Microsoft 2007 Annual Report Download - page 38

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NOTES TO FINANCIAL STATEMENTS
NOTE 1 ACCOUNTING POLICIES
ACCOUNTING PRINCIPLES
The financial statements and accompanying notes are prepared in accordance with accounting principles
generally accepted in the United States of America.
PRINCIPLES OF CONSOLIDATION
The financial statements include the accounts of Microsoft Corporation and its subsidiaries. Intercompany
transactions and balances have been eliminated. Equity investments in which we exercise significant influence
but do not control and are not the primary beneficiary are accounted for using the equity method. Investments in
which we are not able to exercise significant influence over the investee and which do not have readily
determinable fair values are accounted for under the cost method.
ESTIMATES AND ASSUMPTIONS
Preparing financial statements requires management to make estimates and assumptions that affect the reported
amounts of assets, liabilities, revenue, and expenses. Examples include estimates of loss contingencies, product
warranties, product life cycles, product returns, and stock-based compensation forfeiture rates; assumptions such
as the elements comprising a software arrangement, including the distinction between upgrades/enhancements
and new products; when technological feasibility is achieved for our products; the potential outcome of future tax
consequences of events that have been recognized in our financial statements or tax returns; estimating the fair
value and/or goodwill impairment for our reporting units; and determining when investment impairments are other-
than-temporary. Actual results and outcomes may differ from management’s estimates and assumptions.
FOREIGN CURRENCIES
Assets and liabilities recorded in foreign currencies are translated at the exchange rate on the balance sheet date.
Revenue and expenses are translated at average rates of exchange prevailing during the year. Translation
adjustments resulting from this process are charged or credited to Other Comprehensive Income (“OCI”).
REVENUE RECOGNITION
Revenue is recognized when persuasive evidence of an arrangement exists, delivery has occurred, the fee is
fixed or determinable, and collectibility is probable. We enter into certain arrangements where we are obligated to
deliver multiple products and/or services (multiple elements). In these arrangements, we generally allocate the
total revenue among the elements based on the sales price of each element when sold separately (vendor-
specific objective evidence).
Revenue for retail packaged products, products licensed to original equipment manufacturers (“OEM”), and
perpetual licenses for current products under our Open and Select volume licensing programs generally is
recognized as products are shipped. A portion of the revenue related to certain products, which include all
Windows XP and previous PC operating systems, is recorded as unearned due to undelivered elements
including, in some cases, free post-delivery telephone support and the right to receive unspecified
upgrades/enhancements of Microsoft Internet Explorer on a when-and-if-available basis. The amount of revenue
allocated to undelivered elements is based on the vendor-specific objective evidence of fair value for those
elements using the residual method. Under the residual method, the total fair value of the undelivered elements,
as indicated by vendor-specific objective evidence, is recorded as unearned, and the difference between the total
arrangement fee and the amount recorded as unearned for the undelivered elements is recognized as revenue
related to delivered elements. Unearned revenue due to undelivered elements is recognized ratably on a straight-
line basis over the related product’s life cycle. Revenue related to Windows Vista is not subject to a similar
deferral because there are no significant undelivered elements.
Revenue from multi-year licensing arrangements are accounted for as subscriptions, with billings recorded as
unearned revenue and recognized as revenue ratably over the billing coverage period. Certain multi-year
licensing arrangements include rights to receive future versions of software product on a when-and-if-available
basis under Open and Select volume licensing programs (Software Assurance). In addition, other multi-year
licensing arrangements include a perpetual license for current products combined with rights to receive future
versions of software products on a when-and-if-available basis under Open, Select, and Enterprise Agreement
volume licensing programs. Premier support services agreements, MSN Internet Access subscriptions, Xbox Live,