Amy Hood
EVP and CFO at Microsoft
Thank you, Satya, and good afternoon, everyone.
Our third quarter revenue was $61.9 billion, up 17% and earnings per share was $2.94, up 20%. Results exceeded expectations, and we delivered another quarter of double-digit top and bottom line growth with continued share gains across many of our businesses.
In our commercial business, bookings increased 29% and 31% in constant currency, significantly ahead of expectations, driven by Azure commitments with an increase in average deal size and deal length as well as strong execution across our core annuity sales motions.
In Microsoft 365 suite strength contributed to ARPU expansion for our Office commercial business, although new business growth continued to moderate for standalone products sold outside the Microsoft 365 suite. Commercial remaining performance obligation increased 20% and 21% in constant currency to $235 billion. Roughly 45% will be recognized in revenue in the next 12 months, up 20% year-over-year. The remaining portion recognized beyond the next 12 months increased 21%. And this quarter, our annuity mix increased to 97%.
In our consumer business, PC market demand was slightly better than we expected, benefiting Windows OEM, while advertising spend landed relatively in line with our expectations, In gaming, we also saw better-than-expected performance of Activision titles, benefiting Xbox content and services. At a company level, Activision contributed a net impact of approximately 4 points to revenue growth, was a 2-point drag on operating income growth and had a negative $0.04 impact to earnings per share.
A reminder, this net impact includes adjusting for the movement of Activision content from our prior relationship as a third-party partner to first party and also includes $935 million from purchase accounting adjustments, integration and transaction-related cost. FX did not have a significant impact on our results and was roughly in line with our expectations on total company revenue, segment level revenue, COGS and operating expense growth.
Microsoft Cloud revenue was $35.1 billion and grew 23%, ahead of expectations. Microsoft Cloud gross margin percentage decreased slightly year-over-year to 72%, a bit better than expected. Excluding the impact of the change in accounting estimate for useful lives, gross margin percentage increased slightly, driven by improvement in Azure and Office 365, even with the impact of scaling our Al infrastructure, partially offset by sales mix shift to Azure.
Company gross margin dollars increased 18% and gross margin percentage increased slightly year-over-year to 70%. Excluding the impact of the change in accounting estimate, gross margin percentage increased roughly 1 point even with the impact from the purchase accounting adjustments, integration and transaction-related costs from the Activision acquisition. Growth was driven by the improvement in Azure and Office 365, just mentioned, as well as sales mix shift to higher-margin businesses.
Operating expenses increased 10% with 9 points from the Activision acquisition. At a total company level, head count at the end of March was 1% lower than a year ago. Operating income increased 23% and operating margins increased roughly 2 points year-over-year to 45%. Excluding the impact of the change in accounting estimate, operating margins increased roughly 3 points, driven by the higher gross margin noted earlier and improved operating leverage through continued cost discipline.
Now to our segment results. Revenue from Productivity and Business Processes was $19.6 billion and grew 12% and 11% in constant currency, in line with expectations. Office Commercial revenue grew 13% and 12% in constant currency. Office 365 commercial revenue increased 15%, in line with expectations, driven by healthy renewal execution, ARPU growth from continued E5 momentum and early Copilot for Microsoft 365 progress.
Paid Office 365 commercial seats grew 8% year-over-year with installed base expansion across all customer segments. Seat growth was again driven by our small and medium business and frontline worker offerings, although growth continued to moderate in SMB.
Office Commercial Licensing declined 20% and 18% in constant currency, with continued customer shift to cloud offerings. Office consumer revenue increased 4%, slightly below expectations. Microsoft 365 subscriptions grew 14% to $80.8 million.
LinkedIn revenue increased 10% and 9% in constant currency, ahead of expectations, driven by slightly better-than-expected performance in our premium subscriptions and Talent Solutions businesses. However, in Talent Solutions, bookings growth continues to be impacted by the weaker hiring environment in key verticals.
Dynamics revenue grew 19% and 17% in constant currency, ahead of expectations. Growth was driven by Dynamics 365, which grew 23% and 22% in constant currency with continued growth across all workloads and better-than-expected new business, although bookings growth remains moderated. Segment gross margin dollars increased 11%, and gross margin percentage decreased slightly year-over-year. Excluding the impact of the change in accounting estimate, gross margin percentage increased slightly driven by improvement in Office 365.
Operating expenses increased 1% and operating income increased 17% and 16% in constant currency.
Next, the Intelligent Cloud segment. Revenue was $26.7 billion, increasing 21%, ahead of expectations with better-than-expected results across all businesses. Overall, Server products and cloud services revenue grew 24%. Azure and other cloud services revenue grew 31%, ahead of expectations, while our Al services contributed 7 points of growth as expected.
