Microsoft's major push to sign up every Android vendor to its patent licensing program is paying far higher dividends than its investment in its own mobile platform.
According to calculations by analysts at Nomura, the giant is making over $1.7 billion a year from licensing fees for the IPR it holds in Android, about half what it makes from Windows Phone, and with five times the profitability.
Analyst Rick Sherlund argues, in a client report seen by ZDnet, that Microsoft has been using the cash from Android fees to conceal losses from the actual products in its entertainment and devices division, which contains Windows Phone, but also the far higher impact platforms, Xbox and Skype. Sherlund estimates that, without the Android royalties, EDD would be losing about $2.5 billion a year, $2 billion from Xbox.
Although Windows Phone is slowly raising its market share – it broke double figures in Europe for the first time in the third quarter, according to Canalys – the gulf between its own profits and those from Android could actually widen in the short term. Nomura thinks WP will start to close the gap after the acquisition of Nokia's device business, though a lot of the profit from that deal will come from feature phones rather than WP. But in fiscal 2015, according to Sherlund's forecasts, the two operating systems will be generating similar profits.
Even that may be challenging to achieve when some other factors, not necessarily highlighted in the note, are taken into account. Microsoft's Android fees will rise with the continuing increase in the numbers of devices worldwide running the Linux-based OS, and with new licensees. Microsoft is still chasing additional “partners” for the patents it has in Google's OS. Google's own Motorola Mobility is the most famous stand-out, and the companies are engaged in various law-suits, but the Windows firm is also seeking deals with makers of non-handset Android devices, which are, of course, a growing pool to fish.
So its Android income should rise, and that's not to mention the potential outcome of activities by patents consortia in which Microsoft is involved, such as the Apple-driven Rockstar group, which acquired bankrupt Nortel's patents and is now suing Google and other Android players for alleged infringements.
And despite the slow but perceptible growth in Windows Phone shipments, Microsoft is reportedly offering very low, or even free, licensing fees to key partners, initially HTC, in return for a deeper commitment to its OS. And of course, it will soon acquire its largest WP licensee, Nokia's handset unit. The complex arrangement between the two companies involved considerable payments by Microsoft to its Finnish ally to support its WP developments, but in recent quarters, as Nokia's Lumia sales grew, the financial balance had apparently shifted in Microsoft's favor.
As Google knows, the real revenues from a mobile OS need to come from services, revenue shares and content, not from the software directly, and once Microsoft has control of Nokia's mobile devices division, it should put new momentum behind the creation of a broad content and web ecosystem around Windows Phone – that is, if it doesn't converge the mobile OS entirely with its larger-screen ARM-based stablemate, Windows RT.
Sherlund's calculations assume that Microsoft makes an average of $5 per unit on each Android device sold, and that it has about 70% of the total addressable market covered by its licensing deals. Previous estimates have put the fees somewhat higher – at between $5 and $15 per unit – though Microsoft has never revealed details of its licensing deals.
Nomura says that, in the third calendar quarter of 2012, when 122.5 million Android products shipped, Microsoft's Android royalties were $386 million. By the second quarter of 2013, that figure is thought to have risen to $489 million.
Assuming 90% gross margin, the analyst then calculates that Microsoft made $1.6 billion in the 2013 financial year, and will make $1.73 billion in fiscal 2014, and $1.82 billion in 2015.
By contrast, he thinks Windows Phone will bring in $3.3 billion in revenues this year, and gross profit of just $347 million. Those figures will rise to $8.4 billion in 2015, with gross profits of $1.6 billion, he forecasts, and he thinks the Nokia feature phones will bring in around $1 billion in gross profits by 2015.