Microsoft Corp reported a dip in quarterly sales of its core Windows operating system, mirroring a recent downturn in personal computers and sending its shares down slightly.

The world's largest software company met Wall Street profit estimates after strong sales of its Office suite of applications and Xbox game systems took up the slack.

But its stock has waned in past weeks, spooked by a dip in PC sales -- which generate most of its revenue -- and by fears the Apple Inc iPad and other mobile devices will eventually erode the PC business.

Microsoft's shares fell 1.2 percent to $26.37 in after-hours trading following the earnings report on Thursday.

Microsoft to me is no longer a growth stock, but it is a very attractive value stock. They continue to generate tremendous free cash flow. Their balance sheet is really unmatched, said Channing Smith, co-manager of the Capital Advisors Growth Fund.

What you will begin to see is a shift away from growth investors. You are seeing that transition where Microsoft is in no man's land, but I think they will become increasingly more attractive to value investors.

Microsoft has sold a record-breaking 350 million licenses for its Windows 7 operating system since launching it 18 months ago, but demand appears to be waning in an uncertain economy.

PC sales -- the engine guiding Microsoft's financial success -- fell 1 percent in the first three months of the year, according to one research firm.

CFO Peter Klein told Reuters in a phone interview the company expects corporate spending on PCs to outpace consumer PC sales through the next 12 months. He acknowledged that sales of low-end netbooks were suffering particularly, partly because of the success of tablets and other mobile devices.

The concern is PC markets are being disrupted. There's some validity, said BGC Financial analyst Colin Gillis. But it's also overblown when you factor in that Windows 7 is the fastest-selling OS in history.

CAN DO WRONG?

The company co-founded by billionaire Bill Gates has exceeded Wall Street's expectations in seven straight quarters -- but its stock remains at 2001 levels. Investors fear that new gadgets, led by the iPad, are the thin end of the wedge that will one day separate Microsoft from its core customers.

Microsoft shares are down 14 percent over the past 12 months, compared with a 16 percent gain in the Nasdaq.

Longer term, some see the new devices as unleashing a genie that Microsoft may never be able to put back in the bottle.

Microsoft notched a 31 percent increase in fiscal third-quarter net profit, reporting $5.2 billion, or 61 cents per share, compared with $4 billion, or 45 cents per share, in the year-ago quarter. Five cents per share of that profit was attributed to a one-time tax benefit.

Excluding the tax benefit, profit met the 56 cents expected by Wall Street analysts, according to Thomson Reuters I/B/E/S.

Despite the dip in the Windows unit, overall sales rose 13 percent to $16.4 billion, ahead of the $16.2 billion expected by analysts, helped by sales of Office and its Xbox game system and Kinect add-on.

Sales at its Windows unit fell 4 percent to $4.4 billion, but that was offset by a 21 percent increase at the Office unit to $5.2 billion, as people continued to buy copies of the new Office 2010, released last year.

The entertainment and devices unit -- which makes the Xbox and phone software -- posted a 60 percent increase in sales to $1.9 billion, mostly due to the success of the Kinect motion-sensor, launched last November.

The online services unit, which runs the Bing search engine and MSN web portal, raised revenue 14 percent to $648 million, but it still made a loss of $726 million in the quarter as Microsoft continued to step up efforts to challenge Google Inc in Internet search. The unit has now lost $7 billion in four years.

Microsoft said its agreement to power Yahoo Inc Internet searches by Bing was still not bringing the results it had hoped for, with revenue per search below expectations. That echoed similar remarks by Yahoo last week.

Microsoft stock is now trading at 9.6 times expected earnings for the next 12 months. That is half the stock's 10-year average and below the 13 times average for major tech companies.

Even its 2.5 percent dividend yield, which lags only Intel Corp's among big tech, is not enough to persuade investors to change their outlook.

The question to ask is: is there any product line in Microsoft that they are not playing catch-up on? asked Trip Chowdhry at Global Equities Research

(Editing by Gary Hill, Bernard Orr)

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