microsoft 2015 annual report

8/18/2019 Microsoft 2015 Annual Report

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Dear shareholders, customers, partners and colleagues:

It’s been a remarkable year for all of us at Microsoft, a year of change and opportunity for our company, our industryand the world.

We as a company stand for deeply understanding the needs of customers, translating that understanding intoproducts that people love and ultimately into the success our customers have with our products. It’s that last part that

is our key motivation. he entire Microsoft team is inspired to bring their best ideas and efforts every day to buildproducts people love, and to advance our mission to empower every person and every organization on theplanet to achieve more. !nd we’re seeing the impact.

We sharpened our focus this past fiscal year, prioriti"ing our talent and investments in areas where we havedifferentiation and potential for growth. We e#ecuted with financial discipline, with revenue of $%&.' billion, $'(.)billion of gross margin, $*+. billion in operating income and $*. billion in net income. !nd we significantlyincreased our total cash return to shareholders by nearly )( percent to $&.& billion.

We also made key decisions that are moving us forward as the company that builds best-in-class platforms andproductivity services for our mobile-first, cloud-first world.

We launched Windows *( as a service that unites your e#perience across a wide range of devices with

innovations that increase productivity and fle#ibility while remaining familiar.

/urface is proving that consumers and businesses alike want a tablet that can replace their laptop. Weachieved $&.' billion in /urface revenue 0 e1ually gratifying is the fact that /urface won fans while alsocreating a new hardware category.

We restructured our phone business, as we aligned our first-party hardware portfolio into the larger Windows ecosystem. 2oing forward we will focus on building premium, flagship phones for Windows fansand commercial customers.

We delivered 3ffice everywhere on all devices, and 3ffice &') consumer subscriptions grew to more than*) million, adding nearly *( million subscribers in the fiscal year. 4ommercial customers are rapidlyadopting this service with seats growing by 56 percent.

!"ure cloud platform revenue and compute usage increased by over *(( percent in the fourth 1uarter year over year.

We are gaining ground in business process applications with triple-digit growth of the Dynamics 47M3nline installed base and the overall Dynamics business growing revenue by double digits.

We delivered innovative new cloud services at an increasing pace spanning enterprise mobility, big data,cloud infrastructure and application developer services.

In this year’s letter, I want to look forward and paint a picture of how we’re building on this momentum while alsoreflecting on what we’ve learned.

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Empowerment. Microsoft, since its founding, has stood for individual and organi"ational empowerment. What’sdifferent about our company when compared with the industry is that we make things that help other people makethings. We also help them make things happen. We are well poised to ignite a new revolution in which digitaltechnologies democrati"e access to people across economic strata, organi"ations of all si"es, entrepreneurs,researchers and students everywhere. his is empowerment. o deliver on this promise of empowerment, we’vegalvani"ed around three interconnected ambitions that will, in turn, drive our segment financial reporting this fiscalyear.

1) Reinvent productivity and business processes. We are helping customers be even more effective with their individual time, while bringing together the power of teams and entire organi"ations to drive business outcomes andsuccess. ime is 1uickly becoming our scarcest commodity, and people and organi"ations need the right tools andservices that help them achieve increasingly comple# and challenging outcomes more 1uickly than ever.

We are building an array of productivity, communications, collaboration and business process applications so thatthey are optimi"ed for what our users want to achieve rather than being bound to any current product categorydefinitions. We let you pick up any device and create, collaborate, communicate or do business using our cloudservices. We enable you to complete your sales order by connecting seamlessly to 47M data within 3utlook. Weenable you to co-author in real time a student paper with a classmate or an 789 response with colleagues acrossyour organi"ation. We empower transparent communications and discovery of enterprise knowledge using tools suchas ammer, Delve and 9ower ;I. /kype and /kype for ;usiness enable you to have effective meetings withcustomers, partners and colleagues anywhere, anytime.

nterprise Mobility had a breakout year, and now more than *5,((( customers are using the service. >M/delivers infrastructure for enterprises of all si"es to manage and secure all of their identities, applications, data anddevices. In doing so, >M/ enables a new way for organi"ations to work in a world where they are increasingly mobileand using /aa/ services.


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We are helping transform businesses through the use of data. 4ortana !nalytics /uite provides customers andapplication developers with a fully managed big data and analytics suite that transforms data into intelligent action.hese capabilities are being used by customers across the full spectrum of industries throughout the economy. !ndwe are capitali"ing on the advent of the Internet of hings and the associated changes in business models thatre1uire increasingly advanced cloud data and analytics capabilities.

We made tremendous progress in our developer engagement this past year by delivering new innovative services todevelopers across all device platforms and also opening our technology to create more participation from opensource communities. @isual /tudio 3nline now provides a leading set of services for modern development.

I am e#cited about the growth opportunities ahead. We’ve broadened our addressable market by building andac1uiring technologies in key growth categories like security, data and analytics, while also delivering greater integration and support for =inu# and open source technologies such as Docker containers and dge, and gaming across Bbo# and 94s. It also opens up entirely new device categoriessuch as


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New growth. With all of this new innovation hitting the market, we are on track to reach two important goals for fiscalyear (*+: a commercial cloud revenue annual run rate of $( billion and * billion Windows *( active devices per month.

3ur approach to growth is simple 0 we’ll make products and services that are differentiated in markets that are largeand growing and pioneer new categories. We’ll continue the transition from a transactional relationship withcustomers to one that recogni"es the more consistent, lifetime value of a customer. >ach of our three ambitionspositions Microsoft to increase the lifetime value of our customers and win new customers in every part of the world.We work hard to earn the trust you’ve shown with your investment. 3ur past success and ongoing e#ecution make itpossible for us to deliver the financial performance, strength of balance sheet and return of capital today. It’s our passion for innovation and ambition in rapidly growing markets is what has the potential to deliver new value long intothe future.

Culture. /imply stated, I want Microsoft to be the greatest place to work for smart people who are hungry to make adifference. It’s been said that culture is the widening of the mind and of the spirit. We spend far too much of our livesat work not to find deep meaning in what we do. he broad aperture of our mission and appetite for growth invitesdiversity in all delineations so all employees can uni1uely contribute and bring their best every day. When people aredoing what they love and pursuing a mission they believe in with a growth mindset, I know both great innovation andgrowth will happen.

When I first started in my new role last year I told employees it was time for us to rediscover our soul 0 what makesus uni1ue. In Che /oul of a ew Machine,E author racy Fidder shows us that technology is nothing more than thecollective soul of those who built it. he technology is fascinating, but even more fascinating is the profoundobsession of its designers. In the year ahead we will continue to ask ourselves what are the challenges mankindfaces, how can technology help, and what is the contribution of MicrosoftG We can clearly see that there’s atransformation underway in our business and renewed spirit in our hallways. We are Aust starting to get a glimpse of how Microsoft technology empowers customers to succeed and make their own difference in the world. We are eager to see what we can do in the year ahead to drive greater growth and greater impact in our world.

