Quarterly Report


 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended March 31, 2017

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period From            to

Commission File Number: 001-37845

 

MICROSOFT CORPORATION

(Exact name of registrant as specified in its charter)

 

 

Washington

 

91-1144442

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

 

One Microsoft Way, Redmond, Washington

 

98052-6399

(Address of principal executive offices)

 

(Zip Code)

(425) 882-8080

(Registrant’s telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes   No 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes   No 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer 

 

Accelerated filer 

Non-accelerated filer  (Do not check if a smaller reporting company)

 

Smaller reporting company 

Emerging growth company 

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes   No

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class

 

Outstanding at April 21, 2017

 

 

 

 

 

Common Stock, $0.00000625 par value per share

 

 

7,720,514,731 shares

 

 

 

 

 

 


 

MICROSOFT CORPORATION

FORM 10-Q

For the Quarter Ended March 31, 2017

INDEX

 

 

 

Page

PART I.

FINANCIAL INFORMATION

 

 

 

 

 

 

Item 1.

Financial Statements

 

 

 

 

 

 

 

 

a)

Income Statements for the Three and Nine Months Ended March 31, 2017 and 2016

3

 

 

 

 

 

 

 

b)

Comprehensive Income Statements for the Three and Nine Months Ended March 31, 2017 and 2016

4

 

 

 

 

 

 

 

c)

Balance Sheets as of March 31, 2017 and June 30, 2016

5

 

 

 

 

 

 

 

d)

Cash Flows Statements for the Three and Nine Months Ended March 31, 2017 and 2016

6

 

 

 

 

 

 

 

e)

Stockholders’ Equity Statements for the Three and Nine Months Ended March 31, 2017 and 2016

7

 

 

 

 

 

 

 

f)

Notes to Financial Statements

8

 

 

 

 

 

 

 

g)

Report of Independent Registered Public Accounting Firm

33

 

 

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

34

 

 

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

49

 

 

 

 

 

 

Item 4.

Controls and Procedures

50

 

 

 

 

 

PART II. 

OTHER INFORMATION

 

 

 

 

 

 

 

Item 1.

Legal Proceedings

51

 

 

 

 

 

 

Item 1A.

Risk Factors

51

 

 

 

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

60

 

 

 

 

 

 

Item 6.

Exhibits

61

 

 

 

 

 

SIGNATURE

62

 

 

 

2


PART I

Item 1

PART I. FINANCI AL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

INCOME STATEMENTS

 

(In millions, except per share amounts) (Unaudited)

 

Three Months Ended
March 31,

 

 

Nine Months Ended
March 31,

 

 

 

 

 

 

 

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

 

 

 

 

 

Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

$

  13,391

 

 

$

14,321

 

 

$

43,421

 

 

$

47,514

 

Service and other

 

 

8,699

 

 

 

6,210

 

 

 

23,212

 

 

 

17,192

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

 

  22,090

 

 

 

20,531

 

 

 

66,633

 

 

 

64,706

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenue:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

 

  3,075

 

 

 

  3,801

 

 

 

  12,034

 

 

 

  14,104

 

Service and other

 

 

4,985

 

 

 

3,921

 

 

 

13,771

 

 

 

10,697

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cost of revenue

 

 

8,060

 

 

 

7,722

 

 

 

25,805

 

 

 

24,801

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross margin

 

 

14,030

 

 

 

12,809

 

 

 

40,828

 

 

 

39,905

 

Research and development

 

 

3,355

 

 

 

2,980

 

 

 

9,523

 

 

 

8,842

 

Sales and marketing

 

 

3,879

 

 

 

3,406

 

 

 

11,183

 

 

 

10,699

 

General and administrative

 

 

1,202

 

 

 

1,140

 

 

 

3,126

 

 

 

3,262

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

 

5,594

 

 

 

5,283

 

 

 

16,996

 

 

 

17,102

 

Other income (expense), net

 

 

322

 

 

 

(247

)

 

 

608

 

 

 

(698

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

5,916

 

 

 

5,036

 

 

 

17,604

 

 

 

16,404

 

Provision for income taxes

 

 

1,115

 

 

 

1,280

 

 

 

2,913

 

 

 

2,728

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

4,801

 

 

$

3,756

 

 

$

14,691

 

 

$

13,676

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.62

 

 

$

0.48

 

 

$

1.89

 

 

$

1.72

 

Diluted

 

$

0.61

 

 

$

0.47

 

 

$

1.87

 

 

$

1.70

 

 

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

7,725

 

 

 

7,895

 

 

 

7,756

 

 

 

7,952

 

Diluted

 

 

7,813

 

 

 

7,985

 

 

 

7,840

 

 

 

8,041

 

 

 

 

 

 

 

 

 

 

 

Cash dividends declared per common share

 

$

0.39

 

 

$

0.36

 

 

$

1.17

 

 

$

1.08

 

 

 

 

See accompanying notes.

