The second quarter of fiscal 2016 ended with December 31st sent out some red flags for Microsoft, as the company reported a drop in overall GAAP revenue of 10 percent and a fall in GAAP operating income of 23 percent.
What is even more alarming is the fact that Microsoft had to turn to non-GAAP accounting and reporting for the quarter to improve the numbers, essentially adding its deferred revenue into the mix. Deferred revenue is the profit gained on services that are delivered to users over a certain period of time. In the case of Microsoft, this includes services such as Office 365. This type of income is considered a liability by GAAP accounting and is booked as such, and it is only considered earned once the service is delivered, be it as a whole or in part.
With GAAP revenue down to $23.8 billion and GAAP operating income at $6 billion, a drop of 10 and 23 percent respectively, the decision by Microsoft to include deferred revenue is perfectly understandable considering the fact that Microsoft is currently in mid transition to a more subscription based model of delivering software to its users.
Revenue Still Lower
The argument behind the decision is that Microsoft expects that once the first stage of transition is over, operations will return to their usual steady pace. This will then allow GAAP accounting once again, to give an appropriate picture of revenue, as the delivery of its products will be balanced with the receipt of income.
The main issue for Microsoft remains the fact that, despite utilizing non-GAAP accounting, the quarter ended December 31st still did not do that well. Revenue has dropped by 2 percent to $25.7 billion, while operating income went up, but only by 3 percent to $7.9 billion. The only scenario where the results look better is when constant currency corrections are calculated, which then brings revenue up by 3 percent, and increases operating income by 13 percent.