/atya adella

4hief >#ecutive 3fficer

3ctober *%, (*)

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3ur common stock is traded on the !/D!? /tock Market under the symbol M/8. 3n Kuly 5, (*), there were*(%,65% registered holders of record of our common stock. he high and low common stock sales prices per sharewere as follows:

"uarter Ended

Septem6er 01 Decem6er 0

3 )arch 03 /une 01 Fiscal %ear

Fiscal %ear 2134

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Share $epurchases

3n /eptember *', (*&, our ;oard of Directors approved a share repurchase program authori"ing up to $6(.( billionin share repurchases. he share repurchase program became effective on 3ctober *, (*&, has no e#piration date,

and may be suspended or discontinued at any time without notice. his share repurchase program replaced theshare repurchase program that was announced on /eptember , ((+ and e#pired on /eptember &(, (*&. !s of Kune &(, (*), $*.% billion remained of our $6(.( billion share repurchase program. !ll repurchases were madeusing cash resources.

We repurchased the following shares of common stock under the above-described repurchase plans:

,In millions

Share

s mount Shares mount

Share

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%ear Ended /une 01!

2134 2135 ,a 2130

8irst 1uarter

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,In millions

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otal

284 7 30!218 *5) $ ',6(

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Ha (f the !75 million shares repurchased in fiscal year 2!*, !28 million shares were repurchased for $*.3 billionunder the share repurchase program appro6ed by our 9oard of -irectors on %eptember !, 2!0 and *7 millionshares were repurchased for $!.5 billion under the share repurchase program that was announced on%eptember 22, 28 and expired on %eptember 0, 2!0.

he above table e#cludes shares repurchased to settle statutory employee ta# withholding related to the vesting of stock awards.

Dividends

In fiscal year (*), our ;oard of Directors declared the following dividends:

Declaration Date

Dividend

(er Share

$ecord Date Total mount (ayment Date

,In millions

Septem6er 3:! 2135

7 1.03 Novem6er 21! 2135 7 2!45; Decem6er 33! 2135Decem6er 0! 2135

7 1.03 Fe6ruary 38! 2134 7 2!402 )arch 32! 2134)arch 31! 2134

7 1.03 )ay 23! 2134 7 2!58: /une 33! 2134/une 8! 2134

7 1.03 ugust 21! 2134 7 2!599Septem6er 31! 213

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he dividend declared on Kune %, (*) will be paid after the filing date of our 8orm *(-F and was included in other current liabilities as of Kune &(, (*).

In fiscal year (*6, our ;oard of Directors declared the following dividends:

Declaration Date

Dividend

(er Share


,In millions

/eptember *', (*&

$ (.+ovember *, (*

& $ ,&& December *, (*&ovember *%, (*&

$ (.+ 8ebruary (, (*6 $ ,& March *&, (*6

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$ (.+ May *), (*6 $ ,&(% Kune *, (*6Kune *(, (*6

$ (.+ !ugust *, (*6 $ ,&(5 /eptember **, (*6

he dividend declared on Kune *(, (*6 was included in other current liabilities as of Kune &(, (*6.

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Note 6out Forward>Loo?ing Statements

his report includes estimates, proAections, statements relating to our business plans, obAectives, and e#pectedoperating results that are Cforward-looking statementsE within the meaning of the 9rivate /ecurities =itigation 7eform

!ct of *%%), /ection 5! of the /ecurities !ct of *%&& and /ection *> of the /ecurities >#change !ct of *%&6.8orward-looking statements may appear throughout this report, including the following sections: C;usiness,ECManagement’s Discussion and !nalysis,E and C7isk 8actors.E hese forward-looking statements generally areidentified by the words Cbelieve,E CproAect,E Ce#pect,E Canticipate,E Cestimate,E Cintend,E Cstrategy,E Cfuture,E Copportunity,ECplan,E Cmay,E Cshould,E Cwill,E Cwould,E Cwill be,E Cwill continue,E Cwill likely result,E and similar e#pressions. 8orward-looking statements are based on current e#pectations and assumptions that are subAect to risks and uncertaintiesthat may cause actual results to differ materially. We describe risks and uncertainties that could cause actual resultsand events to differ materially in C7isk 8actorsE and CManagement’s Discussion and !nalysisE in our fiscal year (*)8orm *(-F. We undertake no obligation to update or revise publicly any forward-looking statements, whether because of new information, future events, or otherwise.

@#SINESS DESC$I(TI&N

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&ur vision

Microsoft is a technology company whose mission is to empower every person and every organi"ation on the planetto achieve more. 3ur strategy is to build best-in-class platforms and productivity services for a mobile-first, cloud-firstworld.

he mobile-first, cloud-first world is transforming the way individuals and organi"ations use and interact withtechnology. 3ur worldview for mobile-first is not about the mobility of devicesO it is centered on the mobility of e#periences that, in turn, are orchestrated by the cloud. 4loud computing and storage solutions provide users andenterprises with various capabilities to store and process their data in third-party data centers. Mobility encompassesthe rich collection of data, applications, and services that accompany our customers as they move from setting tosetting in their lives. We are transforming our businesses to enable Microsoft to lead the direction of thistransformation, and enable our customers and partners to thrive in this evolving world.

Ahat we oBBer

8ounded in *%5), we operate worldwide and have offices in more than *(( countries. We develop, license, andsupport a wide range of software products, services, and devices that deliver new opportunities, greater convenience, and enhanced value to people’s lives. We offer an array of services, including cloud-based services, toconsumers and businesses. We design, manufacture, and sell devices that integrate with our cloud-based services,and we deliver relevant online advertising to a global audience.

3ur products include operating systems for computing devices, servers, phones, and other intelligent devicesO server applications for distributed computing environmentsO cross-device productivity applicationsO business solutionapplicationsO desktop and server management toolsO software development toolsO video gamesO and onlineadvertising. We also design and sell hardware including 94s, tablets, gaming and entertainment consoles, phones,other intelligent devices, and related accessories. We offer cloud-based solutions that provide customers withsoftware, services, platforms, and content. We also provide consulting and product and solution support services,and we train and certify computer system integrators and developers.

The am6itions that drive us

o carry out our strategy, our research and development efforts focus on three interconnected ambitions:

7einvent productivity and business processes.

%


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;uild the intelligent cloud platform.

4reate more personal computing.

4ein6ent producti6ity and business processes

We believe we can significantly enhance the lives of our customers using our broad portfolio of communication,productivity, and information services that spans devices and platforms. 9roductivity will be the first and foremost

obAective, to enable people to meet and collaborate more easily, and to effectively e#press ideas in new ways. We willdesign applications as dual-use with the intelligence to partition data between work and life while respecting eachperson’s privacy choices. he foundation for these efforts will rest on advancing our leading productivity,collaboration, and business process tools including /kype, 3neDrive, 3neote, 3utlook, Word, >#cel, 9ower9oint,;ing, and Dynamics. With 3ffice &'), we provide these familiar industry-leading productivity and business processtools as cloud services, enabling access from anywhere and any device. his creates an opportunity to reach newcustomers, and e#pand the usage of our services by our e#isting customers.

We see opportunity in combining our offerings in new ways that are more conte#tual and personal, while ensuringpeople, rather than their devices, remain at the center of the digital e#perience. We will offer our services acrossecosystems and devices outside our own. !s people move from device to device, so will their content and therichness of their services. We are engineering our applications so users can find, try, and buy them in friction-freeways.

9uild the intelligent cloud platform

In deploying technology that advances business strategy, enterprises decide what solutions will make employeesmore productive, collaborative, and satisfied, and connect with customers in new and compelling ways. hey work tounlock business insights from a world of data. o achieve these obAectives, increasingly businesses look to leveragethe benefits of the cloud.


