 31, 1998, a 25% increase over the $0.40 earnings per share reported
for the corresponding quarter last year. Revenues totaled $3.77 billion, an 18% increase
over the $3.21 billion during the same quarter last year.
“We are gratified that the quarter’s results confirm that consumer demand remains
strong for Microsoft’s products that enable people to be more productive, communicate
more easily and access information on the Internet,” said Greg Maffei, chief financial
officer. “But it is critical to note that our growth has slowed for each of the last four
quarters, and we are likely to experience slower growth for the balance of calendar
“Business fundamentals continued strong across most geographies, especially
North America, fueled by the continued strong adoption of Office 97 by large and small
customers alike on a worldwide basis. We remain concerned about our business in the
Far East, although there is some evidence that the business there is not getting weaker,”
noted Steve Ballmer, executive vice president.
Momentum continued to build for sales and deployments of Windows NT
Server and the BackOffice suite of products. Microsoft announced new or enhanced
alliances with Amdahl, Digital Equipment, NCR, and Wang in order to assist these
companies in building their Microsoft technology skills and to jointly offer new products
and services to help our largest customers migrate more quickly to the Microsoft platform
in their enterprises. Developer support continued to build as well, as the number of
applications available for Microsoft SQL Server 6.5 has quadrupled over the past 18
months. Plus, Microsoft’s upcoming release of SQL Server 7.0 was met with
tremendous industry support at a sold-out Developer Workshop in Los Angeles, with
2000 attendees, representing 1200 companies from around the world.
Windows NT Workstation continues to post impressive growth as recent industry
analyst reports show that workstations equipped with Windows NT more than doubled in
1997. According to a 1997 study conducted by Deloitte & Touche for Digital Equipment
Corporation, the average three-year Total Cost of Ownership (TCO) for technical
workstations running Windows NT Workstation is 37% less than for comparable
machines. The findings suggest that for a group of 25 technical workstations, three-year
savings in TCO would amount to almost $1 million.
During the quarter Microsoft Office 98 Macintosh Edition was introduced and
drove two outstanding months for our Macintosh Office business, as the product has been
very well received by Mac enthusiasts and the press. Office 98 demonstrates Microsoft’s
commitment to Macintosh customers and our reinvigorated relationship with Apple.
Subsequent to the end of the quarter, Microsoft and Sony Corporation announced
plans to begin collaboration to create a convergence between the personal computer and
consumer AV electronics platforms. To facilitate this convergence the two companies
plan to cross-license key technologies including Microsoft's Windows CE operating
system and Sony's Home Networking Module.
“Consumer enthusiasm for the Windows operating system has never been
stronger. Customers want computer products that are affordable, reliable, simple to use,
and for which the widest possible range of choices exist for third-party hardware,
software, solutions and services,” said Bob Herbold, chief operating officer. “We are
pleased to be taking Windows to an exciting new level of performance with the soon-to-
be-released Windows 98.”
This press release contains statements that are forward looking. These statements
are based on current expectations that are subject to risks and uncertainties. Actual results
will vary because of factors such as PC shipment growth; technological shifts; customer
demand; competitive products and pricing; product mix, ship schedules, life cycles, and
terms and conditions; litigation; and other issues discussed in the Company's Form 10-K.
Founded in 1975, Microsoft (NASDAQ "MSFT") is the worldwide leader in
software for personal computers. The company offers a wide range of products and
services for business and personal use, each designed with the mission of making it easier
and more enjoyable for people to take advantage of the full power of personal computing
Microsoft, BackOffice, Windows and Windows NT are either registered trademarks or trademarks of
Microsoft Corporation in the United States and/or other countries.
Other products and company names mentioned herein may be the trademarks of their respective owners.
