Microsoft Corporation 10-Q Summary
Business Context and Reporting Period
This Form 10-Q covers the quarterly period ended December 31, 1997 (Second Quarter of Fiscal 1998). Microsoft Corporation develops, manufactures, licenses, and supports software products including operating systems (Windows), productivity applications (Office), server applications, and Internet technologies. The company also engages in interactive content efforts and sells PC input devices.
Key Financial Metrics
| Metric | Three Months Ended Dec 31, 1997 | Six Months Ended Dec 31, 1997 |
|---|---|---|
| Revenue | $3,585 million | $6,715 million |
| Operating Income | $1,663 million | $2,794 million |
| Net Income | $1,133 million | $1,796 million |
| Diluted EPS | $0.85 | $1.35 |
| Cash & Short-Term Investments | $10,105 million (Balance Sheet) | $10,105 million (Balance Sheet) |
| Net Cash from Operations | N/A | $3,344 million |
| Stockholders' Equity | $12,344 million | $12,344 million |
Margins: Operating margin for the quarter was approximately 46.4%. Net income margin for the six-month period was 26.7%.
Debt & Liquidity: The company reported no material long-term debt. Liquidity is strong with $10.1 billion in cash and short-term investments. The company maintains $70 million in standby credit lines.
Material Changes vs. Prior Period
- Revenue Growth: Revenue increased 34% year-over-year for the quarter and 35% for the six-month period, driven by the adoption of Windows 32-bit operating systems and Microsoft Office 97.
- Expense Increases: Research and development expenses rose 29% to $627 million for the quarter due to higher headcount and third-party development. Sales and marketing expenses increased to $876 million.
- Acquisition Impact: The acquisition of WebTV Networks, Inc. resulted in a one-time write-off of $296 million for in-process technologies, impacting operating income and net income for the six-month period.
- Stock Repurchases: The company repurchased 3.7 million shares on the open market and 10.6 million shares via forward purchase arrangements during the first half of fiscal 1998.
Guidance, Outlook, Risks, and Unusual Items
Unusual Items: The $296 million write-off related to WebTV in-process technology is a non-recurring item. Excluding this charge, net income for the six months represented 31.2% of revenue.
Legal Proceedings & Risks:
- Sun Microsystems Litigation: Sun filed suit alleging trademark infringement, breach of contract, and unfair competition regarding Java technology. Sun seeks damages and injunctive relief. Microsoft denies the claims and has filed counterclaims.
- DOJ Antitrust Action: The U.S. Department of Justice filed a petition alleging Microsoft violated a 1994 consent decree by bundling Internet Explorer with Windows 95. A preliminary injunction was granted requiring Microsoft not to condition Windows licensing on browser licensing. Microsoft has appealed this decision.
- Accounting Changes: New accounting standards (SOP 97-2) regarding software revenue recognition are pending, and their future impact is currently indeterminable.
Outlook: Management expects cash and short-term investments to be sufficient for operating requirements for the next 12 months. The company plans to continue investing in R&D, sales infrastructure, and strategic acquisitions while maintaining its stock repurchase program.
Investor Verification Checklist
- Verify the impact of the $296 million WebTV in-process technology write-off on reported earnings.
- Monitor the status of the DOJ antitrust preliminary injunction and the appeal scheduled for April 1998.
- Review the potential financial impact of the Sun Microsystems lawsuit, specifically regarding the $35 million liquidated damages claim and potential injunctions on Internet Explorer.
- Assess the dilutive effect of employee stock options (251 million outstanding) versus the stock repurchase program.
- Confirm the application of new software revenue recognition standards (SOP 97-2) in future reporting periods.