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reate more personal computing

Windows *( is the cornerstone of our ambition to usher in an era of more personal computing. We see the launch of Windows *( in Kuly (*) as a critical, transformative moment for the 4ompany because we will move from anoperating system that runs on a 94 to a service that can power the full spectrum of devices in our customers’ lives.We developed Windows *( not only to be familiar to our users, but more safe and secure, and always up-to-date. Webelieve Windows *( is more personal and productive, working seamlessly with functionality such as 4ortana, 3ffice,4ontinuum, and universal applications. We designed Windows *( to foster innovation 0 from us, our partners anddevelopers 0 through e#periences such as our new browser Microsoft >dge, across the range of e#isting devices,

and into entirely new device categories.

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3ur ambition for Windows *( is to broaden our economic opportunity through three key levers: an original e1uipmentmanufacturer HC3>ME ecosystem that creates e#citing new hardware designs for Windows *(O our own commitmentto the health and profitability of our first-party premium device portfolioO and moneti"ation opportunities such asservices, subscriptions, gaming, and search. 3ur 3>M partners are investing in an e#tensive portfolio of hardwaredesigns and configurations as they ready for Windows *(. ;y December (*), we anticipate the widest range of Windows hardware ever to be available.

With the launch of Windows *(, we are reali"ing our vision of a single, unified Windows operating system on whichdevelopers and 3>Ms can contribute to a thriving Windows ecosystem. We invest heavily to make Windows the

most secure, manageable, and capable operating system for the needs of a modern workforce. We are working tocreate a broad developer opportunity by unifying the installed base to Windows *( through upgrades and ongoingupdates, and by enabling universal Windows applications to run across all device targets. !s part of our strategicobAectives, we are committed to designing and marketing first-party devices to help drive innovation, create newcategories, and stimulate demand in the Windows ecosystem, including across 94s, phones, tablets, consoles,wearables, large multi-touch displays, and new categories such as the stablishing the Windows platform across the 94, tablet, phone, server, other devices, and the cloud todrive a thriving ecosystem of developers, unify the cross-device user e#perience, and increase agilitywhen bringing new advances to market.

;uilding and running cloud-based services in ways that unleash new e#periences and opportunities for businesses and individuals.

Developing new devices that have increasingly natural ways to interact with them, including speech, pen,gesture, and augmented reality holograms.

!pplying machine learning to make technology more intuitive and able to act on our behalf, instead of atour command.

We believe the breadth of our products and services portfolio, our large global partner and customer base, our growing ecosystem, and our ongoing investment in innovation position us to be a leader in these areas anddifferentiate ourselves from competitors.

39>7!I2 />2M>/

We operate our business in si# segments. 3ur Devices and 4onsumer HCDL4E segments include DL4 =icensing,4omputing and 2aming


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3n !pril ), (*6, we ac1uired substantially all of okia 4orporation’s HCokiaE Devices and /ervices ;usinessHCD/E. We report the financial performance of the ac1uired business in our 9hone Ms, which they pre-install on the devices they sell. In addition to computing device market volume, Windowsrevenue is impacted by:

he mi# of computing devices based on form factor and screen si"e.

Differences in device market demand between developed markets and emerging markets.

!ttachment of Windows to devices shipped.

4ustomer mi# between consumer, small- and medium-si"ed businesses, and large enterprises.

4hanges in inventory levels in the 3>M channel.

9ricing changes and promotions, pricing variation that occurs when the mi# of devices manufacturedshifts from local and regional system builders to large, multinational 3>Ms, and different pricing of Windows versions licensed.

9iracy.

he versions of 3ffice included in our DL4 =icensing segment are designed to increase personal productivity througha range of programs, services, and software solutions. 2rowth depends on our ability to add value to the coreproduct set and to continue to e#pand our product offerings in other areas such as content management andcollaboration. 3ffice 4onsumer revenue is impacted by sales to customers that buy 3ffice with their new devices andby product launches, as well as the transition to 3ffice &') 4onsumer, our subscription-based cloud service thatprovides access to 3ffice plus other productivity services. 3ffice &') 4onsumer revenue is included in our DL43ther segment.

*&


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he Windows 9hone operating system is designed to bring users closer to the people, applications, and content theyneed. !s noted above, prior to our ac1uisition of D/, Microsoft and okia Aointly created new mobile products andservices and e#tended established products and services to new markets through a strategic alliance. Windows9hone revenue associated with this contractual relationship was reflected in DL4 =icensing. Windows 9honerevenue also includes revenue from licensing mobile-related patents.

4ompetition

he Windows operating system faces competition from various software products and from alternative platforms anddevices, mainly from !pple and 2oogle. We believe Windows competes effectively by giving customers choice,value, fle#ibility, security, an easy-to-use interface, compatibility with a broad range of hardware and softwareapplications, including those that enable productivity, and the largest support network for any operating system.

4ompetitors to the versions of 3ffice included in DL4 =icensing include global application vendors such as !pple and2oogle, numerous web-based and mobile application competitors, and local application developers in !sia and>urope. !pple distributes versions of its pre-installed application software, such as email, note-taking, and calendar products, through its 94s, tablets, and phones. 2oogle provides a hosted messaging and productivity suite. Web-based offerings competing with individual applications can also position themselves as alternatives to our products.We believe our products compete effectively based on our strategy of providing powerful, fle#ible, secure, and easyto use solutions that work across a variety of devices.

Windows 9hone operating system faces competition from i3/, !ndroid, and ;lackberry operating systems. Windows9hone competes based on differentiated user interface, personali"ed applications, compatibility with Windows 94sand tablets, and other uni1ue capabilities.

omputing and


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Phone Hardware

he principal products provided by the 9hone lectronic !rts and !ctivision ;li""ard.

*)


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Commercial

3ur 4ommercial segments develop, market, and support software and services designed to increase individual,team, and organi"ational productivity and efficiency, including simplifying everyday tasks through seamlessoperations across the user’s hardware and software. 4ommercial is made up of the 4ommercial =icensing and4ommercial 3ther segments.

ommercial ;icensing

he principal products and services provided by the 4ommercial =icensing segment are: server products, includingWindows /erver, Microsoft /?= /erver, @isual /tudio, /ystem 4enter, and related 4lient !ccess =icenses HC4!=sEOMicrosoft 3ffice for business, including 3ffice, >#change, /hare9oint, /kype for ;usiness, and related 4!=s HC3ffice4ommercialEO volume licensing of the Windows operating system, e#cluding academic HCWindows 4ommercialEOMicrosoft Dynamics business solutions, e#cluding Dynamics 47M 3nlineO Windows >mbeddedO and /kype.

3ur server products are designed to make information technology professionals and developers and their systemsmore productive and efficient. /erver software is integrated server infrastructure and middleware designed to supportsoftware applications built on the Windows /erver operating system. his includes the server platform, database,business intelligence, storage, management and operations, virtuali"ation, service-oriented architecture platform,security, and identity software. We also license standalone and software development lifecycle tools for softwarearchitects, developers, testers, and proAect managers. 7evenue comes from purchases through volume licensing

programs, licenses sold to 3>Ms, and retail packaged product. 4!=s provide access rights to certain server products, including Windows /erver and /?= /erver. 4!= revenue is reported along with the associated server product.

he versions of 3ffice in 4ommercial =icensing are designed to increase personal, team, and organi"ationalproductivity through a range of programs, services, and software solutions. 3ffice 4ommercial revenue is mainlyaffected by a combination of the demand from commercial customers for volume licensing and software assuranceand the number of information workers in a licensed enterprise. 3ffice 4ommercial revenue growth depends on our ability to add value to the core product set and to continue to e#pand our product offerings in other areas such ascontent management, enterprise search, collaboration, unified communications, and business intelligence. 4!=sprovide access rights to certain 3ffice 4ommercial products, including >#change, /hare9oint, and /kype for ;usiness, formerly =ync. 4!= revenue is reported along with the associated 3ffice product.

