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SEATTLE, Apr 28 (Reuters) Microsoft Corp. posted a 16 percent rise in quarterly profit on Thursday but missed Wall Street expectations and set a disappointing profit target due to increased costs on products from Windows to the new Xbox 360 game console.

Shares in the world's largest software maker fell 6 percent in after-hours trade after Microsoft said earnings will be hurt by increased investments for its software services business, accelerated Xbox 360 game console shipments and higher costs ahead of crucial new product releases.

Microsoft also predicted personal computer and server computer sales growth would slow in the fiscal year starting July 1. The company plans in the upcoming fiscal year to ship upgrades to its mainstay Windows operating system and Office business software suite.

''Guidance for next year was lighter than anticipated, especially due to the upcoming product release cycle,'' said Kim Caughey, equity analyst at Fort Pitt Capital Group. ''Microsoft often sets the bar low for itself.'' Microsoft posted a net profit of $2.98 billion, or 29 cents per share, in its fiscal third quarter ended March 31, compared to $2.56 billion, or 23 cents per diluted share, a year earlier. Revenue rose 13 percent to $10.9 billion.

Excluding legal charges, Microsoft said it earned 31 cents per share. Analysts, on average, had forecast earnings of 33 cents per share on revenue of $11.04 billion, according to Reuters Estimates.

Microsoft Chief Financial Officer Chris Liddell said the higher costs and investments may weaken earnings and profit margins in the short term, but argued they are important for long-term growth.

''We have made a strategic decision with respect to next year that, given the set of opportunities and the revenue growth potential we see, we're willing to make that trade-off,'' Liddell said in a conference call with analysts.

Redmond, Washington-based Microsoft provided its first outlook for the coming fiscal year starting July 1. It sees diluted earnings per share to range between $1.36 and $1.41 on revenue of $49.5 billion to $50.5 billion next year.

Wall Street analysts called for earnings per share excluding special charges of around $1.53 in fiscal 2007 on sales of $49.5 billion, according to Reuters Estimates.

WALL STREET FREAKS OUT After decades of selling software out of a box to run on PC desktops, Microsoft aims to deliver more software over the Web supported by advertising or subscriptions to compete with the likes of Google Inc., Yahoo Inc. and Salesforce.com.

''The Street freaked out about Microsoft spending a lot more money to invest in its service offerings,'' said Morningstar equity analyst Toan Tran. ''It is definitely necessary that Microsoft make these investments, because over the next decade the way software is distributed will change drastically.'' Last month, the company pushed back the retail delivery for the new version of its Windows operating system, Vista, and business software suite Office 2007 until Jan. 2007. Analysts expect PC demand to soften in the coming quarters ahead of the upgrades.

''We're probably looking at a slightly more conservative PC picture next year overall,'' Liddell told Reuters in an interview.

Sales of Xbox 360 surged in the past quarter, but the gain came with higher costs. Microsoft said it wanted to increase the machine's user base before rival Sony Corp. introduces its PlayStation 3 console later this year.

The company lifted the bottom of the Xbox 360 sales target range for the year ending June 30 to 5.0 million to 5.5 million units from an earlier range of 4.5 million to 5.5 million.

For the current fourth quarter, Microsoft forecast diluted earnings per share to be around 30 cents on revenue between $11.5 billion and $11.7 billion versus analysts' outlook for 34 cents per share on sales of $11.67 billion.

The new Windows and Office, along with the Xbox 360, are central to Microsoft's efforts to revive a stock that has underperformed every major index since the start of 2002.

Microsoft shares had been trading at 18 times next year's estimated earnings while other blue-chip companies in the Dow Jones Industrial average are trading at average of around 14 times projected forward earnings.

Prior to the earnings announcement, the stock closed up 15 cents at $27.25 on the Nasdaq. The stock fell $1.63 to $25.62 in after hours trade.

REUTERS CS PM0942