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Using the excerpts from Microsoft’s 2004 and 2014 Annual reports, answer the following nine questions. In your answers, assume all sales are on credit and ignore any tax effects. Do not exceed two pages (double spaced, font size 11 or greater).

1. What is the largest liability on Microsoft’s balance sheet in 2004? Why is it recognized? What is the largest liability in 2014?

The largest liability on Microsoft’s balance sheet is Short-term Unearned Revenue of $6,514,000,000.

Unearned revenue for Microsoft consists mainly of customer billings paid up-front, undelivered elements, advertising not yet displayed, and payment for post-delivery support services to be performed. It is recognized because it represents a valid, measurable obligation of the company to provide goods and services to its customers in the future, or return the money if the services are not delivered.

The largest liability on MSFT’s balance sheet in 2014 is also Short-term Unearned Revenue at $23,150.

2. The ratio LTD/TA increases from 0 to about 12% ($20,645/172,384). Young, fast-growing, intangibles-heavy companies are almost exclusively equity financed.

3. Suppose that Microsoft classified all amounts in Unearned revenue as earned. How would this decision affect Revenues, Current Liabilities, Long term liabilities, Stockholder’s equity, and Cash flow from operations? Ignore tax effects.

If Microsoft reclassifies all Unearned Revenue as earned (Dr. Unearned Revenue/Cr. Revenue), this will lead to:

- Revenue will increase by (6,514 + 1,663) = $8,177 million,

- Current Liabilities will decrease by $ 6,514 million,

- Long-term Liabilities will decrease by $ 1,663 million,

- Stockholder’s equity will increase by $8,177,

- Cash flow from operations will not be affected.

4. While companies are typically criticized for their aggressive recognition policies, Microsoft in 2004 and Apple in recent years have been criticized for their conservative revenue recognition practices.1 Why might Microsoft then and Apple now want to recognize too little revenue up-front? To help you

1 A nice commentary on Apple’s revenue recognition practices is available at http://seekingalpha.com/article/958701-apple-is-sandbagging-more-than-you-think.



answer this question, I have posted the article “The Dark Side of Deferral” in the folder “Chapter 8.”

Possible reasons for Microsoft recognizing too little revenue up-front are:

- Using deferred revenue as cookie-jar in order