Windows 4ommercial includes volume licensing of the Windows operating system, e#cluding academic. Windows4ommercial revenue is affected mainly by the demand from commercial customers for volume licensing and softwareassurance, often reflecting the number of information workers in a licensed enterprise, and is therefore relativelyindependent of the number of 94s sold in a given year.

Microsoft Dynamics products provide business solutions for financial management, customer relationshipmanagement, supply chain management, and analytics applications for small and mid-si"e businesses, largeorgani"ations, and divisions of global enterprises. 7evenue is largely driven by the number of information workerslicensed.

Windows >mbedded e#tends the power of Windows and the cloud to intelligent systems, including the Internet of hings HCIoE, by delivering speciali"ed operating systems, tools, and services.

/kype is designed to connect friends, family, clients, and colleagues through a variety of devices. 7evenue is largelydriven by the sale of minutes, subscriptions, and advertising.

4ompetition

3ur server products face competition from a wide variety of server operating systems and applications offered bycompanies with a range of market approaches. @ertically integrated computer manufacturers such as


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compatible applications now produced by many commercial and non-commercial software developers. ! number of companies, such as 7ed nterprise >dition that competes with our enterprise-wide computingsolutions. 4ommercial competitors for our server applications for 94-based distributed clientNserver environmentsinclude 4! echnologies, I;M, and 3racle. 3ur web application platform software competes with open source

software such as !pache, =inu#, My/?=, and 9nterprise /ervices, including 9remier /upport /ervices and Microsoft 4onsulting /ervices.

3ffice &') 4ommercial is an online services offering that includes Microsoft 3ffice, >#change, /hare9oint, and/kype for ;usiness, and is available across a variety of devices and platforms.

Microsoft !"ure is a scalable cloud platform with computing, networking, storage, database, and management, alongwith advanced services such as analytics, and comprehensive solutions such as >nterprise Mobility /uite. Microsoft

!"ure also includes a fle#ible platform that helps developers build, deploy, and manage enterprise, mobile, web, andIo applications, for any platform or device without having to worry about the underlying infrastructure. Microsoft

*5


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!"ure enables customers to devote more resources to development and use of applications that benefit their organi"ations, rather than managing on-premises hardware and software.

Dynamics 47M 3nline is designed to provide customer relationship management and analytics applications for smalland mid-si"e businesses, large organi"ations, and divisions of global enterprises. 7evenue is largely driven by thenumber of information workers licensed.

>nterprise /ervices, including 9remier /upport /ervices and Microsoft 4onsulting /ervices, assist customers indeveloping, deploying, and managing Microsoft server and desktop solutions and provide training and certification todevelopers and information technology professionals on various Microsoft products.

4ompetition

4ompetitors to 3ffice &') 4ommercial are the same as those discussed above for 3ffice 4ommercial.

Microsoft !"ure faces diverse competition from companies such as !ma"on, 2oogle, I;M, 3racle, /alesforce.com,@Mware, and open source offerings. !"ure competes by enabling deployment of e#isting data centers with our publiccloud into a single, cohesive infrastructure, and runs at a scale that meets the needs of businesses of all si"es andcomple#ities.

Dynamics 47M 3nline primarily competes with /alesforce.com’s on-demand 47M offerings.

he >nterprise /ervices business competes with a wide range of companies that provide strategy and businessplanning, application development, and infrastructure services, including multinational consulting firms and smallniche businesses focused on specific technologies.

39>7!I3/

We have operations centers that support all operations in their regions, including customer contract and order processing, credit and collections, information processing, and vendor management and logistics. he regionalcenter in Ireland supports the >uropean, Middle >astern, and !frican regionO the center in /ingapore supports theKapan, India, 2reater 4hina, and !sia-9acific regionO and the centers in 8argo, orth Dakota, 8ort =auderdale,8lorida, 9uerto 7ico, 7edmond, Washington, and 7eno, evada support =atin !merica and orth !merica. Inaddition to the operations centers, we also operate data centers throughout the !mericas, !ustralia, >urope, and

!sia.

o serve the needs of customers around the world and to improve the 1uality and usability of products in internationalmarkets, we locali"e many of our products to reflect local languages and conventions. =ocali"ing a product mayre1uire modifying the user interface, altering dialog bo#es, and translating te#t.

We operate manufacturing facilities for the production and customi"ation of phones, predominantly in @ietnam.

3ur Bbo# consoles, /urface, first-party video games, Microsoft 94 accessories, and other hardware are primarilymanufactured by third-party contract manufacturers. We generally have the ability to use other manufacturers if acurrent vendor becomes unavailable or unable to meet our re1uirements.

*+


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7>/>!74< !D D>@>=39M>

During fiscal years (*), (*6, and (*&, research and development e#pense was $*.( billion, $**.6 billion, and$*(.6 billion, respectively. hese amounts represented *&Q of revenue in each of those years. We plan to continueto make significant investments in a broad range of research and development efforts.

(roduct and Service Development and Intellectual (roperty

We develop most of our products and services internally through three engineering groups.

)pplications and %er6ices ngineering


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While our main research and development facilities are located in 7edmond, Washington, we also operate researchand development facilities in other parts of the J./. and around the world, including 4anada, 4hina, Denmark,8inland, 8rance, 2ermany, India, Ireland, Israel, Kapan, and the Jnited Fingdom, among others. his globalapproach helps us remain competitive in local markets and enables us to continue to attract top talent from acrossthe world. We generally fund research at the corporate level to ensure that we are looking beyond immediate productconsiderations to opportunities further in the future. We also fund research and development activities at thebusiness segment level. Much of our business segment level research and development is coordinated with other segments and leveraged across the company.

In addition to our main research and development operations, we also operate Microsoft 7esearch. Microsoft7esearch is one of the world’s largest computer science research organi"ations, and works in close collaborationwith top universities around the world to advance the state-of-the-art in computer science, providing us a uni1ueperspective on future technology trends and contributing to our innovation.

DI/7I;JI3, /!=>/, !D M!7F>I2

We market and distribute our products and services through the following channels: 3>MsO distributors and resellersOonlineO and Microsoft retail stores. 3ur sales force performs a variety of functions, including working directly withenterprises and public sector organi"ations worldwide to identify and meet their software re1uirementsO managing3>M relationshipsO and supporting solution integrators, independent software vendors, and other partners whoengage directly with our customers to perform sales, consulting, and fulfillment functions for our products.

