Microsoft warns of Q2 profit shortfall

More bad news on the earnings front. The software titan warns that second-quarter earnings could be 6 percent lower than Wall Street had expected

Software giant Microsoft on Thursday joined the growing list of tech companies issuing profit warnings. The company said earnings for its 2001 fiscal second-quarter would be 5 percent to 6 percent lower than expected -- in the $6.4bn to $6.5bn (about £4bn) range. The company said earnings per share would be in the range of 46 cents to 47 cents.

A consensus of analysts was expecting 49 cents per share, according to First Call/Thomson Financial.

Microsoft also revised its full-year fiscal 2001 expectations, projecting about 5 percent less than anticipated. For the year, Microsoft estimates revenue between $25.2bn and $25.4bn and earnings per share in the $1.80 to $1.82 range.

The company's problems come largely from two factors. A slowdown in the PC market has lead to a corresponding decline in sales of the various versions of the Windows operating system. The bigger problem, however, is that sales of software applications such as Microsoft Office are off. Typically, large companies buy new versions of Office when they upgrade their computers or adopt a new version of Windows. Not only are PC sales slow, but corporations have adopted Windows 2000 at a slower rate than analysts had expected, leading to a ripple effect.

Microsoft is one of the more conservative companies when it comes to projecting future earnings. Thus, earnings warnings for the company are fairly rare.

In after-hours trading, Microsoft shares were trading at $51.88, a 6.5 percent drop from the closing price of $55.50. The stock is trading at less than half of its 52-week high of $119.93.

Signs of trouble had been brewing, starting with Goldman Sachs analyst Rick K. Sherlund's downgrade of Microsoft one week ago. Prudential Securities analyst Douglas J. Crook followed on Wednesday. "People were afraid of a profit warning and had been lowering their guidance accordingly," said analyst Laura Lederman at William Blair. "But apparently they didn't go low enough."

Gartner analyst Chris LeTocq said Microsoft is taking a hit in two major areas: sales of software to PC manufacturers and a slower-than-expected growth rate in software applications. "There is a direct reflection of the economic slowdown on PC manufacturers," he said. LeTocq noted that 46 percent of Microsoft's revenue comes from software applications, "and they're not doing anywhere as well as Microsoft expected."

But Microsoft's problems are not as simple as a slowdown in consumer PC sales. Windows 2000 adoption fell far short of the mark. "Windows 2000 hasn't accelerated at quite the rate that Microsoft wanted. It's picking up some speed right now, but certainly organisations we've seen have been very cautious," LeTocq said.

In fact, less than 10 percent of the Windows 95, 98, and NT users have been converted to Windows 2000, according to Gartner. In February, Gartner predicted that 15 percent to 20 percent would be converted by now.

The technology sector has been hit hard recently by earnings warnings. In the past two weeks, Apple Computer, Compaq Computer, Gateway, Intel, Motorola, and 3Com have all warned of earning shortfalls for their current quarters.

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