 

 

3


PART I

Item 1

COMPREHENSIVE IN COME STATEMENTS

 

(In millions) (Unaudited)

 

Three Months Ended
March 31,

 

 

Nine Months Ended
March 31,

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

 

 

 

 

 

Net income

 

$

  4,801

 

 

$

  3,756

 

 

$

  14,691

 

 

$

  13,676

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net unrealized gains (losses) on derivatives (net of tax effects of $1 , $(30), $(1) , and $(2))

 

 

(225

)

 

 

(285

)

 

 

18

 

 

 

(277

)

Net unrealized gains (losses) on investments (net of tax effects of $34 , $186, $(457) , and $(36))

 

 

65

 

 

 

345

 

 

 

(846

)

 

 

(66

)

Translation adjustments and other (net of tax effects of $0 , $3, $7 , and $(18))

 

 

292

 

 

 

7

 

 

 

(65

)

 

 

(339

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss)

 

 

132

 

 

 

67

 

 

 

(893

)

 

 

(682

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

4,933

 

 

$

  3,823

 

 

$

  13,798

 

 

$

12,994

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes.

 

 

4


PART I

Item 1

BALANCE SHEETS

 

(In millions) (Unaudited)

 

 

 

 

 

 

 

 

 

 

March 31,
2017

 

 

June 30,
2016

 

 

 

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

6,713

 

 

$

6,510

 

Short-term investments (including securities loaned of $4,462 and $204)

 

 

119,305

 

 

 

106,730

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cash, cash equivalents, and short-term investments

 

 

126,018

 

 

 

113,240

 

Accounts receivable, net of allowance for doubtful accounts of $302 and $426

 

 

12,882

 

 

 

18,277

 

Inventories

 

 

1,979

 

 

 

2,251

 

Other

 

 

5,434

 

 

 

5,892

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current assets

 

 

146,313

 

 

 

139,660

 

Property and equipment, net of accumulated depreciation of $22,992 and $19,800

 

 

21,962

 

 

 

18,356

 

Equity and other investments

 

 

7,381

 

 

 

10,431

 

Goodwill

 

 

34,668

 

 

 

17,872

 

Intangible assets, net

 

 

10,547

 

 

 

3,733

 

Other long-term assets

 

 

4,146

 

 

 

3,416

 

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

  225,017

 

 

$

  193,468

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

6,217

 

 

$

6,898

 

Short-term debt

 

 

7,187

 

 

 

12,904

 

Current portion of long-term debt

 

 

599

 

 

 

0

 

Accrued compensation

 

 

4,604

 

 

 

5,264

 

Income taxes

 

 

654

 

 

 

580

 

Short-term unearned revenue

 

 

26,518

 

 

 

27,468

 

Securities lending payable

 

 

201

 

 

 

294

 

Other

 

 

6,025

 

 

 

5,949

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current liabilities

 

 

52,005

 

 

 

59,357

 

Long-term debt

 

 

76,222

 

 

 

40,557

 

Long-term unearned revenue

 

 

9,215

 

 

 

6,441

 

Deferred income taxes

 

 

465

 

 

 

1,476

 

Other long-term liabilities

 

 

17,381

 

 

 

13,640

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities

 

 

155,288

 

 

 

121,471

 

 

 

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Common stock and paid-in capital—shares authorized 24,000; outstanding 7,723 and 7,808

 

 

68,554

 

 

 

68,178

 

Retained earnings

 

 

531

 

 

 

2,282

 

Accumulated other comprehensive income

 

 

644

 

 

 

1,537

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

 

69,729

 

 

 

71,997

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

225,017

 

 

$

193,468

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes.