&E)s

We distribute software through 3>Ms that pre-install our software on new 94s, tablets, servers, phones, and other intelligent devices that they sell. he largest component of the 3>M business is the Windows operating system pre-installed on computing devices. 3>Ms also sell hardware pre-installed with other Microsoft products, including server and embedded operating systems and applications such as our Microsoft 3ffice suite. In addition to these products,we also market our services through 3>Ms and service bundles such as Windows with ;ing or Windows with 3ffice&') subscription.

here are two broad categories of 3>Ms. he largest 3>Ms, many of which operate globally, are referred to asCDirect 3>Ms,E as our relationship with them is managed through a direct agreement between Microsoft and the3>M. We have distribution agreements covering one or more of our products with virtually all of the multinational

3>Ms, including !cer, !/J/eF, Dell, 8uAitsu, Ms. he second broad category of 3>Ms consists of lower-volume 94 manufacturers Halso calledCsystem buildersE, which source their Microsoft software for pre-installation and local redistribution primarily throughthe Microsoft distributor channel rather than through a direct agreement or relationship with Microsoft.

Distri6utors and $esellers

Many organi"ations that license our products and services through enterprise agreements transact directly with us,with sales support from solution integrators, independent software vendors, web agencies, and developers thatadvise organi"ations on licensing our products and services HC>nterprise !greement Direct !dvisorsE, or C>D!sE.

3rgani"ations also license our products and services indirectly, primarily through license solutions partners HC=/9sE,distributors, value-added resellers HC@!7sE, 3>Ms, system builder channels, and retailers. !lthough each type of

reselling partner reaches organi"ations of all si"es, =/9s are primarily engaged with large organi"ations, distributorsresell primarily to @!7s, and @!7s typically reach small-si"ed and medium-si"ed organi"ations. >D!s typically arealso authori"ed as =/9s and operate as resellers for our other licensing programs, such as the /elect 9lus and 3penlicensing programs discussed under C=icensing 3ptionsE below. /ome of our distributors include Ingram Micro andech Data, and some of our largest resellers include 4DW, Dell, Insight >nterprises, and /oftware


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retail stores. 3ur phones are also distributed through global wireless communications carriers. We have a network of field sales representatives and field support personnel that solicits orders from distributors and resellers, andprovides product training and sales support.

&nline

!lthough on-premises software continues to be an important part of our business, increasingly we are deliveringadditional value to customers through cloud-based services. We provide online content services to consumersthrough ;ing, M/ portals and channels, 3ffice &'), Windows 9hone /tore, Bbo# =ive, 3utlook.com, 3neDrive,/kype, and Windows /tore. We also provide commercial cloud-based services such as Dynamics 47M 3nline,Microsoft !"ure, and 3ffice &'). 3ther services delivered online include our online advertising platform with offeringsfor advertisers and publishers, as well as Microsoft Developer etwork subscription content and updates, periodicproduct updates, and online technical and practice readiness resources to support our partners in developing andselling our products and solutions. !s we increasingly deliver online services, we sell many of these cloud-basedservices through our enterprise agreements and have also enabled new sales programs to reach small and medium-si"ed businesses. hese programs include direct sales, direct sales supported by a large network of partner advisors, and resale of services through operator channels, such as telephone, cell, and cable providers.

We also sell our products through our Microsoft retail stores and online marketplaces.

=I4>/I2 39I3/

We license software to organi"ations under agreements that allow the customer to ac1uire multiple licenses of products and services. 3ur agreements for organi"ations to ac1uire multiple licenses of products and services aredesigned to provide them with a means of doing so without having to ac1uire separate licenses through retailchannels. In delivering organi"ational licensing agreements to the market, we use different programs designed toprovide fle#ibility for organi"ations of various si"es. While these programs may differ in various parts of the world,generally they include those discussed below.

Customer Licensing (rograms

(pen ;icensing

Designed primarily for small-to-medium organi"ations, the 3pen 9rograms allow customers to ac1uire perpetual or

subscription licenses and, at the customer’s election, rights to future versions of software products over a specifiedtime period Htwo or three years depending on the 3pen 9rograms used. he offering that conveys rights to futureversions of certain software products over the contract period is called software assurance. /oftware assurance alsoprovides support, tools, and training to help customers deploy and use software efficiently. he 3pen 9rograms haveseveral variations to fit customers’ diverse ways of purchasing. Jnder the 3pen =icense 9rogram, customers canac1uire licenses only or licenses with software assurance, andNor renew software assurance upon the e#piration

of other e#isting volume licensing agreements. Jnder the 3pen @alue and 3pen @alue /ubscription programs,customers can ac1uire perpetual or subscription licenses, respectively, over a three-year period. 3nline services areavailable in each of the 3pen 9rograms.

/icrosoft Product and %er6ices )greement

/uited for medium-to-large organi"ations, the Microsoft 9roducts and /ervices !greement HCM9/!E providescustomers the ability to purchase online services subscriptions, software licenses, software licenses with softwareassurance, and renewals of software assurance through a single agreement. /oftware assurance and onlineservices subscriptions are generally available up to three years.

%elect Plus ;icensing

Designed primarily for medium-to-large organi"ations, the /elect 9lus 9rogram allows customers to ac1uireperpetual licenses and, at the customer’s election, software assurance over a specified time period Hgenerally threeyears or less. /imilar to 3pen 9rograms, the /elect 9lus 9rogram allows customers to ac1uire licenses only, ac1uirelicenses with software assurance, or renew software assurance upon the e#piration of e#isting volume licensing

*


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agreements. ! subset of online services are also available for purchase through the /elect 9lus 9rogram, andsubscriptions are generally structured with terms between one and three years. In Kuly (*6, we announced that wewould no longer sign new /elect 9lus agreements with commercial organi"ations starting Kuly (*), and encouragedcustomers who want to purchase licenses to transition to the M9/!. We e#pect /elect 9lus business to transition tothe M9/! within a few years.

nterprise )greement ;icensing

Designed primarily for medium- and large-si"ed organi"ations that want to ac1uire licenses to online services andNor software products, along with software assurance and obtain the best value by standardi"ing on a common Iplatform across the organi"ation. >nterprises can elect to ac1uire perpetual licenses or, under the >nterprise/ubscription option, can ac1uire non-perpetual, subscription licenses for a specified period Hgenerally three years.3nline services are also available for purchase through the enterprise agreement and subscriptions are generallystructured with three-year terms.

Customer Licensing (rograms &nline Services &nly

Microsoft 3nline /ubscription !greement is designed to enable small and medium-si"ed businesses to easilypurchase Microsoft 3nline /ervices. he program allows customers to ac1uire monthly or annual subscriptions for cloud-based services.

(artner (rograms

he Microsoft 4loud /olution 9rovider program enables partners to directly manage their entire Microsoft cloudcustomer lifecycle. 9artners in this program use dedicated in-product tools to directly provision, manage, and supporttheir customer subscriptions. 9artners can easily package their own tools, products, and services, and combine theminto one monthly or annual customer bill.

he Microsoft /ervices 9rovider =icense !greement is a program targeted at service providers and independentsoftware vendors allowing these partners to provide software services and hosted applications to their endcustomers. !greements are generally structured with a three-year term, and partners are billed monthly based uponconsumption.

Microsoft 3nline /ervices 7eseller !greement is a program enabling partners to package Microsoft online services

with the partners’ services.

Independent /oftware @endor 7oyalty 9rogram is a program that enables partners to use Microsoft software in their own software programs.

