1
EXHIBIT 13
FINANCIAL HIGHLIGHTS
(In millions, except earnings per share) Year Ended June 30
-------------------------------------------------------------
1990 1991 1992 1993 1994
------ ------ ------ ------ ------
Net revenues $1,183 $1,843 $2,759 $3,753 $4,649
Net income 279 463 708 953 1,146
Earnings per share 0.52 0.82 1.20 1.57 1.88
Return on net revenues 23.6% 25.1% 25.7% 25.4% 24.7%
Cash and short-term investments $ 449 $ 686 $1,345 $2,290 $3,614
Total assets 1,105 1,644 2,640 3,805 5,363
Stockholders' equity 919 1,351 2,193 3,242 4,450
FINANCIAL RESULTS
Due in large measure to the ongoing success of the Microsoft(R)
Windows(TM) operating system and Microsoft Office, Microsoft posted its 19th
consecutive year of revenue and earnings growth.
Revenues were $4.65 billion in 1994, an increase of 24% over the $3.75
billion recorded the preceding year. Net income totaled $1.15 billion, up 20%
from the $953 million of 1993. Earnings per share reached $1.88, compared with
$1.57 last year (restated to reflect the Company's two-for-one stock split in
May 1994).
In the third quarter of 1994, Microsoft recorded a $120 million pretax
charge after a jury verdict in the Stac Electronics patent litigation. In the
fourth quarter, Microsoft reached an agreement with Stac to settle the
litigation and reversed $30 million of the charge. The net $90 million pretax
charge reduced earnings per share for 1994 by $0.10.
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MICROSOFT CORPORATION 1994 FINANCIAL RESULTS
TABLE OF CONTENTS
Income Statements 2
Management's Discussion and
Analysis - Results of Operations 3
Management's Discussion and
Analysis - Outlook: Issues and Risks 6
Management's Discussion and
Analysis - Financial Condition 7
Cash Flows Statements 8
Balance Sheets 9
Statements of Stockholders' Equity 10
Management's Discussion and
Analysis - Employee Stock Options 11
Management's Discussion and
Analysis - Outstanding Common
Shares and Options and Computed Values 12
Notes to Financial Statements 13
Quarterly Financial and Market
Information 18
Selected Five-Year Financial Data 19
Reports of Management and
Independent Auditors 20
3
INCOME STATEMENTS
(In millions, except earnings per share)
Year Ended June 30
-------------------------------------
1992 1993 1994
------ ------ ------
Net revenues $2,759 $3,753 $4,649
Cost of revenues 467 633 763
------ ------ ------
Gross profit 2,292 3,120 3,886
------ ------ ------
Operating expenses:
Research and development 352 470 610
Sales and marketing 854 1,205 1,384
General and administrative 90 119 166
------ ------ ------
Total operating expenses 1,296 1,794 2,160
------ ------ ------
Operating income 996 1,326 1,726
Interest income -- net 56 82 102
Litigation charge -- -- (90)
Other expenses (11) (7) (16)
------ ------ ------
Income before income taxes 1,041 1,401 1,722
Provision for income taxes 333 448 576
------ ------ ------
Net income $ 708 $ 953 $1,146
====== ====== ======
Earnings per share $ 1.20 $ 1.57 $ 1.88
====== ====== ======
Weighted average shares outstanding 588 606 610
====== ====== ======
See accompanying notes.
NET REVENUES NET INCOME EARNINGS PER SHARE
-------------- -------------- ------------------
YEAR AMOUNT YEAR AMOUNT YEAR AMOUNT
---- ------ ---- ------ ---- ------
1992 $2,759 1992 $ 708 1992 $1.20
1993 $3,753 1993 $ 953 1993 $1.57
1994 $4,649 1994 $1,146 1994 $1.88
2
4
MANAGEMENT'S DISCUSSION AND ANALYSIS
(In millions)
RESULTS OF OPERATIONS
OVERVIEW
Microsoft develops, manufactures, markets, licenses, and supports a wide range
of software products, including operating systems for personal computers (PCs),
office machines, and personal information devices; applications programs; and
languages; as well as personal computer books, hardware, and multimedia
products.
NET REVENUES
1992 Change 1993 Change 1994
------ ------ ------ ------ ------
Net revenues $2,759 36% $3,753 24% $4,649
Product groups. Operating systems product group revenues were $1,104
million, $1,267 million, and $1,519 million in 1992, 1993, and 1994. The
MS-DOS(R) operating system is preinstalled on PCs by most original equipment
manufacturers (OEMs), and revenues from such licenses increased steadily in
both 1993 and 1994. Revenues from retail upgrade versions of MS-DOS decreased
in 1994 after a strong increase in 1993. The Microsoft Windows operating
system was an increasingly strong contributor to systems revenues as the number
of new PCs preinstalled with Windows increased rapidly during the
three-year period.
Applications product group revenues were $1,401 million, $2,253
million, and $2,927 million in 1992, 1993, and 1994. Increases in applications
revenues were led by strong sales of Microsoft Office. The Microsoft Office
Standard product includes Microsoft Excel, Microsoft Word, the Microsoft
PowerPoint(R) presentation graphics program, and a Microsoft Mail license,
while the Microsoft Office Professional product also includes Microsoft
Access(R) database. Sales of stand-alone versions of the Microsoft Excel
spreadsheet and the Microsoft Word word processor increased in 1993 but
decreased in 1994 as the sales mix continued to shift to integrated products.
Microsoft Home, a broad range of products in the Company's consumer
applications group, also showed continued growth. The Microsoft Home brand
includes CD-ROM multimedia library titles and products for children's
creativity, personal productivity, and entertainment.
Windows-based software programs represented approximately 85% of
applications revenues in 1994, up from 65% in 1992 and 75% in 1993.
Hardware product group revenues were $254 million, $233 million, and
$203 million in 1992, 1993, and 1994. The hardware product group's principal
products are the Microsoft Mouse and BallPoint(R) Mouse pointing devices.