In the non-Al portion of our consumption business, we saw greater-than-expected demand broadly across industries and customer segments as well as some benefit from a greater-than-expected mix of contracts with higher in-period recognition. In our per user business, the enterprise mobility and security installed base grew 10% to over 274 million seats, with continued impact from the growth trends in new standalone business noted earlier.
In our on-premises server business, revenue increased 6%, ahead of expectations, driven by better-than-expected renewal strength, particularly for contracts with higher in-period revenue recognition. Enterprise and partner services revenue decreased 9% on a strong prior year comparable for enterprise support services. Segment gross margin dollars increased to 20% and gross margin percentage decreased slightly year-over-year. Excluding the impact of the change in accounting estimate [Technical Issues] percentage increased slightly, primarily driven by the improvement in Azure noted earlier, even with the impact of scaling our Al infrastructure, partially offset by sales mix shift to Azure.
Operating expenses increased 1% and operating income grew 32%.
Now to Personal Computing. Revenue was $15.6 billion, increasing 17%, with 15 points of net impact from the Activision acquisition. Results were above expectations, driven by better-than-expected performance in gaming and Windows OEM. Windows OEM revenue increased 11% year-over-year, ahead of expectations, primarily driven by the slightly better PC market noted earlier as well as mix shift to higher monetizing markets. Windows commercial products and cloud services revenue increased 13% and 12% in constant currency, below expectations, with impact from the growth trends in new stand-alone business noted earlier as well as lower in-period revenue recognition from a mix of contracts.
Devices revenue decreased 17% and 16% in constant currency as we remain focused on our higher-margin premium products. Overall, Surface demand was slightly lower than expected. Search and News advertising revenue ex TAC increased 12%, ahead of expectations, with continued volume growth and increased engagement on Bing and Edge. And in gaming, revenue increased 51% and 50% in constant currency with 55 points of net impact from the Activision acquisition. Results were ahead of expectations, primarily driven by Call of Duty.
Xbox content and services revenue increased 62% and 61% in constant currency with 61 points of net impact from the Activision acquisition. Xbox hardware revenue decreased 31% and 30% in constant currency. Segment gross margin dollars increased 27% and 26% in constant currency, with 13 points of net impact from the Activision acquisition. Gross margin percentage increased roughly 4 points year-over-year, primarily driven by sales mix shift to higher-margin businesses.
Operating expenses increased 41% with 43 points from the Activision acquisition. Operating income increased 16% and 15% in constant currency.
Now back to total company results. Capital expenditures, including finance leases, were $14 billion to support our cloud demand, inclusive of the need to scale our Al infrastructure. Cash paid for PP&E was $11 billion. Cash flow from operations was $31.9 billion, up 31%, driven by strong cloud billings and collections. Free cash flow was $21 billion, up 18% year-over-year, reflecting higher capital expenditures to support our cloud and Al offerings. This quarter, Other income and expense was negative $854 million, lower than anticipated, driven by losses on investments accounted for under the equity method. Our effective tax rate was approximately 18%.
And finally, we returned $8.4 billion to shareholders through dividends and share repurchases.
Now moving to our Q4 outlook, which unless specifically noted otherwise, is on a U.S. dollar basis. First, FX. Based on current rates, which reflect the recent strengthening of the U.S. dollar, we now expect FX to decrease total revenue and segment level revenue growth by less than 1 point. When compared to our January guide for Q4 FX, this is a decrease to total revenue of roughly $700 million. We expect FX to decrease COGS growth by approximately 1 point and operating expense growth by less than 1 point.
In commercial bookings, we expect solid growth on a relatively flat expiry base, driven by continued strong commercial sales execution. As a reminder, larger, long-term Azure contracts, which are more unpredictable in their timing, can drive increased quarterly volatility in our bookings growth rate. Microsoft Cloud gross margin percentage should decrease roughly 2 points year-over-year. Excluding the impact from the change in accounting estimate, Q4 cloud gross margin percentage will be down slightly as improvement in Azure, inclusive of scaling our Al infrastructure will be offset by sales mix shift to Azure.
We expect capital expenditures to increase materially on a sequential basis driven by cloud and Al infrastructure investments. As a reminder, there can be normal quarterly spend variability in the timing of our cloud infrastructure build-outs and the timing of finance leases. We continue to bring capacity online as we scale our Al investments with growing demand. Currently, near-term Al demand is a bit higher than our available capacity.
