Microsoft's Financial Reporting Strategy

Microsoft's Financial Reporting Strategy

Microsoft's software capitalization policy effects on its Balance Sheet and Income Statement for 1997-1999

Assumptions:

- No potential tax effect

- 60% of Microsoft's R&D expenses were incurred after technological feasibility was established

- 2-year average product life

- The company begins amortizing software costs at the beginning of the following year

R&D Capitalization Method:

- Year n: 60% * R&D Book Value year n

- Year n+1: ½ * 60% * R&D Book Value year n (straight line amortization)

- Year n+2: 0

Amortization Expenses - Exemple of 1997:

AM= (258-0) + (796-398)

Microsoft Revenue Recognition Policy Effects

Without considering the tax effect, the unearned revenues are down to 0 every quarter and the unearned revenues are transferred to retained earnings.

Q3-4:

The financial reporting strategy of Microsoft consists in lessening their results through two main means. First of all, Microsoft decided not to capitalize their research and development costs. Then they decided in 1996 to change their revenue recognition method: it would not be instantly and wholly recognized, but approximately 20 % of the revenue would be deferred in time, over the whole life cycle of the product.

This financial reporting strategy adopted by Microsoft grants it with some advantages. The most significant ones are the following ones.

First of all, this strategy enables Microsoft to face harder times with no difficulties. Thanks to its choice to defer its revenue recognition while it was in particularly happy times, it would benefit from this revenue deferred in time to smooth its results in case lower