SYSTEMS REVENUES APPLICATIONS REVENUES
---------------- ---------------------
YEAR AMOUNT YEAR AMOUNT
---- ------ ---- ------
1992 $1,104 1992 $1,401
1993 $1,267 1993 $2,253
1994 $1,519 1994 $2,927
3
5
MANAGEMENT'S DISCUSSION AND ANALYSIS (cont.)
(In millions)
Sales channels. The Company has four major channels of distribution including:
finished goods sales in the U.S. and Canada, Europe, and Other International;
and OEM. Sales in the finished goods channels are primarily to distributors
and resellers. OEM channel revenues are license fees from original equipment
manufacturers.
U.S. and Canada channel revenues were $1,062 million, $1,371 million,
and $1,575 million in 1992, 1993, and 1994.
Revenues in Europe were $997 million, $1,259 million, and $1,363
million in 1992, 1993, and 1994. Other International channel revenues
increased 36% in 1994 to $532 million. Revenues were $223 million in 1992 and
$392 million in 1993.
The Company's operating results are affected by foreign exchange
rates. Approximately 46%, 44%, and 40% of the Company's revenues were
collected in foreign currencies during 1992, 1993, and 1994. Since much of the
Company's international manufacturing costs and operating expenses are also
incurred in local currencies, the relative impact of exchange rates on net
income is less than on revenues.
OEM revenues grew 61% from the prior year to $1,179 million. OEM
revenues were $477 million in 1992 and $731 million in 1993. The primary
source of OEM revenues is licenses of operating systems, particularly MS-DOS
and Microsoft Windows. During 1994, approximately 80% of Windows units were
sold through the OEM channel, up from approximately 50% in 1992 and 75% in
1993.
U.S. AND CANADA REVENUES EUROPE REVENUES
------------------------ ---------------
YEAR AMOUNT YEAR AMOUNT
---- ------ ---- ------
1992 $1,062 1992 $ 997
1993 $1,371 1993 $1,259
1994 $1,575 1994 $1,363
OTHER INTERNATIONAL REVENUES OEM REVENUES
---------------------------- ---------------
YEAR AMOUNT YEAR AMOUNT
---- ------ ---- ------
1992 $223 1992 $ 477
1993 $392 1993 $ 731
1994 $532 1994 $1,179
4
6
MANAGEMENT'S DISCUSSION AND ANALYSIS (cont.)
(In millions, except earnings per share)
COST OF REVENUES
1992 Change 1993 Change 1994
---- ------ ---- ------ ----
Cost of revenues $467 36% $633 21% $763
Percentage of net revenues 16.9% 16.9% 16.4%
---- ---- ----
Cost of revenues as a percentage of net revenues was 16.4% in 1994, down from
16.9% in 1992 and 1993. The percentage decreased due to lower disk prices from
vendors and a greater percentage of sales of licenses to OEMs and corporations,
offset by increased sales of lower-margin Microsoft Office and upgrade
products.
OPERATING EXPENSES
1992 Change 1993 Change 1994
---- ------ ------ ------ ------
Research and development $352 34% $ 470 30% $ 610
Percentage of net revenues 12.8% 12.5% 13.1%
---- ------ ------
Sales and marketing $854 41% $1,205 15% $1,384
Percentage of net revenues 31.0% 32.1% 29.8%
---- ------ ------
General and administrative $ 90 32% $ 119 39% $ 166
Percentage of net revenues 3.3% 3.2% 3.6%
---- ------ ------
Increases in research and development expenses resulted primarily from
planned additions to the Company's software development and advanced technology
staffs, as well as higher levels of third-party development costs.
In 1994, sales and marketing expenses increased at a slower rate than
revenues due to a concerted performance orientation at all sales sites. The
increases in the absolute dollars of sales and marketing expenses in 1993 and
1994 were due to increased marketing programs and advertising for the launch of
new products, planned hiring of marketing personnel, and continued development
of Product Support Services.
Increases in general and administrative expenses are primarily
attributable to higher legal costs and growth in the systems and people
necessary to support overall increases in the scope of the Company's
operations.
NONOPERATING INCOME
1992 Change 1993 Change 1994
---- ------ ---- ------ ----
Nonoperating income $45 67% $75 15% $86
Litigation charge -- -- $90
--- --- ---
The primary component of nonoperating income is interest income, which
was $58 million, $83 million, and $104 million in 1992, 1993, and 1994.
Increased interest income is the result of a larger investment portfolio
generated by cash from operations, offset in both 1993 and 1994 by declining
interest rates.
In the third quarter of 1994, the Company recorded a $120 million
charge to reflect the estimated impact of a jury verdict in the Stac
Electronics patent litigation and related expenses. In June 1994, the Company
reached an agreement with Stac to settle the litigation and adjusted its
estimate accordingly, resulting in a credit of $30 million in the fourth
quarter and a net pretax charge of $90 million for the year.
PROVISION FOR INCOME TAXES
1992 Change 1993 Change 1994
---- ------ ---- ------ ----
Provision for income taxes $333 35% $448 29% $576
Effective tax rate 32.0% 32.0% 33.5%
---- ---- ----
The effective tax rate increased in 1994 primarily because of an increase in
the U.S. statutory income tax rate. Notes To Financial Statements describe
the differences between the U.S. statutory and effective income tax rates.
NET INCOME AND EARNINGS PER SHARE
1992 Change 1993 Change 1994
----- ------ ----- ------ ------
Net income $ 708 35% $ 953 20% $1,146
Percentage of net revenues 25.7% 25.4% 24.7%
Earnings per share $1.20 31% $1.57 20% $ 1.88
----- -- ----- -- ------
Net income as a percentage of net revenues decreased in 1994, primarily due to
the Stac Electronics patent litigation charge and increased research and
development expenses, offset by the lower relative level of sales and marketing
expenses. The slight percentage decrease in 1993 from 1992 was attributable to
higher relative sales and marketing expenditures.
5
7
MANAGEMENT'S DISCUSSION AND ANALYSIS (cont.)
OUTLOOK: ISSUES AND RISKS
The Company's 1994 Annual Report includes discussions of its long-term growth
outlook. The following issues and risks, among others, should also be
considered in evaluating its outlook.
