Despite reporting strong overall profits and reasonable revenues for its fiscal third quarter, Microsoft Corp. continues to struggle in the mid market enterprise applications business.
The business, operated as Microsoft Business Solutions (MBS), reported fiscal Q3 revenues of $185 million, a 3% gain from the like period last year. The unit, however, chalked up a $54 million loss in the period ended March 31, compared with the $52 million of red ink posted in corresponding quarter last year. The fiscal Q3 loss, in fact, was almost double the $29 million deficit reported in the fiscal Q2 (which represented a much narrower deficit from the like period of 2004), on a much larger revenue base of $211 million.
Although Microsoft pointed out that new MBS license and enhancement revenue grew in the period, it said those gains were offset by declines in services and online revenues, some of which have been siphoned off by its partners. In its 10-Q report filed with the Securities & Exchange Commission, the software behemoth attributed its slightly greater MBS loss compared with last year's fiscal Q3 to incremental hiring across the organization in which MBS is housed.
Microsoft also said that ERP revenues showed double digit growth in the period, but did not provide details during a conference call with analysts late last week. Follow up questions posed by Managing Automation were not responded to by press time.
While Microsoft has been working hard to revamp its MBS partner program with initiatives that bolster support of ISVs, resellers and systems integrators that meet strict qualifications, analysts believe the company's enterprise applications efforts are dogged by poor execution, product delays and vision problems related to Project Green, the company's roadmap for integrating its disparate applications in a Web services architecture.
Rob Enderle, principal analyst at the Enderle Group, said beyond Microsoft's execution challenges, the company is suffering from a problem that pervades the entire mid market: pricing pressure. "Part of the problem is that this is a lackluster segment," he said. "Vendors have taken a salesforce.com approach with lower price points and a more services-oriented approach than traditional packaged software vendors."
In addition, while the business isn't "under water, it's generating cash," Enderle isn't convinced the company is putting enough focus on its enterprise applications. "You very rarely hear [chairman] Bill [Gates] or [CEO] Steve [Ballmer] talking about this business," he pointed out. "When the top executives lose interest, you know what happens."
Albert Pang, an analyst with International Data Corp., said that while MBS' Great Plains business appears to be gaining momentum relative to where it was a few quarters ago, and the business unit's vision is expanding in multiple countries, performance could be better given the resources Microsoft has invested over time. "Overall, progress has been slower than expected," he said. "MBS is not where it should be."
After reporting a disappointing fiscal Q2, MBS acknowledged that its long-awaited Axapta 4.0 would be further delayed. The reason: MBS' decision to open Axapta's application programming interfaces and to create a software development kit, among other things. MBS is also said to be adding on functionality to Axapta 4.0, such as CRM, supply chain and partner collaboration extensions to help partners move upstream.
During its fiscal Q2 analysts briefing in January, Microsoft said it expects MBS' growth to resume in the second half of the fiscal year and for the unit to reach profitability in fiscal 2006 on revenues of $850 million. It would appear MBS will need a stellar fiscal Q4 to establish trajectory to reach next fiscal year's profit target.
For the first nine months of fiscal 2005, MBS lost $125 million, a 49% decrease from the red ink spilled in the same period of fiscal 2004, on revenues of $556 million, a 4% increase from the like period last year.
At its partner conference earlier this year, MBS senior vice president Doug Burgum played down speculation that Microsoft's top brass is disappointed with the unit's financial performance. He insisted that MBS is on track and that Microsoft plans to continue to invest in developing its place in the business applications market. "We don't have a profitability problem," Burgum said. "We would have if we were trying to be profitable, and we weren't."
The company certainly doesn't have any profitability problems overall. Operating earnings in fiscal Q3 totaled $3.33 billion compared with $1.28 billion in the prior year, on revenues of $9.62 billion, which were up 5% from the like period of 2004, but below analysts expectations. One reason for the profit gain: legal costs were one-third of what they were in the corresponding quarter of 2004.
"Despite a mixed enterprise software environment, the quarter played out largely as we expected and operating income and earnings per share results were in line with our expectations," said Scott Di Valerio, Microsoft's corporate vice president and corporate controller, in a prepared statement. "Given our optimism about the future with our strong product pipeline and the growth opportunities from our investments in innovative products and services, we expect increased revenue growth in fiscal 2006."