4J/3M>7/

3ur customers include individual consumers, small- and medium-si"ed organi"ations, large global enterprises, publicsector institutions, Internet service providers, application developers, and 3>Ms. o sales to an individual customer accounted for more than *(Q of fiscal year (*), (*6, or (*& revenue. 3ur practice is to ship our productspromptly upon receipt of purchase orders from customersO conse1uently, backlog is not significant.

>M9=3>>/

!s of Kune &(, (*), we employed appro#imately **+,((( people on a full-time basis, '(,((( in the J./. and )+,(((internationally. 3f the total employed people, &%,((( were in product research and development, %,((( in sales andmarketing, &,((( in product support and consulting services, +,((( in manufacturing and distribution, and *(,((( ingeneral and administration. In Kune (*), management approved a restructuring plan that will eliminate up to 5,+((positions in fiscal year (*', primarily in our 9hone I837M!I3


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3ur Internet address is www.microsoft.com. !t our Investor 7elations website, www.microsoft.comNinvestor, we makeavailable free of charge a variety of information for investors. 3ur goal is to maintain the Investor 7elations websiteas a portal through which investors can easily find or navigate to pertinent information about us, including:

3ur annual report on 8orm *(-F, 1uarterly reports on 8orm *(-?, current reports on 8orm +-F, and anyamendments to those reports, as soon as reasonably practicable after we electronically file that materialwith or furnish it to the /ecurities and >#change 4ommission HC/>4E.

Information on our business strategies, financial results, and key performance indicators.

!nnouncements of investor conferences, speeches, and events at which our e#ecutives talk about our product, service, and competitive strategies. !rchives of these events are also available.

9ress releases on 1uarterly earnings, product and service announcements, legal developments, andinternational news.

4orporate governance information including our articles of incorporation, bylaws, governance guidelines,committee charters, codes of conduct and ethics, global corporate citi"enship initiatives, and other governance-related policies.

3ther news and announcements that we may post from time to time that investors might find useful or

interesting.

3pportunities to sign up for email alerts and 7// feeds to have information pushed in real time.

he information found on our website is not part of this or any other report we file with, or furnish to, the />4. Inaddition to these channels, we use social media to communicate to the public. It is possible that the information wepost on social media could be deemed to be material to investors. We encourage investors, the media, and othersinterested in Microsoft to review the information we post on the social media channels listed on our Investor 7elationswebsite.

)NE)ENTS DISC#SSI&N ND NL%SIS &F FINNCIL C&NDITI&N ND

$ES#LTS &F &(E$TI&NS

he following Management’s Discussion and !nalysis HCMDL!E is intended to help the reader understand the resultsof operations and financial condition of Microsoft 4orporation. MDL! is provided as a supplement to, and should beread in conAunction with, our consolidated financial statements and the accompanying otes to 8inancial /tatements.

3@>7@I>W

Microsoft is a technology leader focused on building best-in-class platforms and productivity services for a mobile-first, cloud-first world. We strive to empower every person and every organi"ation on the planet to achieve more. Wedevelop and market software, services, and devices that deliver new opportunities, greater convenience, and

enhanced value to people’s lives.

We generate revenue by developing, licensing, and supporting a wide range of software products, by offering anarray of services, including cloud-based services to consumers and businesses, by designing, manufacturing, andselling devices that integrate with our cloud-based services, and by delivering relevant online advertising to a globalaudience. 3ur most significant e#penses are related to compensating employees, designing, manufacturing,marketing, and selling our products and services, datacenter costs in support of our cloud-based services, andincome ta#es.

Much of our focus in fiscal year (*) was toward transforming our organi"ation to support our strategy of buildingbest-in-class platforms and productivity services for a mobile-first, cloud-first world. We achieved productdevelopment milestones, implemented organi"ational changes, and made strategic and tactical moves to support the

&


25/131

three central ambitions that support our strategy: reinventing productivity and business processesO building theintelligent cloud platformO and creating more personal computing.


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Economic Conditions! Challenges! and $is?s

he market for software, devices, and cloud-based services is dynamic and highly competitive. 3ur competitors aredeveloping new software and devices, while also deploying competing cloud-based services for consumers andbusinesses. he devices and form factors customers prefer evolve rapidly, and influence how users access servicesin the cloud, and in some cases, the user’s choice of which suite of cloud-based services to use. We must continue toevolve and adapt over an e#tended time in pace with this changing environment. he investments we are making indevices and infrastructure will increase our operating costs and may decrease our operating margins.

3ur success is highly dependent on our ability to attract and retain 1ualified employees. We hire a mi# of universityand industry talent worldwide. Microsoft competes for talented individuals globally by offering an e#ceptional workingenvironment, broad customer reach, scale in resources, the ability to grow one’s career across many differentproducts and businesses, and competitive compensation and benefits. !ggregate demand for our software, services,and devices is correlated to global macroeconomic and geopolitical factors, which remain dynamic.

3ur international operations provide a significant portion of our total revenue and e#penses. Many of these revenueand e#penses are denominated in currencies other than the J./. dollar. !s a result, changes in foreign e#changerates may significantly affect revenue and e#penses. 7ecently, the significant strengthening of the J./. dollar relativeto certain foreign currencies has negatively impacted reported revenue and reduced reported e#penses from our international operations.

/ee a discussion of these factors and other risks under 7isk 8actors in our fiscal year (*) 8orm *(-F.

Seasonality

3ur revenue historically has fluctuated 1uarterly and has generally been highest in the second 1uarter of our fiscalyear due to corporate calendar year-end spending trends in our maAor markets and holiday season spending byconsumers. 3ur 4omputing and 2aming


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3n !pril ), (*6, we ac1uired substantially all of okia 4orporation’s HCokiaE Devices and /ervices businessHCD/E. D/ has been included in our consolidated results of operations since the ac1uisition date. We report thefinancial performance of the ac1uired business in our 9hone M licensing HCWindows 3>ME and other non-volume licensing and academic volume licensing of the Windows operating system and related softwareOnon-volume licensing of Microsoft 3ffice, comprising the core 3ffice product set, for consumers HC3ffice4onsumerEO Windows 9hone operating system, including related patent licensingO and certain other patent licensing revenue.

Computing and aming *ardware, comprising: Bbo# gaming and entertainment consoles andaccessories, second-party and third-party video game royalties, and Bbo# =ive subscriptions HCBbo#9latformEO /urface devices and accessories HC/urfaceEO and Microsoft 94 accessories.

(hone *ardware! comprising: =umia phones and other non-=umia phones, beginning with our ac1uisitionof D/.

DC &ther , comprising: 7esale, consisting of transactions in our Windows /tore and Bbo# marketplaceOsearch advertisingO display advertisingO 3ffice &') 4onsumer, comprising 3ffice &')


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/JMM!7 7>/J=/ 38 39>7!I3/

,In millions! e-cept percentages and per shareamounts

2134 2135 2130

(ercentageChange 213

4+ersus 2135


5+ersus 2130

7evenue

7 80!49

1 $ +',+&

& $ 55,+6

% +Q *Q2ross margin

7 :1!452 $ )%,5)) $ )5,6'6 *Q 6Q3perating income

7 39!3:3 $ 5,5)% $ ',5'6 H&)Q 6QDiluted earnings per share

7 3.59 $ .'& $ .)+ H66Q Q

5


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@iscal year 2!5 compared with fiscal year 2!*

7evenue increased $'.5 billion or +Q, reflecting a full year of 9hone M, licensing of Windows 9hone operatingsystem, and 3ffice 4onsumer. 7evenue included an unfavorable foreign currency impact of appro#imately Q.