Rapid technological change. The personal computer software industry
is characterized by rapid technological change and uncertainty as to the
widespread acceptance of new products.
Long-term investment cycle. Developing, manufacturing, and licensing
software is expensive and the investment in product development often involves
a long pay-back cycle. The Company began investing in the principal products
that are significant to its current revenues in the early 1980s. The Company's
plans for 1995 include significant investments in software research and
development and related product opportunities from which significant revenues
are not anticipated for a number of years.
Product ship schedules. Delays in the release of new products can
cause operational inefficiencies that impact manufacturing capabilities,
distribution logistics, and telephone support staffing.
Microsoft Office. Revenues from Microsoft Office may increase as a
percentage of total revenues in 1995. The price of Microsoft Office is less
than the sum of the prices for the individual application programs included in
this product when such programs are sold separately.
Prices. Future prices the Company is able to obtain for its products
may decrease from historical levels depending upon market or other cost
factors.
Saturation. Product upgrades, enabling users to upgrade from earlier
versions of the Company's products or from competitors' products, have lower
prices than new products. As the desktop PC software market becomes saturated,
the sales mix shifts from standard products to upgrade products. This trend is
expected to continue in 1995.
Introductory pricing. The Company has offered certain new products at
low introductory prices. This practice may continue with other new product
offerings.
Channel mix. Average revenue per license is lower from OEM licenses
than from retail versions, reflecting the relatively lower direct costs of
operations in the OEM channel. An increasingly higher percentage of revenues
was achieved through the OEM channel during 1993 and 1994.
Volume discounts. In 1994, unit sales increased under Microsoft
Select, a large account program designed to permit large organizations to
license Microsoft products. Average revenue per copy from Select license
programs is lower than average revenue per copy from retail versions shipped
through the finished goods channels.
Foreign exchange. A large percentage of the Company's sales are
transacted in local currencies. As a result, the Company's revenues are
subject to foreign exchange rate fluctuations.
Cost of revenues. Although cost of revenues as a percentage of net
revenues was relatively consistent in 1993 and 1994, it varies with channel mix
and product mix within channels. Changes in channel and product mix, as well
as in the cost of product components, may affect cost of revenues as a
percentage of net revenues in 1995.
Sales and marketing and support investments. The Company's plans for
1995 include continued investments in its sales and marketing and support
groups. Competitors may be able to enter the market without making investments
of such scale.
Accounting standards. Accounting standards promulgated by the
Financial Accounting Standards Board change periodically. Changes in such
standards, including currently proposed changes in the accounting for employee
stock option plans, may have a negative impact on the Company's future reported
earnings.
Unlicensed copying. Unlicensed copying of software represents a loss
of revenues to the Company. The Company is actively educating consumers and
lawmakers on this issue. However, there can be no assurance that continued
efforts will affect revenues positively.
Growth rates. Management believes the Company's recent revenue growth
rates are not sustainable. Operating expenses as a percentage of revenues may
increase in 1995 because of the above factors, among others.
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8
MANAGEMENT'S DISCUSSION AND ANALYSIS (cont.)
(In millions)
Litigation. Litigation regarding intellectual property rights,
patents, and copyrights is increasing in the PC software industry. In
addition, there are other general corporate legal risks. See Notes To
Financial Statements regarding contingencies related to government regulation
and legal proceedings.
FINANCIAL CONDITION
The Company's cash and short-term investments totaled $3,614 million at June
30, 1994 and represented 67% of total assets. The portfolio is diversified
among security types, industries, and individual issuers. The Company's
investments are investment grade and liquid.
Microsoft has no material long-term debt. Stockholders' equity at June
30, 1994 was over $4.4 billion.
Cash generated from operations has been sufficient to fund the
Company's investment in research and development activities and facilities
expansion. As the Company grows, investments will continue in research and
development in existing and advanced areas of technology. The Company's cash
will be used to acquire technology or to fund strategic ventures. Additions to
property, plant, and equipment are expected to continue, including facilities
and computer systems for research and development, sales and marketing, product
support, and administrative staff.
The exercise of stock options by employees provides additional cash.
These proceeds have funded the Company's open market stock repurchase program
through which Microsoft provides shares for stock option and stock purchase
plans. This practice is expected to continue in 1995.
The Company has available $70 million of standby multicurrency lines
of credit. These lines support foreign currency hedging and international cash
management.
Management believes existing cash and short-term investments together
with funds generated from operations will be sufficient to meet the Company's
operating requirements in 1995.
RESEARCH AND DEVELOPMENT SPENDING SALES AND MARKETING SPENDING
--------------------------------- ----------------------------
YEAR AMOUNT YEAR AMOUNT
---- ------ ---- ------
1992 $352 1992 $ 854
1993 $470 1993 $1,205
1994 $610 1994 $1,384
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9
CASH FLOWS STATEMENTS
(In millions)
Year Ended June 30
--------------------------------
1992 1993 1994
------ ------ -------
CASH FLOWS FROM OPERATIONS
Net income $ 708 $ 953 $ 1,146
Depreciation and amortization 112 151 237
Current liabilities 167 177 360
Accounts receivable (33) (121) (146)
Inventories (40) (51) 23
Other current assets (18) (35) (27)
------ ------ -------
Net cash from operations 896 1,074 1,593
------ ------ -------
CASH FLOWS FROM FINANCING
Common stock issued 135 229 280
Common stock repurchased (135) (250) (348)
Stock option income tax benefits 130 207 151
------ ------ -------
Net cash from financing 130 186 83
------ ------ -------
CASH FLOWS USED FOR INVESTMENTS
Additions to property, plant, and equipment (317) (236) (278)
Other assets (41) (17) (64)
Short-term investments (284) (723) (860)
------ ------ -------
Net cash used for investments (642) (976) (1,202)
------ ------ -------
Net change in cash and equivalents 384 284 474
Effect of exchange rates (10) (62) (10)
Cash and equivalents, beginning of year 417 791 1,013
------ ------ -------
Cash and equivalents, end of year 791 1,013 1,477
Short-term investments 554 1,277 2,137
------ ------ -------
Cash and short-term investments $1,345 $2,290 $ 3,614
====== ====== =======
See accompanying notes.
