Microsoft’s Surface and Xbox hardware revenues take a big hit in Q3

Microsoft just posted the third quarter of its 2024 fiscal financial results. The software maker made $61.9 billion in revenue and a net income of $21.9 billion during Q3. Revenue is up 17 percent, and net income has increased by 20 percent.

This is the second quarter in a row that Microsoft is including its additional revenue from its Activision Blizzard acquisition that briefly pushed gaming to be Microsoft’s third-largest business. This time around, gaming is back into fourth place behind Windows thanks to stronger than expected Windows OEM revenue this quarter.

Despite a strong quarter for Microsoft with Office revenue and Microsoft Cloud revenue up 23 percent year over year, Microsoft’s overall gaming revenues are only up thanks to Activision Blizzard, with Xbox hardware revenue tanking this quarter alongside devices (Surface) revenue also dropping once again.

This quarter, Windows OEM revenue is up 11 percent year over year, a surprise given Microsoft’s previous guidance that it would be relatively flat. This is the price that PC manufacturers pay to license Windows for laptops and PCs, and while it suffered in 2023, it has been picking up again throughout 2024. Microsoft is now hoping to boost its Windows OEM revenues over the summer, with the launch of what it calls “AI PCs” that are powered by Qualcomm’s latest Snapdragon chips.

We’re expecting Microsoft to unveil its own Surface devices running on Snapdragon X Elite and X Plus chips on May 20th at a special AI and Surface event. These new chips could be the biggest CPU shake-up since Apple Silicon if they’re able to deliver the performance and battery life balance that Qualcomm is promising.

Microsoft will be relying on this push, particularly on the Surface side. Once again, devices revenue has declined in Q3 by a massive 17 percent. Devices revenue has been down for well over 12 months now, despite new launches of Surface devices and Microsoft switching up its hardware portfolio amid layoffs. Microsoft now has a new Windows and Surface chief, after Panos Panay’s surprise departure to Amazon last year. Pavan Davuluri took over Windows recently after taking over Surface devices last year. Microsoft split up the Windows and Surface groups under two different leaders last year, but they’re back under a single leader now.

Over on the Xbox and gaming side, Xbox content and services revenue, which includes Xbox Game Pass, is up by 62 percent. This is once again thanks to Activision Blizzard revenues making up the bulk of revenue.

Microsoft revealed in February that Xbox Game Pass has now grown to 34 million subscribers, including the Xbox Game Pass Core (previously Xbox Live Gold) members. Four previously Xbox-exclusive games are now available on PS5, with some launching on Nintendo Switch, too.

This strategic shift is limited to these games for now, but it appears to be in response to a slowing of Xbox Game Pass growth and Xbox console sales. This quarter, Xbox hardware is down by a massive 31 percent, a big drop following a soft quarter for Xbox sales during the all-important holiday season last year. Microsoft admits the obvious in its earnings filing: that the big drop was “driven by lower volume of consoles sold.”

Overall, gaming revenue is up 51 percent, bolstered by the additional Activision Blizzard revenue, which contributed 55 points of net impact. That means without Activision Blizzard, Microsoft’s overall gaming revenue would have actually declined this quarter. The newly acquired division recorded $1.97 billion in revenue during Q3, but the cost of integration, transaction costs, and other costs of revenue all total $980 million. With other operating expenses ($1.34 billion), it calculates to an overall operating loss of $350 million for Activision Blizzard.

Xbox content and services would have only been up a single percent without Activision Blizzard, so it’s clear that this giant purchase is already having a big impact on Microsoft’s overall gaming revenues.

Microsoft’s Office and cloud businesses are once again the stars of the show, though. Office commercial products and cloud services revenue increased 13 percent year over year, and even office consumer is up 4 percent in revenue. Microsoft 365 consumer subscribers are up to 80.8 million now.

“This quarter Microsoft Cloud revenue was $35.1 billion, up 23% year over year, driven by strong execution by our sales teams and partners,” says Microsoft CFO Amy Hood. Server products and cloud services revenue at Microsoft is up 24 percent thanks to a growth of 31 percent year over year for Azure and other cloud services.

Investors are also looking to see signs of revenue from Microsoft’s big AI investments over the past year, especially on the Azure OpenAI side, where the company charges businesses to run AI tasks in the cloud. Of the 31 percent revenue growth for Azure and other cloud services, revenue from AI services contributed seven points — an early indicator for Microsoft’s potential revenues in AI.

Microsoft will now hold an earnings call at 5:30PM ET / 2:30PM PT, and we’ll update this article with any relevant comments from Hood or Microsoft CEO Satya Nadella.