 

 

5


PART I

Item 1

CASH FLOWS STATEMENTS

 

(In millions) (Unaudited)

 

Three Months Ended

March 31,

 

 

Nine Months Ended

March 31,

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

 

 

 

 

 

Operations

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

4,801

 

 

$

3,756

 

 

$

14,691

 

 

$

13,676

 

Adjustments to reconcile net income to net cash from operations:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation, amortization, and other

 

 

2,453

 

 

 

1,707

 

 

 

6,435

 

 

 

4,712

 

Stock-based compensation expense

 

 

883

 

 

 

672

 

 

 

2,353

 

 

 

2,004

 

Net recognized losses (gains) on investments and derivatives

 

 

(590

)

 

 

65

 

 

 

(1,553

)

 

 

216

 

Deferred income taxes

 

 

(777

)

 

 

351

 

 

 

(1,349

)

 

 

177

 

Deferral of unearned revenue

 

 

15,995

 

 

 

13,073

 

 

 

42,719

 

 

 

36,066

 

Recognition of unearned revenue

 

 

  (14,941

)

 

 

  (12,210

)

 

 

  (41,490

)

 

 

  (35,494

)

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable

 

 

1,487

 

 

 

2,288

 

 

 

5,950

 

 

 

5,546

 

Inventories

 

 

(16

)

 

 

241

 

 

 

249

 

 

 

408

 

Other current assets

 

 

(25

)

 

 

(420

)

 

 

318

 

 

 

(1,914

)

Other long-term assets

 

 

(26

)

 

 

7

 

 

 

(298

)

 

 

58

 

Accounts payable

 

 

(425

)

 

 

(129

)

 

 

(769

)

 

 

105

 

Other current liabilities

 

 

742

 

 

 

626

 

 

 

(1,148

)

 

 

(1,293

)

Other long-term liabilities

 

 

1,099

 

 

 

340

 

 

 

2,394

 

 

 

594

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from operations

 

 

10,660

 

 

 

10,367

 

 

 

28,502

 

 

 

24,861

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Proceeds from issuance (repayments) of short-term debt, maturities of 90 days or less, net

 

 

(1,302

)

 

 

2,622

 

 

 

(8,447

)

 

 

481

 

Proceeds from issuance of debt

 

 

547

 

 

 

25

 

 

 

42,593

 

 

 

13,274

 

Repayments of debt

 

 

(211

)

 

 

(900

)

 

 

(4,554

)

 

 

(2,771

)

Common stock issued

 

 

179

 

 

 

159

 

 

 

551

 

 

 

495

 

Common stock repurchased

 

 

(2,062

)

 

 

(3,857

)

 

 

(10,023

)

 

 

(12,292

)

Common stock cash dividends paid

 

 

(3,012

)

 

 

(2,842

)

 

 

(8,836

)

 

 

(8,185

)

Other, net

 

 

(375

)

 

 

(123

)

 

 

(175

)

 

 

(366

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from (used in) financing

 

 

(6,236

)

 

 

(4,916

)

 

 

11,109

 

 

 

(9,364

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investing

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Additions to property and equipment

 

 

(1,695

)

 

 

(2,308

)

 

 

(5,846

)

 

 

(5,688

)

Acquisition of companies, net of cash acquired, and purchases of intangible and other assets

 

 

(802

)

 

 

(559

)

 

 

(25,586

)

 

 

(1,330

)

Purchases of investments

 

 

(43,918

)

 

 

(27,341

)

 

 

(147,874

)

 

 

(99,661

)

Maturities of investments

 

 

4,860

 

 

 

5,192

 

 

 

22,234

 

 

 

16,229

 

Sales of investments

 

 

36,444

 

 

 

19,599

 

 

 

117,754

 

 

 

76,292

 

Securities lending payable

 

 

(1,080

)

 

 

(66

)

 

 

(94

)

 

 

281

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in investing

 

 

(6,191

)

 

 

(5,483

)

 

 

(39,412

)

 

 

(13,877

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effect of foreign exchange rates on cash and cash equivalents

 

 

12

 

 

 

17

 

 

 

4

 

 

 

(45

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

 

(1,755

)

 

 

(15

)

 

 

203

 

 

 

1,575

 

Cash and cash equivalents, beginning of period

 

 

8,468

 

 

 

7,185

 

 

 

6,510

 

 

 

5,595

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

6,713

 

 

$

7,170

 

 

$

6,713

 

 

$

7,170

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes.