CASH AND SHORT-TERM INVESTMENTS
-------------------------------
YEAR AMOUNT
---- ------
1992 $1,345
1993 $2,290
1994 $3,614
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BALANCE SHEETS
(In millions)
June 30
-------------------------
1993 1994
------ ------
ASSETS
Current assets:
Cash and short-term investments $2,290 $3,614
Accounts receivable -- net of allowances of $76 and $92 338 475
Inventories 127 102
Other 95 121
------ ------
Total current assets 2,850 4,312
Property, plant, and equipment -- net 867 930
Other assets 88 121
------ ------
Total assets $3,805 $5,363
====== ======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 239 $ 324
Accrued compensation 86 96
Income taxes payable 127 305
Other 111 188
------ ------
Total current liabilities 563 913
------ ------
Commitments and contingencies
Stockholders' equity:
Common stock and paid-in capital -- shares authorized 2,000;
issued and outstanding 565 and 581 1,086 1,500
Retained earnings 2,156 2,950
------ ------
Total stockholders' equity 3,242 4,450
------ ------
Total liabilities and stockholders' equity $3,805 $5,363
====== ======
See accompanying notes.
LIABILITIES AND STOCKHOLDERS'
ASSETS - 1994 EQUITY - 1994
--------------------- -----------------------------
LIABILITIES &
STOCKHOLDERS'
ASSETS PERCENT EQUITY PERCENT
------ ------- ------------- -------
Cash 67% Stockholders'
PP&E 18% Equity 83%
Other Liabilities 17%
Current
Assets 13%
Other 2%
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STATEMENTS OF STOCKHOLDERS' EQUITY
(In millions)
Year Ended June 30
----------------------------------
1992 1993 1994
------ ------ ------
COMMON STOCK AND PAID-IN CAPITAL
Balance, beginning of year $ 395 $ 657 $1,086
Common stock issued 135 229 280
Common stock repurchased (3) (7) (17)
Stock option income tax benefits 130 207 151
------ ------ ------
Balance, end of year 657 1,086 1,500
------ ------ ------
RETAINED EARNINGS
Balance, beginning of year 956 1,536 2,156
Common stock repurchased (132) (243) (331)
Net income 708 953 1,146
Translation adjustment 4 (90) (21)
------ ------ ------
Balance, end of year 1,536 2,156 2,950
------ ------ ------
Total stockholders' equity $2,193 $3,242 $4,450
====== ====== ======
See accompanying notes.
STOCKHOLDERS' EQUITY
--------------------
YEAR AMOUNT
---- ------
1992 $2,193
1993 $3,242
1994 $4,450
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MANAGEMENT'S DISCUSSION AND ANALYSIS (cont.)
EMPLOYEE STOCK OPTIONS
At Microsoft, every employee is eligible to become a stockholder in the Company
through the Company's employee stock purchase and stock option plans.
Management believes stock options have made a major contribution to the success
of the Company by aligning employee interests with those of other stockholders.
Stock options enjoy widespread use today, and many of the Company's competitors
have similar programs.
During the last several years there has been considerable debate about
the appropriate accounting for stock options. Questions in this ongoing
discussion include how stock options should be measured; whether they should be
recorded in traditional financial statements, subject to already complex and
increasingly difficult rules; whether they should be highlighted in a separate
new financial statement or table; or whether further information concerning
stock options should be disclosed in footnotes to financial statements.
Pending resolution of these outstanding issues, on the accompanying page we
have provided a table of outstanding common shares and net options and changes
in their computed values based on quoted prices for the Company's stock. It
provides a clear understanding of the Company's equity, its equity holders, and
the value or possible value of their vested and unvested holdings.
In this table, common shares are those outstanding. Net vested and
unvested options represent the number of common shares issuable upon exercise
of such stock options less the number of common shares that could be
repurchased with proceeds from their exercise. Computed values are calculated
based on the closing price of the Company's common stock on the Nasdaq National
Market System on the dates indicated.
STAKEHOLDINGS - 1994
--------------------
Employees' and Directors'
Shares and Options 47%
Other Investors' Shares 53%
11
13
MANAGEMENT'S DISCUSSION AND ANALYSIS (cont.)
(In millions)
June 30
-----------------------------------------------------
1992 Change 1993 Change 1994
------- ------ ------- ------ -------
OUTSTANDING COMMON SHARES AND OPTIONS
Directors' and officers' common shares 273 (13) 260 (21) 239
Employees' and directors' net vested
and unvested stock options 78 (11) 67 (5) 62
------- ------ ------- ------ -------
Employees' and directors' shares and options 351 (24) 327 (26) 301
Other investors' common shares 271 34 305 37 342
------- ------ ------- ------ -------
Total 622 10 632 11 643
======= ====== ======= ====== =======
Nasdaq closing price per share $35 $44 $51-5/8
======= ======= =======
COMPUTED VALUES
Directors' and officers' common shares $ 9,579 $1,886 $11,465 $ 845 $12,310
Employees' and directors' net vested
and unvested stock options 2,714 245 2,959 269 3,228
------- ------ ------- ------ -------
Employees' and directors' shares and options 12,293 2,131 14,424 1,114 15,538
Other investors' common shares 9,486 3,930 13,416 4,259 17,675
------- ------ ------- ------ -------
Total $21,779 $6,061 $27,840 $5,373 $33,213
======= ====== ======= ====== =======
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14
NOTES TO FINANCIAL STATEMENTS
SIGNIFICANT ACCOUNTING POLICIES
Principles of consolidation. The financial statements include the accounts of
Microsoft and its wholly owned subsidiaries. Significant intercompany
transactions and balances have been eliminated.
Foreign currencies. Current assets and liabilities denominated in
foreign currencies are translated at the exchange rate on the balance sheet
date. Fixed assets and resulting depreciation are translated at historical
rates. Translation adjustments resulting from this process are charged or
credited to equity. Revenues, costs, and expenses are translated at average
rates of exchange prevailing during the year. Gains and losses on foreign
currency transactions are included in other expenses.