(In millions, except earnings per share)
Three Months Ended Nine Months Ended
Mar. 31 Mar. 31
1997 1998 1997 1998
Revenue $3,208 $3,774 $8,183 $10,489
Cost of revenue 297 317 843 883
Research and development 492 597 1,409 1,791
Acquired in-process technology 0 0 0 296
Sales and marketing 750 829 2,112 2,493
General and administrative 101 104 268 305
Total operating expenses 1,640 1,847 4,632 5,768
Operating income 1,568 1,927 3,551 4,721
Interest income 119 190 316 489
Other expenses (84) (60) (179) (181)
Income before income taxes 1,603 2,057 3,688 5,029
Provision for income taxes 561 720 1,291 1,896
Net income 1,042 1,337 2,397 3,133
Preferred stock dividends 7 7 8 21
Net income available for common shareholders $1,035 $1,330 $2,389 $ 3,112
Earnings per share (1):
Basic $ 0.43 $ 0.55 $ 1.00 $ 1.29
Diluted $ 0.40 $ 0.50 $ 0.92 $ 1.17
(1) Earnings per share for the three and nine months ended March 31, 1997
have been restated to reflect a two-for-one stock split in February 1998
June 30, 1997 Mar. 31, 1998
Cash and short-term investments $ 8,966 $12,322
Accounts receivable 980 1,055
Other 427 358
Total current assets 10,373 13,735
Property, plant, and equipment 1,465 1,416
Equity investments 2,346 4,122
Other assets 203 272
Total assets $14,387 $19,545
Liabilities and stockholders' equity
Accounts payable $ 721 $ 908
Accrued compensation 336 225
Income taxes payable 466 527
Unearned revenue 1,418 2,463
Other 669 746
Total current liabilities 3,610 4,869
Convertible preferred stock 980 980
Common stock and paid-in capital 4,509 6,984
Retained earnings 5,288 6,712
Total stockholders' equity 10,777 14,676
Total liabilities and stockholders' equity $14,387 $19,545
Channel and Product Group Revenue
Three Months Ended Nine Months Ended
Mar. 31 Mar. 31
1997 1998 1997 1998
United States and Canada $ 938 $1,110 $2,509 $ 3,071
Europe 799 849 1,857 2,332
Other International 511 582 1,328 1,658
OEM 960 1,233 2,489 3,428
Total revenue $3,208 $3,774 $8,183 $10,489
Platforms $1,675 $1,965 $4,352 $ 5,545
Applications & Content 1,533 1,809 3,831 4,944
Total revenue $3,208 $3,774 $8,183 $10,489
Third Quarter: Fiscal 1998
(All growth percentages are comparisons
to the comparable quarter of fiscal 1997)
Revenue of $3.77 billion in the third quarter of fiscal 1998 increased 18% over the third quarter of fiscal
1997. The growth rate, although slower than that of recent quarters, reflected the continued adoption of
Windows® 32-bit operating systems and Microsoft Office 97, particularly as Microsoft software is
deployed across entire organizations.
Applications and Content product revenue increased 18% to $1.81 billion in the March quarter. The
growth rate was lower than previous quarters due to the launch of Microsoft Office 97 in the comparable
quarter of the prior year. Revenue from the various Microsoft Office integrated suites increased, which
include the Standard, Professional, and Small Business Editions. Microsoft Project 98 and Microsoft
Office 98 Macintosh Edition contributed to the quarterly growth, while revenue from stand-alone versions
of Microsoft Excel, Microsoft Word, and the Microsoft PowerPoint presentation graphics program
continued to decrease.
Platforms product revenue grew 17% to $1.97 billion in the third quarter. Windows 95 units licensed
through the OEM channel increased strongly over the comparable quarter of the prior year. Revenue from
retail versions of Windows 95 decreased as the finished goods distributors and resellers reduced channel
inventory levels in anticipation of Windows 98. Revenue from the Microsoft Windows NT Workstation
operating system showed healthy growth. The revenue growth rate for Microsoft BackOffice® Server and
server applications products continued to slow from the rapid growth rates experienced in prior quarters.
