Question No. 3: What effect did Microsoft’s revenue recognition policy have on its financial statements? Ignore any potential tax effects.
a) Estimate the amount of revenue that Microsoft would have been reported in each year from 1996 through 1999 if Microsoft had not adopted its new revenue recognition policy in 1996.
Answer:
Refer to the appendices.
b) Why do you think Microsoft decided to defer a portion of its revenues in fiscal year 1996?
Answer:
Since the company was generating significant revenues in the recent years, the management of the company decided to defer revenues as it is observed that the decision was mainly focused on smoothing the growth in revenues. The decision had affected the revenues and reduced it from 88% to 64% in the first quarter of 1996 and so on. But it was observed that the timings of the decision to defer the revenues seems appropriate as the launch of the Windows 95 in the market provides proper reason. As mentioned in the case study, the management of the Microsoft Corporation has decided to mix its internet and networking technologies in both Office 97 and Windows 95 with a slogan of no additional cost to customers.After that, as expected the sales of these products were boosted by these promises. However, the cost of development to the degree or level of providing these facilities were already been recorded and expensed out under the prevailing treatment. This policy of the managementoverstated and exaggerated the mismatching of expenses with revenues and violated the matching principle.
Question No. 5: In your opinion, did Microsoft provide its analysts’ with information that was intentionally overly pessimistic? Are there any benefits to the company to being outwardly pessimistic about its future prospects?
Answer:
In our opinion, the management’s decision of providing their analysts’ with the overly pessimistic information was a bit harsh, as it has been observed that the management was concerned about the high growth in the revenues and so decided to defer the revenues over the period of time. The benefits to the company may include the tax evasion. Since, increase in the revenues will lead to the increase in the profits hence increase in the taxation.
Question No. 6: Describe Microsoft’s overall financial reporting strategy. Why had the company adopted this strategy and why was the SEC concerned about it?
Answer:
The management of Microsoft Corporation was keen in hiding profits as theirextraordinary and remarkable success in the industry has led them to hide their prosperity with the competitors and the regulators.Since, the company always had problems with the regulatory involvement and interferences, there was likely an incentive or benefit to hide their performance.
The management of the Microsoft Corporationhas decided to go for a conservative accounting treatment and policies but on the other hand, they were still able to report strong earnings and the company was able to show its strength.
Since, the company was a leader in the industry, they have the ability to directly affect the accounting procedures and policies and develop their favorable practices within the industry and hence can make it difficult for their competitors to show strong performance.
The SEC shall surely be concerned about the policies and the position of Microsoft Corporation in the industry. The management of the company often suggested about the policy of reducing the revenues and earnings in order to avoid the potential drawbacks in the future....................................
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