Revenue recognition. Revenue from finished goods sales to
distributors and resellers is recognized when related products are shipped.
Revenue billed upon shipment of finished goods products attributable to both
specified and unspecified future product enhancements is deferred and
recognized when such enhancements are delivered. Revenue from software
maintenance contracts is recognized ratably over the contract period.
The Company warrants products against defects and has policies
permitting the return of products under certain circumstances. Provision is
made for warranty costs and returns. Such costs generally have not been
material.
Revenue from products licensed to original equipment manufacturers
is recognized when the licensed products are shipped by the OEM. License fees
received prior to product acceptance are recorded as customer deposits.
Provision is made for bad debts. Such costs generally have not been
material.
Research and development. Research and development costs are expensed
as incurred.
Income taxes. Income tax expense includes U.S. and international
income taxes, plus an accrual for U.S. taxes on undistributed earnings of
international subsidiaries. Certain items of income and expense are not
reported in tax returns and financial statements in the same year. The tax
effect of this difference is reported as deferred income taxes. Tax credits
are accounted for as a reduction of tax expense in the year in which the
credits reduce taxes payable.
Earnings per share. Earnings per share is computed on the basis of
the weighted average number of common shares outstanding plus the effect of
outstanding stock options, computed using the treasury stock method.
Stock split. In May 1994, outstanding shares of common stock were
split two-for-one. All shares and per share amounts have been restated.
Cash and short-term investments. The Company considers all liquid
investments with a maturity of three months or less at the date of purchase to
be cash equivalents. Short-term investments are stated at the lower of cost or
market. Cost approximates market value for all classifications of cash and
short-term investments.
Inventories. Inventories are stated at the lower of cost or market.
Cost is determined using the first-in, first-out method.
Property, plant, and equipment. Property, plant, and equipment is
stated at cost and depreciated using the straight-line method. Estimated lives
are as follows: buildings, 30 years; leasehold improvements, the lease term;
computer equipment and other, principally three years.
Diversification of risk. The Company's investment portfolio is
diversified and consists of short-term investment grade securities. At June
30, 1993 and 1994, approximately 40% of accounts receivable represented amounts
due from ten channel purchasers. Two of these each accounted for approximately
10% of revenues in 1993 and 13% in 1994. The Company hedges certain foreign
exchange exposures although no material hedge contracts were outstanding at
June 30, 1994.
Statements of Financial Accounting Standards (SFAS). SFAS No. 86,
Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise
Marketed, does not materially affect the Company. SFAS No. 109, Accounting for
Income Taxes, was adopted in 1994, and the effect on current year and
cumulative net income was not material. Required adoption of SFAS No. 115,
Accounting for Certain Investments in Debt and Equity Securities, in the first
quarter of 1995 will not have a material impact on the financial statements.
In its current form, a proposed new SFAS, Accounting for Stock-based
Compensation, if adopted, is expected to have a material adverse effect on the
way future net income is reported.
Reclassifications. Certain reclassifications have been made for
consistent presentation.
13
15
NOTES TO FINANCIAL STATEMENTS (cont.)
(In millions)
CASH AND SHORT-TERM INVESTMENTS
June 30
--------------------
1993 1994
------ ------
Cash and equivalents:
Cash $ 225 $ 263
Commercial paper 326 619
Money market preferreds 159 180
Certificates of deposit 160 218
Bank loan participations 143 197
------ ------
Cash and equivalents 1,013 1,477
------ ------
Short-term investments:
Municipal securities 788 1,245
Corporate notes and bonds 226 423
U.S. Treasury securities 199 417
Commercial paper 64 52
------ ------
Short-term investments 1,277 2,137
------ ------
Cash and short-term investments $2,290 $3,614
====== ======
PROPERTY, PLANT, AND EQUIPMENT
June 30
--------------------
1993 1994
------ ------
Land $ 144 $ 162
Buildings 389 440
Computer equipment 415 532
Other 233 311
------ ------
Property, plant, and equipment - at cost 1,181 1,445
Accumulated depreciation (314) (515)
------ ------
Property, plant, and equipment - net $ 867 $ 930
====== ======
INCOME TAXES
The provision for income taxes was composed of:
1992 1993 1994
---- ---- ----
Current taxes:
U.S. and state $225 $352 $470
International 112 123 94
---- ---- ----
Current taxes 337 475 564
Deferred taxes (4) (27) 12
---- ---- ----
Provision for income taxes $333 $448 $576
==== ==== ====
Differences between the U.S. statutory and effective tax rates were:
1992 1993 1994
---- ---- ----
U.S. statutory rate 34.0% 34.0% 35.0%
Tax exempt income (0.6) (0.6) (0.9)
Foreign sales corporation (1.0) (1.0) (1.0)
Tax credits (1.1) (0.9) (2.1)
State taxes and other - net 0.7 0.5 2.5
---- ---- ----
Effective tax rate 32.0% 32.0% 33.5%
==== ==== ====
Deferred income tax balances were:
JUNE 30
1994
-------
Deferred income tax assets:
Gross margin items $ 72
Expense items 132
------
Deferred income tax assets 204
------
Deferred income tax liabilities:
International earnings (147)
Other (4)
------
Deferred income tax liabilities (151)
------
Net deferred income tax asset $ 53
======
U.S. and international components of income before income taxes were:
1992 1993 1994
------ ------ ------
U.S. $ 658 $ 960 $1,281
International 383 441 441
------ ------ ------
Income before income taxes $1,041 $1,401 $1,722
====== ====== ======
The Internal Revenue Service is examining the Company's U.S. income
tax returns for 1990 and 1991. The Company believes any adjustments from the
examination will not be material. Income taxes paid were $175 million, $187
million, and $247 million in 1992, 1993, and 1994.