 

 

6


PART I

Item 1

STOCKHOLDERS’ EQ UITY STATEMENTS

 

(In millions) (Unaudited)

 

Three Months Ended

March 31,

 

 

Nine Months Ended

March 31,

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

 

 

 

 

 

Common stock and paid-in capital

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

68,177

 

 

$

67,977

 

 

$

68,178

 

 

$

68,465

 

Common stock issued

 

 

179

 

 

 

159

 

 

 

551

 

 

 

495

 

Common stock repurchased

 

 

(684

)

 

 

(853

)

 

 

(2,619

)

 

 

(3,010

)

Stock-based compensation expense

 

 

883

 

 

 

672

 

 

 

2,353

 

 

 

2,004

 

Other, net

 

 

(1

)

 

 

57

 

 

 

91

 

 

 

58

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

68,554

 

 

 

68,012

 

 

 

68,554

 

 

 

68,012

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained earnings

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

120

 

 

 

7,030

 

 

 

2,282

 

 

 

9,096

 

Net income

 

 

4,801

 

 

 

3,756

 

 

 

14,691

 

 

 

13,676

 

Common stock cash dividends

 

 

(3,009

)

 

 

(2,822

)

 

 

(9,037

)

 

 

(8,530

)

Common stock repurchased

 

 

(1,381

)

 

 

(3,010

)

 

 

(7,405

)

 

 

(9,288

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

531

 

 

 

4,954

 

 

 

531

 

 

 

4,954

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

512

 

 

 

1,773

 

 

 

1,537

 

 

 

2,522

 

Other comprehensive income (loss)

 

 

132

 

 

 

67

 

 

 

(893

)

 

 

(682

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

644

 

 

 

1,840

 

 

 

644

 

 

 

1,840

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

$

69,729

 

 

$

  74,806

 

 

$

  69,729

 

 

$

  74,806

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes.

 

 

7


PART I

Item 1

NOTES TO FINANCI AL STATEMENTS

(Unaudited)

 

NOTE 1   ACCOUNTING POLICIES

Accounting Principles

We prepare our unaudited interim consolidated financial statements in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). In the opinion of management, the unaudited interim consolidated financial statements reflect all adjustments of a normal recurring nature that are necessary for a fair presentation of the results for the interim periods presented. Interim results are not necessarily indicative of results for a full year. The information included in this Form 10-Q should be read in conjunction with information included in the Microsoft Corporation 2016 Form 10-K filed with the U.S. Securities and Exchange Commission on July 28, 2016.

We have recast certain prior period amounts to conform to the current period presentation, with no impact on consolidated net income or cash flows.

Principles of Consolidation

The consolidated financial statements include the accounts of Microsoft Corporation and its subsidiaries. Intercompany transactions and balances have been eliminated. Equity investments through which we are able to exercise significant influence over but do not control the investee and are not the primary beneficiary of the investee’s activities are accounted for using the equity method. Investments through which we are not able to exercise significant influence over the investee and which do not have readily determinable fair values are accounted for under the cost method.

Estimates and Assumptions

Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. Examples of estimates include: loss contingencies; product warranties; the fair value of and/or potential impairment of goodwill and intangible assets for our reporting units; product life cycles; useful lives of our tangible and intangible assets; allowances for doubtful accounts; allowances for product returns; the market value of, and demand for, our inventory; and stock-based compensation forfeiture rates. Examples of assumptions include: the elements comprising a software arrangement, including the distinction between upgrades or enhancements and new products; when technological feasibility is achieved for our products; the potential outcome of future tax consequences of events that have been recognized on our consolidated financial statements or tax returns; and determining when investment impairments are other-than-temporary. Actual results and outcomes may differ from management’s estimates and assumptions.

Product Revenue and Service and Other Revenue

Product revenue includes sales from operating systems; cross-device productivity applications; server applications; business solution applications; desktop and server management tools; software development tools; video games; hardware such as PCs, tablets, gaming and entertainment consoles, phones, other intelligent devices, and related accessories; and training and certification of computer system integrators and developers.

Service and other revenue includes sales from cloud-based solutions that provide customers with software, services, platforms, and content such as Office 365, Microsoft Azure (“Azure”), Microsoft Dynamics 365 (“Dynamics 365”), and Xbox Live; solution support; and consulting services. Service and other revenue also includes sales from online advertising and LinkedIn.