Channels of Distribution
For the March quarter, finished goods revenue in the U.S. and Canada increased 18% to $1.11 billion. The
growth rate in the U.S. and Canada reflected slowing growth of business systems and declining shipments
and licensing of retail versions of the Windows 95 operating system. Desktop applications increased over
the comparable quarter due to strong licensing of Microsoft Office and Office Professional. Microsoft
Office 98 Macintosh Edition was released during the quarter in the U.S.
In Europe, third quarter revenue of $849 million was steady with the immediately prior quarter, but
increased only 6% compared to the third quarter of fiscal 1997. Growth rates slowed across most product
lines. As discussed below, the strengthening U.S. dollar negatively impacted translated European revenue
compared to the third quarter of the prior year.
Other International channel revenue in the March quarter was $582 million, an increase of 14% over the
comparable quarter of fiscal 1997. The growth rate was lower than recent quarters due to declining sales in
Japan and Southeast Asia, which partially offset solid growth in Mexico, Brazil, and other South American
countries. Key drivers of growth were increased corporate licensing of Microsoft Office and BackOffice.
Translated international revenue is affected by foreign exchange rates. Had the rates from the prior year
been in affect this quarter, European revenue would have been $80 million higher. Other international
revenue billed in local currencies, principally in Japan, suffered a $46 million drag due to weaknesses in
currencies versus the U.S. dollar. Certain manufacturing, selling, distribution, and support costs are
disbursed in local currencies, and a portion of international revenue is hedged, thus offsetting a portion of
the translation exposure.
Revenue from OEMs (original equipment manufacturers who pre-install Microsoft products, primarily on
PCs) of $1.23 billion was flat with the immediately prior quarter and represented an increase of 28% over
the comparable quarter. PC shipment growth coupled with an increased penetration of higher value 32-bit
operating systems drove the OEM revenue increase over the prior year.
Cost of revenue as a percent of revenue declined to 8.4% in the third quarter from 9.3% the prior year. The
decrease was due to the shifts in mix to CD-ROMs (which carry lower cost of goods than disks), OEM and
organizational licenses, and higher-margin Windows NT Server and other BackOffice server products.
Research and development expenses increased 21% in the third quarter to $597 million, primarily driven by
higher development headcount-related costs and third party development.
On August 1, 1997, the Company acquired WebTV Networks, Inc. (WebTV), an online service that
enables consumers to experience the Internet through their televisions via set-top terminals. Microsoft paid
$425 million in stock and cash for WebTV. Year to date results reflect a one-time write-off of in-process
technologies under development by WebTV of $296 million, which was recorded in the first quarter.
Sales and marketing expenses were $829 million in the March quarter which represented 22.0% of revenue,
compared to 23.4% in the third quarter of the prior year. The total expense as a percent of revenue
decreased due to lower relative sales expenses.
General and administrative costs increased to $104 million in the third quarter compared to $101 million in
the March quarter of the prior year, due in part to higher legal costs.
Third quarter interest income increased to $190 million from $119 million the prior year due to the larger
investment portfolio generated by cash from operations.
Other expenses include primarily the recognition of Microsoft’s share of joint venture activities, including
DreamWorks Interactive and the MSNBC entities.
The effective tax rate for the March quarter was 35%, a one-point decrease from the first half of fiscal 1998
due to a legislative clarification of the foreign sales corporation rules as they apply to software.
Microsoft believes that Internet technologies are integral to its products and has committed to integrating
these technologies, such as its browser, Microsoft Internet Explorer, into existing products at no additional
cost to its customers. Given this strategy and other commitments such as telephone support, Internet-based
technical support, and unspecified product enhancements, Microsoft recognizes approximately 20% of
Windows operating systems revenue over the product life cycles, currently estimated at two years. The
unearned portion of revenue from Windows operating systems was $1.10 billion at March 31, 1998.
Since Office 97 is also designed to be tightly integrated with the Internet, and in the view of subsequent
delivery of new Internet technologies, enhancements, and other support, a ratable revenue recognition
policy became effective for Office 97 licenses in the third quarter of fiscal 1997. Approximately 20% of
Office 97 revenue is recognized ratably over the estimated 18-month product life cycle. Unearned revenue
associated with Office 97 totaled $700 million at March 31, 1998.
