As Microsoft's business applications unit continues to build top-line momentum within the mid-market space, partner and competitor Epicor Systems Corp. remains locked in a struggle to find its stride following an audit of revenue-recognition practices that caused internal distractions.
In its fiscal third quarter ended March 31, Microsoft Business Systems (MBS) posted revenues of $216 million, a 21% jump from the like period last year, significantly exceeding earlier estimates of 16% growth. The revenue increase was fueled by the continuing strength of MBS's resurgent Dynamics business software suite, particularly its ERP offerings, a company spokesperson said. The top-line however, was off 11% from the record $242 million posted in the previous quarter, and wasn't robust enough to keep MBS in the black one quarter after the business unit generated a surprise profit.
Epicor, meanwhile, reported earnings for the first quarter ended March 31 of $4.6 million, down 19% from the like period last year. Total revenues in the quarter reached $84.5 million, up 26.5% from the year-earlier period.
Riding strong adoption of its ERP and CRM software from both new and existing customers, MBS license revenues jumped 28% jump in the period compared with the corresponding quarter last year, a company spokesperson said. Yet, the business unit lost $13 million in the quarter, which nonetheless represented a 66% improvement from the like period last year. The spokesperson said the deficit was "mainly due to seasonality in revenue [which did] not match seasonality in spend."
The loss, she added, would not impact MBS's ability to achieve "sustained profitability sometime in fiscal 2007," meeting a previous but pushed-back promise.
In a conference call with analysts, Microsoft Chief Financial Officer Chris Liddell characterized the period as "a good quarter" for MBS, a trend the company expects to continue. He reiterated Microsoft's expectations that MBS's revenues will grow between 11% and 13% in the fourth fiscal quarter and contribute to the unit's predicted growth of 16% in fiscal 2006, up slightly from earlier projections.
"Our new Dynamics products have been met with great customer and partner enthusiasm and we look forward to carrying that momentum into Q4 and beyond," Liddell said.
Among major manufacturing-industry contracts won by MBS in the March quarter was a deal with Blackhawk Products Group, a Norfolk, VA supplier of tactical equipment to the U.S. military. The company is using Microsoft Dynamics AX (formerly Axapta) as the foundation for an enterprise-wide applications infrastructure, covering e-commerce, supply chain, and financial management.
Epicor's fiscal first quarter results, meanwhile, included $15 million in revenue which the company realized from CRS Retail Systems Inc., which Epicor acquired last December. Excluding the CRS contribution, Epicor's revenues grew by only 4%.on an organic basis during the quarter.
Similarly, with CRS's results included, Epicor's software license revenue for the quarter grew by 23.2% to $19.3 million. Excluding CRS, Epicor's license revenue declined by 2.7% to $15.3 million, the Irvine, CA-based maker of ERP software said.
Epicor CEO and Chairman George Klaus blamed an internal audit into Epicor's revenue-recognition practices -- announced earlier this year -- for distracting Epicor's management and sales staff from executing on the company's operational plan during the quarter. The audit involved Epicor's practices for allocating software license and maintenance revenues.
The result of the audit was a new set of policies affecting how Epicor negotiates and contracts with its customers. Implementation of those policies, said Klaus in a conference call with financial analysts, required retraining of Epicor's sales force, which reduced its productivity during the quarter.
Epicor, for example, closed just one large deal -- with license revenues in excess of $500,000 -- during the quarter.
"There's no doubt that these efforts diverted time and focus from what would otherwise have been dedicated to building the business in the first quarter," Klaus said.
Epicor also had to devote first-quarter management attention to integrating the CRS business into the company. And, Klaus said, many large deals that normally would have been booked in the first quarter of this year ended up getting booked into the fourth quarter of last year, when the company's sales staff would benefit from higher bonus compensation.
Klaus said the sales staff retraining related to the new revenue-recognition policy has been completed. He predicted a strong performance for Epicor through the rest of 2006.
"I remain very bullish about Epicor's outlook for 2006 and beyond," Klaus said. "The middle-market ERP sector remains strong. We are seeing healthy levels of customer demand and spending from both new and existing customers. We believe we are well-positioned to continue to win in the high-growth mid-market ERP sector."
Epicor said it expects to meet previously stated 2006 full-year targets of $372 million to $377 million in revenues and non-GAAP earnings in the range of $40 million to $41 million. Full-year license revenue growth, however, will be impacted by the disappointing first-quarter results.
Epicor now expects full-year license revenue to grow by between 10% and 12% compared to 2005 levels. Prior to the first quarter, the company had targeted 15% license revenue growth for 2006.
A bright spot for Epicor came from the company's consulting business. Consulting revenues for the quarter grew by 47.5% to $25 million. The increase, Klaus said, was the result of the company's move at the end of last year to hire 20 new consultants in the first quarter to meet increased demand generated in part from customers implementing Epicor's new Vantage 8.0 software.
Epicor also reported that it is on track in attracting customers to the new Vantage release. The company has sold 300 licenses for the product, of which 120 are now in live production, up from 77 at the end of 2005. The company's next goal, Klaus said, is to get 2,000 current Epicor customers to upgrade to Vantage 8.0 in 2006.
MBS, meanwhile, in a small way contributed to Microsoft's strong revenue growth in the period, but its results were symptomatic of bottom-line concerns voiced by Wall Street analysts. Revenue in the period reached $10.9 billion, a 13% increase from the like period last year, fueled by strong results in the Redmond, WA software giant's desktop and server products.
Net income and diluted earnings per share for the third quarter came in at $2.98 billion and 29 cents a share, 2 cents less than consensus analyst estimates, according to Thomson First Call. That figure included three cents of legal charges, the company said. In the like period last year, Microsoft's net income and diluted earnings per share were $2.56 billion and 23 cents a share, which included five cents of legal charges.
The results spooked analysts on the conference call, who suggested the company was struggling to manage expenses amid a major product refresh -- the long-awaited Vista operating system which is expected to reach businesses later this year and consumers early next year, and Office 2007, which is expected to ship later this year.
Meanwhile, lower than expected guidance provided for the fourth quarter and fiscal 2007 fueled analyst speculation that increased spending reflected Microsoft's preparations for a battle with online antagonists Google and Yahoo. Liddell did little to mollify their concerns, pointing to a moderation in PC-related spending, which reiterated statements made earlier in the week by desktop dualopoly partner, Intel Corp. He also declined to specify where the company intended to increase spending.
Nevertheless, Liddell said Microsoft expects overall IT spending to remain healthy in the near term and "for Microsoft to participate in the spend."
For the June quarter, Microsoft expects operating income of between $4 billion and $4.2 billion, or 30 cents a diluted share, on revenues of between $11.5 billion to $11.7 billion.
For fiscal 2007, Microsoft projects operating income to be in the range of $18.7 billion to $19.3 billion, with diluted earnings per share of between $1.36 and $1.41, on revenues of between $49.5 billion and $50.5 billion.