Recent Accounting Guidance Not Yet Adopted

Accounting for Income Taxes – Intra-Entity Asset Transfers

In October 2016, the Financial Accounting Standards Board (“FASB”) issued new guidance requiring an entity to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs, rather than when the asset has been sold to an outside party. This guidance is effective for us beginning July 1, 2018, with early adoption permitted beginning July 1, 2017. We plan to adopt the guidance effective July 1, 2018. Adoption of the guidance will be applied using a modified retrospective approach through a cumulative-effect

8


PART I

Item 1

adjustment to retained earnings as of the effective date. A cumulative-effect adjustment will capture the write-off of income tax consequences deferred from past intra-entity transfers involving assets other than inventory and new deferred tax assets for amounts not recognized under current U .S. GAAP. We are currently evaluating the impact of the guidance on our consolidated financial statements, including accounting policies, processes, and systems.

Financial Instruments – Credit Losses

In June 2016, the FASB issued a new standard to replace the incurred loss impairment methodology under current U.S. GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. We will be required to use a forward-looking expected credit loss model for accounts receivables, loans, and other financial instruments. Credit losses relating to available-for-sale debt securities will also be recorded through an allowance for credit losses rather than as a reduction in the amortized cost basis of the securities. The standard will be effective for us beginning July 1, 2020, with early adoption permitted beginning July 1, 2019. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date. We are currently evaluating the impact of this standard on our consolidated financial statements, including accounting policies, processes, and systems.

Leases

In February 2016, the FASB issued a new standard related to leases to increase transparency and comparability among organizations by requiring the recognition of right-of-use (“ROU”) assets and lease liabilities on the balance sheet. Most prominent among the changes in the standard is the recognition of ROU assets and lease liabilities by lessees for those leases classified as operating leases under current U.S. GAAP. Under the standard, disclosures are required to meet the objective of enabling users of financial statements to assess the amount, timing, and uncertainty of cash flows arising from leases. We will be required to recognize and measure leases existing at, or entered into after, the beginning of the earliest comparative period presented using a modified retrospective approach, with certain practical expedients available.

The standard will be effective for us beginning July 1, 2019, with early adoption permitted. We plan to adopt the standard effective July 1, 2017 concurrent with our adoption of the new standard related to revenue recognition. We intend to elect the available practical expedients on adoption. While our ability to early adopt depends on system readiness, including software procured from third-party providers, and completing our analysis of information necessary to restate prior period consolidated financial statements, we remain on schedule and have implemented key system functionality to enable the preparation of restated financial information.

We anticipate this standard will have a material impact on our consolidated balance sheets. However, we do not expect adoption will have a material impact on our consolidated income statements. While we are continuing to assess potential impacts of the standard, we currently expect the most significant impact will be the recognition of ROU assets and lease liabilities for operating leases. We expect our accounting for capital leases to remain substantially unchanged.

We are nearing completion of retrospectively adjusting financial information for fiscal year 2016 and are progressing as planned for fiscal year 2017. We expect adoption of the standard will result in the recognition of additional ROU assets and lease liabilities for operating leases of approximately $5 billion as of June 30, 2016. ROU assets and lease liabilities for operating leases are expected to increase in fiscal year 2017 primarily due to the acquisition of LinkedIn Corporation (“LinkedIn”) and additional datacenter leases.

Financial Instruments – Recognition, Measurement, Presentation, and Disclosure

In January 2016, the FASB issued a new standard related to certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Most prominent among the changes in the standard is the requirement for changes in the fair value of our equity investments, with certain exceptions, to be recognized through net income rather than other comprehensive income (“OCI”). The standard will be effective for us beginning July 1, 2018. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date. We are currently evaluating the impact of this standard on our consolidated financial statements, including accounting policies, processes, and systems.

9


PART I

Item 1

Revenue from Contracts with Customers

In May 2014, the FASB issued a new standard related to revenue recognition. Under the standard, revenue is recognized when a customer obtains control of promised goods or services in an amount that reflects the consideration the entity expects to receive in exchange for those goods or services. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers.

The guidance permits two methods of adoption: retrospectively to each prior reporting period presented (full retrospective method), or retrospectively with the cumulative effect of initially applying the guidance recognized at the date of initial application (modified retrospective method). We plan to adopt the standard using the full retrospective method to restate each prior reporting period presented.

The standard will be effective for us beginning July 1, 2018, with early adoption permitted as of the original effective date of July 1, 2017. We plan to adopt the standard effective July 1, 2017. While our ability to early adopt using the full retrospective method depends on system readiness, including software procured from third-party providers, and completing our analysis of information necessary to restate prior period consolidated financial statements, we remain on schedule and have implemented key system functionality to enable the preparation of restated financial information.