2ross margin increased $5+5 million or *Q, primarily due to higher revenue, offset in part by a $'.( billion or Qincrease in cost of revenue. 4ost of revenue increased, mainly due to 9hone


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/>2M> 7>/J=/ 38 39>7!I3/

Devices and Consumer

,In millions! e-cept percentages

2134 2135 2130

(ercentage

Change 2134+ersus 2135

(ercentage

Change 2135+ersus 2130

$evenue

=icensing

7 35!8:

8 $ *%,)

+ $ *%,6

5 H&Q *Q


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ot meaningful


DL4 revenue increased $&.% billion or *(Q, primarily due to a full year of 9hone M, licensing of Windows 9hone operating system, and 3ffice 4onsumer. 4ollectively, 3ffice 4onsumer and 3ffice &') 4onsumer revenue declined *5Q. DL4 gross margin decreased $*.6 billion or 5Q, reflecting higher cost of revenue, offset in part by higher revenue. DL4 cost of revenue increased $).& billion or &(Q, mainly due to afull year of 9hone M non-9ro revenue. Windows 3>M 9ro revenue decreased,primarily due to benefits reali"ed from the e#piration of support for Windows B9 in the prior year, and declines in thebusiness 94 market. Windows 3>M non-9ro revenue declined, mainly due to an increased mi# of opening pricepoint devices sold, and declines in the consumer 94 market. 7evenue from licensing of Windows 9hone operatingsystem decreased $*.6 billion or ))Q, primarily due to prior year revenue associated with our Aoint strategic initiatives

with okia that terminated when we ac1uired D/. 3ffice 4onsumer revenue declined $%6' million or %Q,reflecting the transition of customers to 3ffice &') 4onsumer, where revenue is recogni"ed ratably, and declines inthe Kapan 94 market, where 3ffice is predominantly pre-installed on new 94s.

DL4 =icensing gross margin decreased $&.' billion or (Q, primarily due to the decline in revenue, offset in part by a$%%( million or 65Q decrease in cost of revenue. DL4 =icensing cost of revenue decreased, mainly due to a $5++million decline in traffic ac1uisition costs, driven by prior year costs associated with our Aoint strategic initiatives withokia that terminated when we ac1uired D/.

&(


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4omputing and 2aming


33/131

Windows + in the prior year. Windows 3>M revenue declined $*&' million or *Q, due to continued softness in theconsumer 94 market, offset in part by a *Q increase in 3>M 9ro revenue. 3ffice 4onsumer revenue declined $6%million or 5Q, reflecting the transition of customers to 3ffice &') 4onsumer as well as continued softness in theconsumer 94 market. he declines in Windows 3>M and 3ffice 4onsumer revenue were partially offset by benefitsreali"ed from ending our support for Windows B9 in !pril (*6.

DL4 =icensing gross margin increased $6)6 million or &Q, primarily due to a $&)& million or *6Q decrease in cost of revenue. DL4 =icensing cost of revenue decreased, mainly due to a $6** million or &Q decline in traffic ac1uisitioncosts.

4omputing and 2aming


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Commercial


2134 2135 2130


4+ersus 2135


5+ersus 2130

$evenue

=icensing

7 53!10

8 $ 6,(+

) $ &%,55

+ HQ 'Q3ther

31!90: 5,)6' ),''* 66Q &&Q

otal 4ommercial revenue

7 43!9;4 $ 6%,'&* $ 6),6&% )Q %Q

ross )argin

=icensing

7 0;!901 $ &+,'*) $ &',+( HQ 'Q3ther

5!388 *,+)) % *'Q *(*Q

otal 4ommercial gross margin

7 52!128 $ 6(,65( $ &5,( 6Q %Q


4ommercial revenue increased $. billion or )Q, mainly due to growth in revenue from our 4ommercial 4loud and

server products, offset in part by a decline in 3ffice 4ommercial. 4ommercial revenue included an unfavorableforeign currency impact of appro#imately Q. 3ur server products and services grew %Q. 3ur 3ffice 4ommercialproducts and services declined *Q. 4ommercial gross margin increased $*.' billion or 6Q.

4ommercial =icensing

4ommercial =icensing revenue decreased $*.( billion or Q, primarily due to a decline in revenue from 3ffice4ommercial, offset in part by increased revenue from our server products. 4ommercial =icensing revenue includedan unfavorable foreign currency impact of appro#imately Q. 3ffice 4ommercial revenue declined $.) billion or *&Q, due to lower transactional license volume, reflecting a decline in the business 94 market following Windows B9end of support in the prior year, customers transitioning to 3ffice &') 4ommercial, and declines in Kapan. 3ur server products revenue grew $*.* billion or 5Q, primarily driven by higher premium mi# of Microsoft /?= /erver, Windows/erver, and /ystem 4enter.

4ommercial =icensing gross margin decreased $5+) million or Q, in line with revenue.

4ommercial 3ther

4ommercial 3ther revenue increased $&.& billion or 66Q, primarily due to higher 4ommercial 4loud revenue.4ommercial 3ther revenue included an unfavorable foreign currency impact of appro#imately &Q. 4ommercial 4loudrevenue grew $&.( billion or *('Q, mainly due to subscriber growth and higher premium mi# of 3ffice &')4ommercial, as well as continued revenue growth from Microsoft !"ure.

&&


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4ommercial 3ther gross margin increased $.& billion or *'Q, due to higher revenue, offset in part by a $%6'million or *5Q increase in cost of revenue. he increase in 4ommercial 3ther cost of revenue was mainly due tohigher datacenter and other online infrastructure e#penses, reflecting increased datacenter capacity to serve our growing 4ommercial 4loud.

@iscal year 2!* compared with fiscal year 2!0

4ommercial revenue increased $6. billion or %Q, mainly due to growth in revenue from our on-premises licensingbusinesses and 4ommercial 4loud. 4ollectively, 3ffice 4ommercial and 3ffice &') 4ommercial revenue grew 5Q.4ollectively, our server products revenue, including Microsoft !"ure, grew *&Q. 4ommercial gross margin increased$&.& billion or %Q, in line with revenue.

4ommercial =icensing

4ommercial =icensing revenue increased $.& billion or 'Q, primarily due to increased revenue from our server products, as well as higher revenue from Windows 4ommercial and 3ffice 4ommercial. 3ur server products revenuegrew $*.5 billion or **Q, driven primarily by increased sales of Microsoft /?= /erver. Windows 4ommercial revenuegrew $&&6 million or *(Q, mainly due to increased renewal rates and transactional purchases driven by Windows B9end of support. 3ffice 4ommercial revenue grew $*% million or *Q, and was impacted by customers transitioning to3ffice &') 4ommercial.

4ommercial =icensing gross margin increased $.& billion or 'Q, in line with revenue growth.

4ommercial 3ther

4ommercial 3ther revenue increased $*.% billion or &&Q, due to higher 4ommercial 4loud revenue and >nterprise/ervices revenue. 4ommercial 4loud revenue grew $*.) billion or **'Q, mainly due to higher revenue from 3ffice&') 4ommercial. >nterprise /ervices revenue grew $&+( million or %Q, mainly due to growth in 9remier /upport/ervices.

