Microsoft 2010 Annual Report Download - page 40

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39
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 through which we exercise significant influence
over but do not control the investee and are not the primary beneficiary of the investee’s activities are accounted for
using the equity method. Investments through 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 recorded 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.
Revenue for retail packaged products, products licensed to original equipment manufacturers (“OEMs”), and
perpetual licenses under certain volume licensing programs generally is recognized as products are shipped or made
available. A portion of the revenue related to Windows XP is deferred due to the right to receive unspecified
upgrades/enhancements of Microsoft Internet Explorer on a when-and-if-available basis. The amount of revenue
allocated to the unspecified upgrade/enhancement rights for Microsoft Internet Explorer is based on the vendor-
specific objective evidence of fair value for those elements using the residual method or relative fair value method
and the deferred revenue is recognized ratably on a straight-line basis over the Windows XP life cycle. Revenue
related to Windows Vista and Windows 7 is not subject to a similar deferral because there are no significant
undelivered elements. Revenue for products under the technology guarantee programs, which provide free or
significantly discounted rights to use upcoming new versions of a software product if an end user licenses existing
versions of the product during the eligibility period, is allocated between existing product and the new product, and
revenue allocated to the new product is deferred until that version is delivered. The revenue allocation is based on
vendor-specific objective evidence of fair value of both products.
Certain 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 (“Software Assurance”) and are
accounted for as subscriptions, with billings recorded as unearned revenue and recognized as revenue ratably over
the billing coverage period. Revenue from certain arrangements that allow for the use of a product or service over a
period of time without taking possession of software are also accounted for as subscriptions.
Revenue related to our Xbox 360 gaming and entertainment console, games published by us, and other hardware
components is generally recognized when ownership is transferred to the retailers. Revenue related to games