We have reached conclusions on key accounting assessments related to the standard. However, we are finalizing our assessment and quantifying the impacts related to accounting for costs incurred to obtain a contract based on guidance issued by the FASB Transition Resource Group as part of their November 2016 meeting. We will continue to monitor and assess the impact of any changes to the standard and interpretations as they become available.

The most significant impact of the standard relates to our accounting for software license revenue. Specifically, under the standard we expect to recognize Windows 10 revenue predominantly at the time of billing rather than ratably over the life of the related device. We expect to recognize license revenue at the time of contract execution rather than over the subscription period from certain multi-year commercial software subscriptions that include both software licenses and Software Assurance. Due to the complexity of certain of our commercial license subscription contracts, the actual revenue recognition treatment required under the standard will depend on contract-specific terms and in some instances may vary from recognition at the time of billing. We expect revenue recognition related to our hardware, cloud offerings including Office 365, LinkedIn, and professional services to remain substantially unchanged.

We are nearing completion of retrospectively adjusting financial information for fiscal year 2016 and are progressing as planned for fiscal year 2017. We estimate our revenue would have been approximately $6 billion higher in fiscal year 2016 under the standard primarily due to the net change in Windows 10 revenue recognition.

 

 

10


PART I

Item 1

NOTE 2   EARNINGS PER SHARE

Basic earnings per share (“EPS”) is computed based on the weighted average number of shares of common stock outstanding during the period. Diluted EPS is computed based on the weighted average number of shares of common stock plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method. Dilutive potential common shares include outstanding stock options and stock awards.

The components of basic and diluted EPS were as follows:

 

(In millions, except earnings per share)

 

Three Months Ended

March 31,

 

 

Nine Months Ended

March 31,

 

  

 

  

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income available for common shareholders (A)

 

$

4,801

 

 

$

3,756

 

 

$

14,691

 

 

$

13,676

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average outstanding shares of common stock (B)

 

 

7,725

 

 

 

7,895

 

 

 

7,756

 

 

 

7,952

 

Dilutive effect of stock-based awards

 

 

88

 

 

 

90

 

 

 

84

 

 

 

89

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock and common stock equivalents (C)

 

 

7,813

 

 

 

7,985

 

 

 

7,840

 

 

 

8,041

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings Per Share

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic (A/B)

 

$

0.62

 

 

$

0.48

 

 

$

1.89

 

 

$

1.72

 

Diluted (A/C)

 

$

0.61

 

 

$

0.47

 

 

$

1.87

 

 

$

1.70

 

 

 

 

Anti-dilutive stock-based awards excluded from the calculations of diluted EPS were immaterial during the periods presented.

 

 

NOTE 3   OTHER INCOME (EXPENSE), NET

The components of other income (expense), net were as follows:

 

(In millions)

 

Three Months Ended

March 31,

 

 

Nine Months Ended

March 31,

 

  

 

 

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

 

 

 

 

 

Dividends and interest income

 

$

380

 

 

$

230

 

 

$

984

 

 

$

629

 

Interest expense

 

 

  (609

)

 

 

  (340

)

 

 

  (1,567

)

 

 

  (898

)

Net recognized gains on investments

 

 

790

 

 

 

85

 

 

 

1,893

 

 

 

193

 

Net losses on derivatives

 

 

(200

)

 

 

(155

)

 

 

(340

)

 

 

(414

)

Net losses on foreign currency remeasurements

 

 

0

 

 

 

(18

)

 

 

(134

)

 

 

(52

)

Other, net

 

 

(39

)

 

 

(49

)

 

 

(228

)

 

 

(156

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

322

 

 

$

(247

)

 

$

608

 

 

$

(698

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Following are details of net recognized gains (losses) on investments:

 

(In millions)

 

Three Months Ended

March 31,

 

 

Nine Months Ended

March 31,

 

  

 

 

 

 

 

 

 

 

2017

 

 

2016

 

 

2017

 

 

2016

 

 

 

 

 

 

Other-than-temporary impairments of investments

 

$

(15

)

 

$

(86

)

 

$

(54

)

 

$

(248

)

Realized gains from sales of available-for-sale securities

 

 

  938

 

 

 

  282

 

 

 

2,272

 

 

 

740

 

Realized losses from sales of available-for-sale securities

 

 

(133

)

 

 

(111