Microsoft Proves Its Tablet Can Do Better, But the Job's Not Done

The past few years haven't been kind to Microsoft's (NASDAQ: MSFT  ) tablet ambitions. The company has been playing a game of catch-up with Apple's iPads and the plethora of Android tablets on the market, and just last summer Microsoft had a $900 million writedown on unsold Surface RT inventory.

Source: Microsoft.

But the company's fiscal second-quarter results showed that both Surface units sold and revenue more than doubled sequentially. To be sure, that's promising news for Microsoft investors, but there's still much more to be done.

More than just a showcase
Microsoft has said many times that it introduced the Surface to show what its Windows operating system is capable of in a tablet environment, and in the latest earnings call it reiterated that idea.

"When we launched Surface just a ago year ago, our goal was really to create a product that showcased what can happen when you innovate your hardware in the service and in the software," Amy Hood, Microsoft's executive vice president and chief financial officer, said during the call this week.

Her response came after an analyst from Stifel Nicolaus mentioned that the company was still losing money on the Surface tablets, despite the $893 million in revenue in the fiscal second quarter. Microsoft's cost of revenue for the Surface tablets was $932 million for the quarter -- a difference of $39 million.

Hood did mention that while the company has learned a lot from launching the Surface line, "We have to make more meaningful progress." Agreed.

While Microsoft may say its Surface tablets are a showcase, investors see them as much more than that, particularly when they are costing the company money. 

The path to further progress
The next step for Microsoft is an obvious one: close the quarterly gap between the cost of Surface tablets and the revenue they provide -- and do it on an ongoing basis.

One thing Microsoft had working for it last quarter was the boost that Surface tablets got from the holiday shopping season. In addition, Microsoft launched the new Surface 2 and Surface Pro 2 just prior to the beginning of the quarter, which helped increase demand for the tablets. In the current quarter, Microsoft will have neither the holiday season nor the hype of a redesigned product.

Microsoft will have to rely strictly on its operating system to sell tablets over the next few months, and that should be worrisome. Windows 8 hasn't garnered a whole lot of positive reviews and the next iteration of Windows isn't expected until April of next year. With Microsoft on its second version of the Surface, and after years of having no tablet presence whatsoever, the company will need more than just one upbeat quarter to turn things around.

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Comments from our Foolish Readers

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  • Report this Comment On January 26, 2014, at 12:46 PM, emilykulish wrote:

    The analyst asked that question is stupid. It is a platform war. Losing some money in short term is not anything to worry about. With a quarterly revenue of $893 million, losing 39 million is only about 4% of net loss; considering Surface has a gross revenue of about 40%, Microsoft just need to move a little more units to be profitable.

    And many analysts are very biased. When Amazon launched Kindle 5, it had about 0% gross margin; when Google launched Nexus tablets, it had about 0% gross margin. Today, Microsoft is selling more Surface tablets than all Chromebooks combined (yes, Samsung + Acer + Google + HP + Lenovo), and likely it has surpassed Nexus tablets in terms of units; in terms of revenue, it is way ahead of Nexus considering Surface is significantly more expensive.

    Lastly, Microsoft just need to launch 8" Surface tablet to double its market share!

  • Report this Comment On January 26, 2014, at 12:48 PM, emilykulish wrote:

    "considering Surface has a gross revenue of about 40%": should be "gross margin of about 40%"

  • Report this Comment On January 26, 2014, at 10:21 PM, techy46 wrote:

    I think someone smarting the author and me once said give away the razor and sell the blades. I'll bet each 1-2 Surface buyers generate an annual Office 365 subscription for $99 a year or $9.99 month plus I don't think Fools or Wall Street really know what it costs to build Surface models.

  • Report this Comment On January 26, 2014, at 11:07 PM, MasterIT wrote:

    Well considering Best Buy was selling Surface RT during the holidays @ $199.00 , its no wonder that sales doubled. Unless they are going to continue to sell units at that price point I would say this is just a spike and not a trend in sales.

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Chris Neiger

Chris has covered Tech and Telecom companies for The Motley Fool since 2012. Follow him on Twitter for the latest tech stock coverage.

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