It’s not ALL bad news for Microsoft

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It was hard to read Microsoft’s quarterly and year-end earnings report, released today, and not wince. The company took a $900 million write off for Surface RT “inventory adjustments.” Even for a company as big as Microsoft, that hurts.

That said, there were a couple of bright spots in the report.

One, surprisingly, was Windows Phone. It looks like Windows Phone carried the Entertainment and Devices Division. The group’s revenue was up $134 million in the quarter, or 8 percent, primarily due to Windows Phone revenue and despite lower Xbox 360 revenue.

There is a catch though. Microsoft said that Windows Phone revenue, up $222 million, reflects both the sales of Windows Phone licenses as well as patent licensing revenue. That makes it hard to know how much of that revenue actually comes from Windows Phone and how much comes from the booming Android market.

Microsoft has never confirmed exactly how much it makes in Android licensing but I've seen speculation ranging from half a billion to as much as $1 billion a year, and those estimates are based on Android sales from a couple of years ago. Regardless of the source, Windows Phone is a bright spot on the company’s earning sheet.

Another bit of good news comes from Office 365. The service is now on a $1.5 billion revenue annual run rate, Microsoft reported. That’s actually pretty impressive, given that it just hit $1 billion in the previous quarter.

Expanding Office 365 to both consumers and business users is an important play for Microsoft, which only recently began offering Office 365 to consumers. That’s because Office 365 integrates other services like SkyDrive, driving additional traction for Microsoft.

But Office 365 also comes with some costs for Microsoft. CFO Amy Hood referenced Office 365, along with other Microsoft services, as drivers for growing data center investments for the company. Still, that's a needed investment to respond to the shift in the market from software based products to online services.

Windows Phone and Office 365 were bright spots but the company still has to improve its Surface program to make up for a changing market that is eating into its Windows cash cow. The company is off to a poor start there.                                                             

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