Microsoft 2Q Income Drops 13%Microsoft 2Q Income Drops 13%

Microsoft's net income fell 13% during the second quarter ended Dec. 31, and earnings the second half of the year will fall short of analysts' predictions, as PC sales continue to slump. The results and outlook show how dependent Microsoft remains on PC software--which contributed nearly 65% of sales during the quarter--as the company reinvents itself around distributed Internet applications.

Net income declined to $2.28 billion in the second quarter, compared with $2.62 billion a year ago. Earnings per share of 41 cents missed analysts' consensus estimate of 43 cents per share. Excluding a charge of $660 million to settle class-action lawsuits against the company, earnings would have been 49 cents per share, Microsoft said. Net revenue increased 18% to $7.74 billion, as the company benefited from 17 million copies of Windows XP sold at retail and preinstalled on new PCs, and from 1.5 million units of its new Xbox video game system.

But PC sales remain Microsoft's bread and butter. Desktop apps contributed $2.45 billion in revenue during the quarter, a 1.6% drop from a year ago. Desktop versions of Windows accounted for $2.55 billion in sales, up 24%. But PC shipments dropped about 5% during the second quarter, a little worse than the company expected. More customers moved to annuity licenses during the quarter, causing Microsoft to defer some revenue. And the overall PC market remains unhealthy, on track for a percentage decline in the mid-single digits this fiscal year, CFO John Connors said during a conference call Thursday.

"The global PC market continued to deteriorate in the December quarter," Connors said. "We do not think we are in a recovery leading to growth in the near future ... The second half of 2002 will continue to be weak." Slow sales of Microsoft Office in Japan also hurt performance during the quarter. In addition, Microsoft's enterprise server and consulting business grew a modest 4% during the period.

Shares of Microsoft closed up $1.99 Thursday, to $69.86.

Looking ahead, Microsoft expects to earn 50 cents or 51 cents per share during the third quarter ending March 31, on sales of $7.3 billion to $7.4 billion. Analysts were expecting lower earnings, but higher sales. For fiscal 2002, which ends in June, Microsoft expects to earn $1.57 to $1.60 per share, on revenue of $28.8 billion to $29.1 billion. Analysts expected earnings of $1.83 a share on revenue of $28.6 billion. Says Connors, "The PC business is great for Microsoft in the long term, but it does not appear that the current challenges have passed."