COMMON STOCK
Shares of common stock outstanding were as follows:
1992 1993 1994
---- ---- ----
Balance, beginning of year 522 544 565
Issued 26 27 25
Repurchased (4) (6) (9)
--- --- ---
Balance, end of year 544 565 581
=== === ===
The Company repurchases its common stock in the open market to provide
shares for issuance to employees under stock option and stock purchase plans.
The Company's Board of Directors authorized continuation of this program in
1995.
In June 1994, the Company merged with SOFTIMAGE, Inc. (SI), a leading
developer of 2-D and 3-D computer animation and visualization software, in a
pooling of interests. The Company exchanged 2.7 million shares, shown as
outstanding at June 30, 1994,
14
16
NOTES TO FINANCIAL STATEMENTS (cont.)
(In millions, except per share data)
for all of the outstanding stock of SI. SI's assets and liabilities, which
were nominal, are included with those of Microsoft as of June 30, 1994.
Operating results for SI during 1992, 1993, and 1994 were not material to the
combined results of the two companies. Accordingly, the financial statements
for such periods have not been restated.
EMPLOYEE STOCK AND SAVINGS PLANS
Employee stock purchase plan. The Company has an employee stock purchase plan
for all eligible employees. Under the plan, shares of the Company's common
stock may be purchased at six-month intervals at 85% of the lower of the fair
market value on the first or the last day of each six-month period. Employees
may purchase shares having a value not exceeding 10% of their gross
compensation during an offering period. During 1992, 1993, and 1994, employees
purchased 0.9 million, 1.0 million, and 1.1 million shares at average prices of
$24.59, $33.29, and $34.16 per share. At June 30, 1994, 6.5 million shares
were reserved for future issuance.
Savings plan. The Company has a savings plan, which qualifies under
Section 401(k) of the Internal Revenue Code. Under the plan, participating
U.S. employees may defer up to 15% of their pretax salary, but not more than
statutory limits. The Company contributes fifty cents for each dollar
contributed by a participant, with a maximum contribution of 3% of a
participant's earnings. The Company's matching contributions to the savings
plan were $5 million, $7 million, and $9 million in 1992, 1993, and 1994.
Stock option plans. The Company has stock option plans for directors,
officers, and all employees, which provide for nonqualified and incentive stock
options. The Board of Directors determines the option price (not to be less
than fair market value for incentive options) at the date of grant. The
options generally expire ten years from the date of grant and vest over four
and one-half years. At June 30, 1994, options for 52.6 million shares were
vested and 111.0 million shares were available for future grants under the
plans.
Outstanding Options
- -----------------------------------------------------------------------------
Price per Share
--------------------------------
Weighted
Number Range Average
------ -------------- --------
Balance, June 30, 1991 115.0 $ 0.31 - 22.39 $ 8.27
Granted 29.7 20.59 - 39.79 23.77
Exercised (20.7) 0.31 - 16.61 6.50
Canceled (3.7) 1.50 - 38.84 7.39
-----
Balance, June 30, 1992 120.3 0.31 - 39.79 12.44
Granted 24.4 30.88 - 44.25 34.30
Exercised (26.2) 0.31 - 36.92 7.95
Canceled (4.4) 4.97 - 44.13 14.23
-----
Balance, June 30, 1993 114.1 0.31 - 44.25 18.06
GRANTED 26.2 35.50 - 50.13 37.47
EXERCISED (20.9) 1.51 - 44.25 11.42
CANCELED (5.5) 5.01 - 44.13 28.67
-----
BALANCE, JUNE 30, 1994 113.9 0.31 - 50.13 23.29
=====
LEASES
The Company has operating leases for most U.S. and international sales and
support offices and certain equipment. Rental expense for operating leases was
$44 million, $54 million, and $68 million in 1992, 1993, and 1994. Future
minimum rental commitments under noncancelable leases, in millions of dollars,
are: 1995, $67; 1996, $49; 1997, $38; 1998, $32; 1999, $24; and thereafter,
$22.
CONTINGENCIES
On July 15, 1994, Microsoft entered into an undertaking with the Commission of
the European Communities (European Commission) resolving a complaint submitted
by Novell, Inc. claiming that certain practices of Microsoft violated Articles
85 and 86 of the Treaty of Rome. The undertaking is effective immediately,
requires no further approval, and closes the investigation of Novell's
complaint by the European Commission's Directorate-General for Competition. In
the undertaking, which involves no admission of wrongdoing on Microsoft's part,
Microsoft agreed to make certain changes in its OEM licensing practices.
Microsoft also agreed to employ a uniform duration in its nondisclosure
agreements for precommercial
15
17
NOTES TO FINANCIAL STATEMENTS (cont.)
versions of certain operating system products, and clarified the rights and
responsibilities of those signing such nondisclosure agreements. The European
Commission has the right to monitor Microsoft's compliance during the 6-1/2
year term of the settlement agreement.
On July 15, 1994, Microsoft and the U.S. Department of Justice (DOJ)
entered into a consent decree resolving the DOJ's nonpublic investigation of
Microsoft. The consent decree contained the same provisions as the undertaking
between Microsoft and the European Commission. To become final, the consent
decree must be approved by the U.S. District Court for the District of
Columbia. The Court's consideration of the consent decree and any comments and
responses submitted concerning it will occur no sooner than 60 days after
publication of the consent decree in the Federal Register.
Microsoft does not expect the undertaking with the European Commission
or the consent decree with the DOJ to affect its OEM revenues.
On March 17, 1988, Apple Computer, Inc. (Apple) brought suit against
Microsoft and Hewlett-Packard Company for alleged copyright infringement in the
U.S. District Court, Northern District of California. The complaint included
allegations that the visual displays of Microsoft Windows version 2.03 (and
Windows version 3.0, which was added to the complaint later) infringed Apple's
copyrights and exceeded the scope of a 1985 Settlement Agreement between
Microsoft and Apple. The complaint sought to enjoin Microsoft from marketing
Microsoft Windows versions 2.03 and 3.0 or any derivative work based on Windows
2.03 or 3.0 and from otherwise infringing Apple's copyrights and sought damages
resulting from the alleged infringement.
