Business Context and Reporting Period
This Form 10-Q covers Microsoft Corporation for the quarterly period ended September 30, 1995 (First Quarter of Fiscal 1996). The company develops, manufactures, and licenses software products including operating systems (Windows 95, MS-DOS, Windows NT), productivity applications (Microsoft Office), and online services (The Microsoft Network).
Key Financial Metrics
| Metric | Q1 1996 (Sep 30) | Q1 1995 (Sep 30) |
|---|---|---|
| Net Revenues | $2,016 million | $1,247 million |
| Operating Income | $708 million | $437 million |
| Net Income | $499 million | $316 million |
| Earnings Per Share | $0.78 | $0.51 |
| Net Cash from Operations | $500 million | $390 million |
| Cash & Short-Term Investments | $5,064 million | $3,776 million |
| Long-Term Debt | None | None |
| Stockholders' Equity | $5,739 million | $5,333 million |
Margins: Net income margin was 24.8% (down from 25.3% prior year). Cost of revenues was 16.0% of revenue. Research and development (R&D) was 15.0% of revenue.
Material Changes vs. Prior Period
- Revenue Growth: Net revenues increased 62% year-over-year, driven primarily by volume increases in software licenses rather than price increases.
- Product Performance: Platforms revenue surged 104% to $1.04 billion, led by the August 24, 1995 launch of Windows 95. Applications and content revenue grew 32% to $977 million, driven by Microsoft Office sales.
- Expense Increases: R&D expenses rose 70% to $302 million due to hiring and third-party development costs. Sales and marketing expenses increased 57% to $621 million, largely due to the Windows 95 launch campaign.
- Balance Sheet: Accounts receivable increased significantly to $1,052 million (from $581 million at June 30, 1995) due to OEM and retail sales volume. Unearned revenues rose to $307 million, including $130 million for future Windows 95 support and enhancements.
Outlook, Risks, and Management Commentary
- Windows 95 Returns: Management noted that distributors over-ordered Windows 95 prior to launch to prevent stock-outs. The company has accrued for estimated product returns expected after September 30, 1995.
- Liquidity: The company holds $5.1 billion in cash and short-term investments. Management believes this, combined with operating cash flow, is sufficient for the next 12 months and strategic opportunities.
- Stock Repurchases: Microsoft continues its open market stock repurchase program, funded by proceeds from employee stock option exercises. Additionally, the company sold equity put warrants with a maximum potential repurchase obligation of $537 million.
- Legal Contingency: The U.S. Department of Justice Antitrust Division is investigating Microsoft's inclusion of client-access software for The Microsoft Network in Windows 95. Management believes this will not have a material adverse effect on financial condition.
- Dividends: The company has not paid cash dividends on common stock.
Investor Verification Checklist
- Verify the magnitude of Windows 95 product returns accrued in the quarter and their potential impact on future revenue recognition.
- Monitor the resolution of the U.S. Department of Justice antitrust investigation regarding The Microsoft Network integration.
- Assess the sustainability of the 62% revenue growth rate given the shift in sales mix toward lower-priced OEM and upgrade licenses.
- Review the utilization of the $537 million put warrant obligation and its impact on future share count and equity.
- Confirm the continued strength of the $500 million quarterly operating cash flow to support aggressive R&D spending (15% of revenue).