A Cloudy Vista Clears

April 28, 2007 — -- There were doubts that Microsoft's massive investment in its new Vista operating system would pay off as quickly as the company expected it would.

Analysts sowed seeds of skepticism over the past few months, backed up by survey results suggesting that consumers and businesses were just not going to spend the money to upgrade to the first new computer operating system from the Redmond, Wash., software monolith.

But the company's bright first quarter results scattered all those clouds of doubt, which reflected a huge profit thanks to good uptake of Vista.

According to figures released by the company, revenue from sales of its operating system rose by 67 percent during the first three months of the year. Better than the 54 to 56 percent growth that Microsoft had been projecting.

For months, Wall Street was jittery because early reviews of the OS were mixed and the cost of upgrading to Vista was considered rather pricey.

But early adopters went out and bought licensed copies of the OS at retailers at its January launch, and new computers -- where about 95 percent of the machines come preloaded with a Microsoft operating system -- have been selling well.

"We saw continued strength in the underlying PC hardware market, which we estimate grew 10 to 12 percent during the quarter, a bit faster than we had expected," said Colleen Healy, general manager of investor relations at Microsoft, in an analyst call.

That increase in PC sales is what will drive sales of the new OS, analysts say. Tech early adopters -- a small but important group for retail sales of software -- are responsible for the early bump in sales and presales.

They were lured in by the promise of a next-generation computer operating system that has better security features and a more graphics intensive experience.

The new features come at a cost, though, requiring the basic machine to have 1 gig of memory, at least 40 gigabytes of free hard drive space and an advanced graphics card. Many of the computers sitting in users' homes and offices just are not compatible with Vista.

The biggest bump in sales for the new operating system comes when consumers and businesses buy new computers preloaded with Vista.

Back in February, many on Wall Street pointed to the big first weeks of Vista sales and ratcheted up expectations for Vista sales.

Microsoft's CEO Steve Ballmer warned that some analyst projections for sales of Vista were too aggressive. "There's a disconnect between what people think is the growth of the PC market and Vista growth," Ballmer told analysts at a conference on February 15.

He said analysts either needed to increase their projections for both the PC market and Vista sales, or realize that "the two things (PC growth and Vista sales) are out of whack."

Like many analysts, CIBC World Markets took Ballmer to heart and issued research notes for Microsoft shares in the weeks after his talk, citing the Vista sales expectations as being too high. Today, the CIBC analysts issued a research note titled "We Were Wrong."

"We never thought Vista was a bad product; we just thought expectations around how fast the PC market and Microsoft's Vista revenue would grow were disconnected," said Brad Reback, an analyst at CIBC World Markets. "That has been reconnected. I think Vista adoption will remain very much in line with overall PC adoption."

CIBC upgraded its rating for MSFT (Microsoft Corporation) shares to "Sector Performer."