Where you once analyzed Microsoft (NASDAQ:MSFT) the way you would a video game company - each hardware sale includes software, add applications, multiply by sales prices - you will now need to look at it more the way you would a cable television company.
That is the real significance of Windows 10, which Microsoft calls the last version of the operating system. People will no longer buy Windows. They will rent it.
Here's what it means financially. While Microsoft had $26.47 billion in revenue for the fourth quarter of 2014, and $21.73 billion in the first quarter of 2015, you should over time see lighter revenues in each Christmas quarter and more in the first quarter, depending on when Microsoft and consumers agree to charges - monthly or annually. Profits also should become even more predictable, with the company expecting them to average 25% of revenue.
As Seth Godin noted in his classic book Permission Marketing nearly two decades ago, Microsoft is no longer seeking "transaction permission" from its vast user base, but a "personal relationship," the kind of thing you have with a magazine or your cable company. Eventually it's seeking the ultimate form of permission, "intravenous permission," the kind of permission you give the electric company when you turn the lights on, and the kind you give the hospital when you're brought in after a car wreck.
This is important when looking at Microsoft's financials, which have tended to rise and fall with product announcements and introductions. Now, introductions of new capability will be seamless, and revenue will be continuous. The same will be true of its Azure cloud. Customers will rent both space and capabilities.
The result should be a more regular, and far less seasonal, earnings and revenue picture. The fourth quarter will no longer be boosted by Christmas, but on the other hand the second quarter won't be hurt by summer. People will still be paying for their software.
This doesn't just apply to Windows or tools like Microsoft Word. It already applies to Sharepoint and other enterprise tools, many of which have always had higher price points than its consumer products. It is slowly being extended to video games, which are increasingly played online rather than delivered on disk.
This sort of brings the software business full circle. Software has never really been "sold." Even if you get it on a disk, it's subject to a "license," where there's no warranty and the producer can limit use. But this was how all software was offered from the 1940s to the mid-1970s it was licensed as tied to the machine or tied to the producer, for a regular, recurring fee that paid for regular updates.
In other words, it was the PC era that was the aberration. We're now back to where we were before.
There are two risks here.
- Microsoft is going to be increasingly dependent on branding to win customers. Microsoft is a major brand, but many believe its value has been eclipsed in recent years by companies like Apple (NASDAQ:AAPL).
- Online subscriptions have been pressed toward free for years by the Internet. This is true both in games and in applications, where Google (NASDAQ:GOOG) (NASDAQ:GOOGL) has been offering prices that start at free for years.
This is not news as in being unexpected. Microsoft has been signaling this business model change for some time and implementing it across the product line. But now it's moving to the heart of its business - the consumer and small business market. Investors should start seeing it in the company's quarterly numbers soon.
Disclosure: The author is long AAPL, GOOGL.
The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.