Next, to segment guidance. In Productivity and Business Processes, we expect revenue to grow between 9% and 11% in constant currency or USD19.9 billion to USD20.2 billion. In Office Commercial, revenue growth will again be driven by Office 365 with seat growth across customer segments and ARPU growth primarily through ES. We expect Office 365 revenue growth to be approximately 14% in constant currency. We continue to progress with adoption of CoPilot for Microsoft 365 and remain excited for the long-term growth opportunity.
In our on-premises business, we expect revenue to decline in the mid- to high teens. In Office Consumer, we expect revenue growth in the low to mid-single digits, driven by Microsoft 365 subscriptions. For Linkedin, we expect revenue growth in the mid- to high single digits driven by continued growth across all businesses. And in Dynamics, we expect revenue growth in the low to mid-teens, driven by Dynamics 365. For both Linkedin and Dynamics, the continued bookings growth moderation noted earlier is a headwind to Q4 revenue growth.
For Intelligent Cloud, we expect revenue to grow between 19% and 20% in constant currency or USD28.4 billion to USD28.7 billion. Revenue will continue to be driven by Azure, which, as a reminder, can have quarterly variability primarily from our per user business and in-period revenue recognition depending on the mix of contracts.
In Azure, we expect Q4 revenue growth to be 30% to 31% in constant currency or similar to our stronger-than-expected Q3 results. Growth will be driven by our Azure consumption business and continued contribution from Al with some impact from the Al capacity availability noted earlier.
Our per-user business should see benefit from Microsoft 365 suite momentum. Though we expect continued moderation in seat growth rates given the size of the installed base. In our on-premises server business, we expect revenue growth in the low to mid-single digits with continued hybrid demand, including licenses running in multi-cloud environments. And in Enterprise and Partner Services revenue should decline in the mid- to high single digits on a high prior year comparable for enterprise support services.
In more Personal Computing, we expect revenue to grow between 10% and 13% in constant currency or $15.2 billion to $15.6 billion. Windows OEM revenue growth should be in the low to mid-single digits as PC market unit volumes continue at prepandemic levels.
In Windows Commercial products and cloud services, customer demand for Microsoft 365 and our advanced security solutions should drive revenue growth in the mid-single digits. As a reminder, our quarterly revenue growth can have variability primarily from in-period revenue recognition depending on the mix of contracts. In Devices, revenue should decline in the mid-teens as we continue to focus on our higher-margin premium products. Search and news advertising ex TAC revenue growth should be in the low to mid-teens, driven by continued volume strength.
This will be higher than overall search and news advertising revenue growth, which we expect to be relatively flat. And in gaming, we expect revenue growth in the low to mid-40s, including approximately 50 points of net impact from the Activision acquisition. We expect Xbox content and services revenue growth in the high 50s driven by approximately 60 points of net impact from the Activision acquisition. Hardware revenue will decline again year-over-year.
Now back to company guidance. We expect COGS between $19.6 billion to $19.8 billion, including approximately $700 million from purchase accounting, integration and transaction-related costs from the Activision acquisition. We expect operating expense of $17.15 billion to $17.25 billion, including approximately $300 million from purchase accounting, integration and transaction-related costs from the Activision acquisition. Therefore, we now expect full year FY '24 operating margins to be up over 2 points year-over-year, even with our cloud and Al investments, the impact from the Activision acquisition and the headwind from the change in useful lives last year.
This operating margin expansion reflects the hard work across every team to drive efficiencies and maintain disciplined cost management, knowing we will continue to grow our cloud and Al investments next year. Other income and expense should be roughly negative $850 million as interest income will be more than offset by interest expense and losses on investments accounted for under the equity method. As a reminder, we are required to recognize gains or losses on our equity investments which can increase quarterly volatility. We expect our Q4 effective tax rate to be approximately 18%.
Now I'd like to share some closing thoughts as we look to the next fiscal year. We continue to focus on building businesses that create meaningful value for our customers and therefore, significant growth opportunities for years to come. In FY '25, that focus on execution should again lead to double-digit revenue and operating income growth. To scale to meet the growing demand signal for our cloud and Al products, we expect FY '25 capital expenditures to be higher than FY '24. These expenditures over the course of the next year are dependent on demand signals and adoption of our services. So we will manage that signal through the year.
We will also continue to prioritize operating leverage. And therefore, we expect FY '25 operating margins to be down only about 1 point year-over-year, even with our significant cloud and Al investments as well as a full year of impact from the Activision acquisition. We are leading the Al platform wave and are committed to bringing that value to our global customers as we enter the final quarter of our fiscal year.
With that, let's go to Q&A, Brett.