The Company answered the complaint, raising affirmative defenses
including its claim that the 1985 Settlement Agreement entitled it to use the
visual displays in question, denying Apple's allegations that the visual
displays in Microsoft Windows version 2.03 and 3.0 infringe any protectible
right of Apple, and asserting counterclaims.
On August 24, 1993, the Court entered final judgment dismissing all of
Apple's claims. Apple has appealed a number of the Court's decisions in the
case to the Ninth Circuit Court of Appeals. Microsoft has cross-appealed the
dismissal of one of its counterclaims and related issues. Oral argument on the
appeal and cross-appeal was heard by Judges Ferdinand Fernandez, Pamela Rymer,
and Thomas Nelson on July 11, 1994.
On July 30, 1993 Wang Laboratories, Inc. (Wang) filed suit in U.S.
District Court for the District of Massachusetts against Microsoft and
Watermark Software, Inc., alleging that unspecified Microsoft products infringe
two patents owned by Wang concerning object management and the handling of
compound documents (United States Patents 5,206,951 issued on April 27, 1993,
and 5,129,061 issued on July 7, 1992, respectively). The suit also alleges
that Microsoft induced and continues to induce others, including Watermark
Software, Inc., to infringe the Wang patents. Microsoft's OLE technology
appears to be the subject of Wang's allegations against Microsoft. The
complaint seeks a determination that Microsoft's alleged infringement is
willful, an award of treble damages, an award of attorneys' fees, and to
preliminarily and permanently enjoin Microsoft from continuing the alleged
infringement. In its answer Microsoft denied that any of its products infringe
the Wang patents and asked the Court for a declaratory judgment that those
patents are invalid and unenforceable for failing to meet patent law
requirements. The suit is currently in the early stages of discovery.
Although there is no assurance that these lawsuits will be resolved
favorably and that the Company's financial condition will not be adversely
affected, the Company currently believes that resolution of these matters will
not have material adverse effects on its financial condition as reported in the
accompanying financial statements.
16
18
NOTES TO FINANCIAL STATEMENTS (cont.)
(In millions)
INFORMATION BY GEOGRAPHIC AREA
1992 1993 1994
------ ------ ------
NET REVENUES
U.S. operations $1,878 $2,655 $3,472
European operations 1,019 1,289 1,401
Other international operations 272 395 375
Eliminations (410) (586) (599)
------ ------ ------
Total net revenues $2,759 $3,753 $4,649
====== ====== ======
OPERATING INCOME
U.S. operations $ 664 $ 961 $1,394
European operations 329 360 346
Other international operations 11 18 31
Eliminations (8) (13) (45)
------ ------ ------
Total operating income $ 996 $1,326 $1,726
====== ====== ======
IDENTIFIABLE ASSETS
U.S. operations $1,858 $2,944 $4,397
European operations 872 1,133 1,366
Other international operations 289 310 423
Eliminations (379) (582) (823)
------ ------ ------
Total identifiable assets $2,640 $3,805 $5,363
====== ====== ======
Intercompany sales between geographic areas are accounted for at prices
representative of unaffiliated party transactions. "U.S. operations" include
shipments to customers in the U.S., licensing to OEMs, and exports of finished
goods directly to international customers, primarily in Canada, South America,
and Asia. Exports and international OEM transactions are primarily in U.S.
dollars and totaled $255 million, $426 million, and $787 million in 1992, 1993,
and 1994. "Other international operations" primarily include subsidiaries in
Australia, Japan, Korea, and Taiwan. International revenues, which include
European operations, other international operations, exports, and OEM
distribution, were 55.1%, 55.3%, and 54.0% of total revenues in 1992, 1993, and
1994.
17
19
QUARTERLY FINANCIAL AND MARKET INFORMATION
(In millions, except per share data; unaudited)
Quarter Ended
----------------------------------------------------------
Sept. 30 Dec. 31 Mar. 31 June 30 Year
-------- ------- ------- ------- ------
1992
Net revenues $ 581 $ 682 $ 681 $ 815 $2,759
Gross profit 476 567 571 678 2,292
Net income 144 175 179 210 708
Earnings per share 0.25 0.30 0.30 0.35 1.20
Common stock price per share:
High 30 37-3/8 44-1/2 43-1/8 44-1/2
Low 20-1/8 28-3/4 36-1/2 32-7/8 20-1/8
====== ====== ====== ====== ======
1993
Net revenues $ 818 $ 938 $ 958 $1,039 $3,753
Gross profit 683 781 797 859 3,120
Net income 209 236 243 265 953
Earnings per share 0.35 0.39 0.40 0.43 1.57
Common stock price per share:
High 41 47-1/2 47-1/8 49 49
Low 32-3/4 37-7/8 38-3/8 39-7/8 32-3/4
====== ====== ====== ====== ======
1994
NET REVENUES $ 983 $1,129 $1,244 $1,293 $4,649
GROSS PROFIT 824 944 1,036 1,082 3,886
NET INCOME 239 289 256 362 1,146
EARNINGS PER SHARE 0.39 0.48 0.42 0.59 1.88
COMMON STOCK PRICE PER SHARE:
HIGH 44-1/4 43-1/4 44-5/8 54-5/8 54-5/8
LOW 35-1/8 38 39 41 35-1/8
====== ====== ====== ====== ======
The Company has not paid cash dividends on its common stock. The Company's
common stock is traded on the over-the-counter market and is quoted on the
Nasdaq National Market System under the symbol MSFT. On July 29, 1994, there
were 26,790 holders of record of the Company's common stock.