Unearned revenue also includes maintenance and other subscription contracts, including custom enterprise
Cash and short-term investments totaled $12.32 billion as of March 31, 1998.
During the March quarter, the Company did not buy back common stock under its stock repurchase
To enhance its stock repurchase program, Microsoft sells equity put warrants. These put warrants entitle
the purchasers to sell shares of Microsoft common stock to the Company on certain dates at specified
prices. On March 31, 1998, 46 million warrants were outstanding with strike prices ranging from $67 to
$70 per share. These put warrant contracts permit a net-share settlement at the Company’s option.
Cash flow from operations in the March quarter was $2.1 billion.
Cost of Employee Stock Options
The Company encourages broad-based employee ownership of Microsoft stock through an employee stock
option (ESO) program in which all employees are eligible to participate. At March 31, 1998, 472 million
vested and unvested options were outstanding as compared to 2.45 billion common shares outstanding.
The Company follows APB Opinion 25 to account for ESO plans in its published financial statements.
Accordingly, no compensation cost is recognized because the option exercise price is equal to the market
price of the underlying stock on the date of grant. Earnings per share calculations reflect exercised ESOs
and the effect of outstanding ESOs under the "treasury stock" method. In addition, as required by
Statement of Financial Accounting Standard 123, the Company discloses the Black-Scholes value of ESO
grants and the proforma impact of expensing such value over the vesting period of the ESOs in the
footnotes to its annual financial statements.
In an effort to aid understanding of the cost of the Company's ESO plan, we are providing alternative
proforma "look-through" income statements as a supplemental presentation of accounting for stock options.
This proforma income statement is not required under generally accepted accounting principles. In this
presentation, the cost of ESO grants, based on the Black-Scholes value (using similar assumptions to those
disclosed in the 1997 Annual Report), is expensed through the income statement operating expense line
items in the quarter that the ESOs are granted. In addition, it is assumed that the ESOs are “hedged”
through the purchase of offsetting call options and therefore "neutralized" and excluded from average
shares outstanding used to calculate EPS. Also, interest income is reduced for the proforma use of cash to
purchase the hedges.
ESOs are granted upon hire to new employees and annually to current employees. The annual grant, which
represents the majority of ESOs granted during any given fiscal year, occurs during the first quarter.
Accordingly, the alternative presentation will show the widest variance from reported EPS in that quarter.
Alternative Presentation of Accounting for ESOs
(In millions, except earnings per share)
Twelve Months Ended Three Months Ended
Mar. 31, 1998 Mar. 31, 1998
Reported Proforma Reported Proforma
Revenue $13,664 $13,664 $3,774 $3,774
Cost of revenue 1,125 1,172 317 318
Research and development 2,307 3,002 597 624
Acquired in-process technology 296 296 0 0
Sales and marketing 3,237 3,727 829 847
General and administrative 399 539 104 107
Total operating expenses 7,364 8,736 1,847 1,896
Operating income 6,300 4,928 1,927 1,878
Interest income 616 531 190 161
Other expenses (261) (261) (60) (60)
Income before income taxes 6,655 5,198 2,057 1,979
Provision for income taxes 2,465 1,943 720 693
Net income 4,190 3,255 1,337 1,286
Preferred stock dividends 28 28 7 7
Net income available for common shareholders $ 4,162 $ 3,227 $1,330 $1,279
Earnings per share $ 1.57 $ 1.25 $ 0.50 $ 0.49
Weighted average shares outstanding 2,668 2,605 2,685 2,608
Options granted 68 68 2 2
Microsoft, BackOffice, PowerPoint, Windows, and Windows NT are either registered trademarks or trademarks of Microsoft
Corporation in the United States and/or other countries. WebTV is a registered trademark of WebTV Networks in the United States
and/or other countries. DreamWorks is a trademark of DreamWorks L.L.C. Other products and company names mentioned herein
may be the trademarks of their respective owners.