Microsoft's Surface Sales Rebound

Early sales numbers for last year's launch of Microsoft's much-hyped and well-advertised Windows 8 tablet/laptop hybrid were awful, but the latest report suggests the tide may be turning.

Jan 29, 2014 at 8:34AM

While PC sales continue to fall, Microsoft (NASDAQ:MSFT) appears to be well on its way to creating a market for its Surface hybrid tablet/notebooks. The company, which is still searching for a new CEO, reported second-quarter results last week, and though signs of weakness remain, the Surface has rebounded from its near-disastrous launch in October 2013.

The company reported during a conference call that Surface revenue more than doubled to $893 million, up from $400 million in the first quarter, according to CNET. And, while the article reports that Microsoft is still losing money on the Windows 8 device, the Surface roll-out was about entering a new product space and competing with Apple's (NASDAQ:AAPL) iPad and the various Android tablet-makers, including Google (NASDAQ:GOOGL) and Samsung.

"We launched Surface to create a product that showcased what can happen when you innovate in hardware … and software," said Amy Hood, Microsoft's chief financial officer, during the call. "We learned a lot over the course of this journey. We have to make more meaningful progress."

Microsoft knows PCs are dying

Microsoft has for years minted money by having its Windows software included on computers made and sold by a variety of third parties. The deal was pretty sweet. Since the widespread acceptance of the PC in the 1980s, sales climbed steadily and Microsoft made money from Windows on each computer sold. The company also profited from its Office suite of products, which were essentially required for anyone who bought a Windows-based PC.

Before the rise of the non-PC, Internet-connected device, Microsoft had a near monopoly, with only Apple's niche PC audience and the handful of techies who used Linux as outliers. As recently as 2009 and 2010, personal computer sales were still rising. Numbers even eked out a small increase in 2011, but by 2012, PC sales fell for the first time in 11 years.

In 2012, the bottom truly began to fall out of the market. As research firms Gartner and IDC said, "worldwide PC shipments fell 10%...the worst-ever sales slump for the industry."

Blame tablets

In 2012, IDC reported that the iPad had a 43.6% market share, shipping 22.9 million units in the fourth quarter alone. Total tablet sales increased 74.3%. More importantly, the research company also predicted that it "expects tablet shipments to surpass desktop PCs in 2013, and portable PCs in 2014." IDC also said, as reported by Tech Crunch, that it expects tablet market share to continue to grow through 2017 while desktop and portable PC sales will continue to fall.

Basically, the Surface is Microsoft's hedge against these declines. And while the device did not have immediate success, the company ended 2013 with around $83.9 billion in cash on hand-- more than enough to lose a few bucks on the way to establishing the brand. And though IDC reports that Microsoft has only 3.2% of the tablet market , that share is rising. Losing around $40 million in 2013 on Surface is roughly the equivalent of dropping a nickel on your way to learn that you're getting promoted and a huge bonus.

Microsoft can wait

While the stock market has punished Microsoft for taking the long approach compared to the flashier strategies of Apple and Google, having huge piles of cash means you can afford to be patient. Surface fills a need. It's a laptop and a tablet that works well for business and reasonably well for traditional tablet uses like watching movies or playing games. Microsoft is not BlackBerry, which launched its Playbook tablet with huge hype only to see it fail and further drag the company toward its death. Microsoft has the money, time, and long-range vision to turn a failure into a slowly nurtured success.

Microsoft, as you can see in its current round of commercials where the company touts a wide range of Windows 8-powered devices, can slowly develop an audience for Surface while also licensing Windows 8 for tablets, laptops, and hybrids from a variety of third parties. This won't stop the decline of PCs, which Gartner expects have bottomed out, but, it will give Microsoft a hedge against those falling sales and keep Windows revenue chugging in. 

The next step

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Fool contributor Daniel Kline  is long Microsoft. The Motley Fool recommends Apple and Google. The Motley Fool owns shares of Apple, Google, and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

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KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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