18
20
SELECTED FIVE-YEAR FINANCIAL DATA
(In millions, except employee and per share data)
Year Ended June 30
--------------------------------------------------------
1990 1991 1992 1993 1994
------ ------ ------ ------ ------
FOR THE YEAR
Net revenues $1,183 $1,843 $2,759 $3,753 $4,649
Cost of revenues 253 362 467 633 763
------ ------ ------ ------ ------
Gross profit 930 1,481 2,292 3,120 3,886
------ ------ ------ ------ ------
Research and development 181 235 352 470 610
Sales and marketing 317 534 854 1,205 1,384
General and administrative 39 62 90 119 166
------ ------ ------ ------ ------
Total operating expenses 537 831 1,296 1,794 2,160
------ ------ ------ ------ ------
Operating income 393 650 996 1,326 1,726
Interest income - net 31 37 56 82 102
Litigation charge -- -- -- -- (90)
Other expenses (14) (16) (11) (7) (16)
------ ------ ------ ------ ------
Income before income taxes 410 671 1,041 1,401 1,722
Provision for income taxes 131 208 333 448 576
------ ------ ------ ------ ------
Net income $ 279 $ 463 $ 708 $ 953 $1,146
====== ====== ====== ====== ======
AT YEAR END
Working capital $ 533 $ 735 $1,323 $2,287 $3,399
Total assets $1,105 $1,644 $2,640 $3,805 $5,363
Stockholders' equity $ 919 $1,351 $2,193 $3,242 $4,450
Number of employees 5,635 8,226 11,542 14,430 15,257
====== ====== ====== ====== ======
COMMON STOCK DATA
Earnings per share $ 0.52 $ 0.82 $ 1.20 $ 1.57 $ 1.88
Cash and short-term investments per share $ 0.88 $ 1.31 $ 2.47 $ 4.05 $ 6.22
Average common and equivalent
shares outstanding 537 563 588 606 610
Shares outstanding at year end 512 522 544 565 581
====== ====== ====== ====== ======
KEY RATIOS
Current ratio 3.9 3.5 4.0 5.1 4.7
Return on net revenues 23.6% 25.1% 25.7% 25.4% 24.7%
Return on average total assets 30.6% 33.7% 33.1% 29.6% 25.0%
Return on average stockholders' equity 37.7% 40.8% 40.0% 35.1% 29.8%
====== ====== ====== ====== ======
GROWTH PERCENTAGES -- INCREASES
Net revenues 47% 56% 50% 36% 24%
Net income 63% 66% 53% 35% 20%
Earnings per share 55% 58% 47% 31% 20%
====== ====== ====== ====== ======
19
21
REPORTS OF MANAGEMENT AND INDEPENDENT AUDITORS
REPORT OF MANAGEMENT
Management is responsible for preparing the Company's financial statements and
related information that appears in this annual report. Management believes
that the financial statements fairly reflect the form and substance of
transactions and reasonably present the Company's financial condition and
results of operations in conformity with generally accepted accounting
principles. Management has included in the Company's financial statements
amounts that are based on estimates and judgments, which it believes are
reasonable under the circumstances.
The Company maintains a system of internal accounting policies,
procedures, and controls intended to provide reasonable assurance, at
appropriate cost, that transactions are executed in accordance with Company
authorization and are properly recorded and reported in the financial
statements, and that assets are adequately safeguarded.
Deloitte & Touche audits the Company's financial statements in
accordance with generally accepted auditing standards and provides an
objective, independent review of the fairness of reported financial condition
and results of operations.
The Microsoft Board of Directors has an Audit Committee composed
of nonmanagement Directors. The Committee meets with financial management,
internal auditors, and the independent auditors to review internal accounting
controls and accounting, auditing, and financial reporting matters.
MICHAEL W. BROWN
Vice President, Finance;
Chief Financial Officer
REPORT OF INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of Microsoft Corporation:
We have audited the accompanying balance sheets of Microsoft
Corporation and subsidiaries as of June 30, 1993 and 1994, and the related
statements of income, stockholders' equity, and cash flows for each of the
three years in the period ended June 30, 1994, appearing on pages 2, 8, 9, 10,
and 13 through 17. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, such financial statements present fairly, in all
material respects, the financial position of Microsoft Corporation and
subsidiaries as of June 30, 1993 and 1994, and the results of their operations
and their cash flows for each of the three years in the period ended June 30,
1994 in conformity with generally accepted accounting principles.
DELOITTE & TOUCHE
Seattle, Washington
July 20, 1994
20
22
Appendix A
PAGE WHERE
GRAPHIC DESCRIPTION OF GRAPHIC AND IMAGE MATERIAL
APPEARS (In millions, except earnings per share)
2 Bar graph of Net Revenues.
Data points: 1992-$2,759, 1993-$3,753, 1994-$4,649
2 Bar graph of Net Income.
Data points: 1992-$708, 1993-$953, 1994-$1,146
2 Bar graph of Earnings Per Share.
Data points: 1992-$1.20, 1993-$1.57, 1994-$1.88
3 Bar graph of Systems Revenues.
Data points: 1992-$1,104, 1993-$1,267, 1994-$1,519
3 Bar graph of Applications Revenues.
Data points: 1992-$1,401, 1993-$2,253, 1994-$2,927
4 Bar graph of U.S. and Canada Revenues.
Data points: 1992-$1,062, 1993-$1,371, 1994-$1,575
4 Bar graph of Europe Revenues.
Data points: 1992-$997, 1993-$1,259, 1994-$1,363
4 Bar graph of Other International Revenues.
Data points: 1992-$223, 1993-$392, 1994-$532
4 Bar graph of OEM Revenues.
Data points: 1992-$477, 1993-$731, 1994-$1,179
7 Bar graph of Research and Development Spending.
Data points: 1992-$352, 1993-$470, 1994-$610
7 Bar graph of Sales and Marketing Spending.
Data points: 1992-$854, 1993-$1,205, 1994-$1,384
8 Bar graph of Cash and Short-Term Investments
Data points: 1992-$1,345, 1993-$2,290, 1994-$3,614
9 Pie Chart of Assets - 1994.
Data points: Cash-67%, Other Current Assets-13%, PP&E-18%, Other-2%
9 Pie Chart of Liabilities and Stockholders' Equity - 1994.
Data points: Liabilities-17%, Stockholders' Equity-83%
10 Bar graph of Stockholders' Equity.
Data points: 1992-$2,193, 1993-$3,242, 1994-$4,450
11 Pie Chart of Stakeholdings - 1994.
Data points: Other Investors' Shares-53%, Employees' and Directors' Shares and Options-47%