4ommercial 3ther gross margin increased $%&& million or *(*Q, due to higher revenue, offset in part by a $%)million or (Q increase in cost of revenue. he increase in cost of revenue was mainly due to higher datacenter e#penses, reflecting support of our growing 4ommercial 4loud.

Corporate and &ther


2134 2135 2130


4+ersus 2135


5+ersus 2130

7evenue

7 21

5 $ H6*

)

$ 6(

& *6%Q H(&Q2ross margin

7 302 $ H6%&

$ &5( *5Q H&&Q

4orporate and 3ther revenue comprises certain revenue deferrals, including those related to product and serviceupgrade offers and pre-sales of new products to 3>Ms prior to general availability.


4orporate and 3ther revenue increased $'*% million, primarily due to the timing of revenue deferrals compared tothe prior year. During fiscal year (*), we recogni"ed a net $&(& million of previously deferred revenue related to;undled 3fferings. During fiscal year (*6, we deferred a net $&6% million of revenue related to ;undled 3fferings.

&6


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4orporate and 3ther gross margin increased $') million, primarily due to increased revenue.


4orporate and 3ther revenue decreased $+*+ million, primarily due to the timing of revenue deferrals. During fiscalyear (*6, we deferred a net $&6% million of revenue related to ;undled 3fferings. During fiscal year (*&, werecogni"ed $)6( million of previously deferred revenue related to the Windows Jpgrade 3ffer. he revenue wasrecogni"ed upon e#piration of the offer.

4orporate and 3ther gross margin decreased $+'& million, mainly due to decreased revenue.

39>7!I2 >B9>/>/

$esearch and Development


2134 2135 2130


4+ersus 2135


5+ersus 2130

7esearch and development

7 32!15

: $ **,&+* $ *(,6** 'Q %Q !s a percent of revenue

30G *&Q *&Q (ppt (ppt

7esearch and development e#penses include payroll, employee benefits, stock-based compensation e#pense, andother headcount-related e#penses associated with product development. 7esearch and development e#penses alsoinclude third-party development and programming costs, locali"ation costs incurred to translate software for international markets, and the amorti"ation of purchased software code.


7esearch and development e#penses increased $'') million or 'Q, mainly due to increased investment in newproducts and services, including $5&% million higher D/ e#penses, offset in part by reduced headcount-relatede#penses.


7esearch and development e#penses increased $%5( million or %Q, mainly due to increased investment in newproducts and services in our Devices engineering group, including $5) million of D/ e#penses, and increasedinvestment in our !pplications and /ervices engineering group.

Sales and )ar?eting


2134 2135 2130


4+ersus 2135


5+ersus 2130

/ales and marketing

7 34!;3

0 $ *),+** $ *),5

' H*Q 6Q !s a percent of revenue

3;G *+Q (Q H*ppt Hppt

&)


37/131

/ales and marketing e#penses include payroll, employee benefits, stock-based compensation e#pense, and other headcount-related e#penses associated with sales and marketing personnel and the costs of advertising,promotions, trade shows, seminars, and other programs.


/ales and marketing e#penses decreased $%+ million or *Q, primarily due to a decline in advertising and marketing

programs costs and a reduction in headcount-related e#penses, offset in part by an increase in D/ e#penses. /alesand marketing e#penses included a favorable foreign currency impact of appro#imately 6Q.


/ales and marketing e#penses increased $)&) million or 6Q, primarily due to D/ e#penses and increasedinvestment in sales resources, offset in part by lower advertising costs. D/ sales and marketing e#penses were$&%6 million during fiscal year (*6. !verage headcount, e#cluding D/, grew 6Q. !dvertising costs, e#cludingD/, declined $6(& million or *)Q, primarily due to Windows + and /urface costs in the prior year.

eneral and dministrative


2134 2135 2130


4+ersus 2135


5+ersus 2130

2eneral and administrative

7 5!:33 $ 6,'5

5 $ ),(*

& H*Q H5Q !s a percent of revenue

4G )Q 'Q (ppt H*ppt

2eneral and administrative e#penses include payroll, employee benefits, stock-based compensation e#pense,

severance e#pense, and other headcount-related e#penses associated with finance, legal, facilities, certain humanresources and other administrative personnel, certain ta#es, and legal and other administrative fees.


2eneral and administrative e#penses were comparable to the prior year.


2eneral and administrative e#penses decreased $&&' million or 5Q, mainly due to the >uropean 4ommission fine inthe prior year, offset in part by higher business ta#es, higher costs for internal use software capitali"ed in the prior year, and D/ e#penses. D/ general and administrative e#penses were $55 million during fiscal year (*6.

IM9!I7M>, I>27!I3, !D 7>/7J4J7I2 >B9>/>/

Impairment, integration, and restructuring e#penses include costs associated with the impairment of goodwill andintangible assets related to our 9hone


38/131


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investments increased primarily due to higher gains on sales of e1uity securities, offset in part by higher other-than-temporary impairments. 3ther-than-temporary impairments were $*+& million in fiscal year (*), compared with$*(' million in fiscal year (*6. et losses on derivatives increased due to losses on commodity contracts in thecurrent period as compared to gains in the prior period, offset in part by lower losses on currency and e1uitycontracts. 8or fiscal year (*), other reflects recogni"ed losses from certain Aoint ventures and divestitures.


Dividends and interest income increased due to higher portfolio balances. Interest e#pense increased due to higher outstanding long-term debt. et recogni"ed gains on investments increased primarily due to higher gains on sales of e1uity securities and lower other-than-temporary impairments. 3ther-than-temporary impairments were $*(' millionin fiscal year (*6, compared with $(+ million in fiscal year (*&. et losses on derivatives increased due to higher losses on foreign e#change contracts, losses on e1uity derivatives as compared to gains in the prior period, offset inpart by gains on commodity and interest rate derivatives as compared to losses in the prior period. 8or fiscal year (*6, other reflects recogni"ed losses from certain Aoint ventures, offset in part by a recogni"ed gain on a divestiture.8or fiscal year (*&, other reflects recogni"ed gains on divestitures, including the gain recogni"ed upon thedivestiture of our )(Q share in the M/;4 Aoint venture.

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I43M> !B>/


3ur effective ta# rate for fiscal years (*) and (*6 was appro#imately &6Q and *Q, respectively. he fiscal year (*) effective rate increased by *&Q, primarily due to goodwill and asset impairments and restructuring chargesrecorded in fiscal year (*), most of which did not generate a ta# benefit. 3ur effective ta# rate was lower than the

J./. federal statutory rate primarily due to foreign earnings ta#ed at lower rates resulting from producing anddistributing our products and services through our foreign regional operations centers in Ireland, /ingapore, and9uerto 7ico. In fiscal year (*), this reduction was mostly offset by losses in foreign Aurisdictions for which we maynot reali"e a ta# benefit, primarily as a result of impairment and restructuring charges.

4hanges in the mi# of income before income ta#es between the J./. and foreign countries also impacted our effective ta# rates and resulted primarily from changes in the geographic distribution of and changes in consumer demand for our products and services. We supply our Windows 94 operating system to customers through our J./.regional operating center, while we supply the Microsoft 3ffice system and our server products and tools tocustomers through our foreign regional operations centers. In fiscal years (*) and (*6, our J./. income beforeincome ta#es was $5.6 billion and $5.* billion, respectively, and comprised 6(Q and 'Q, respectively, of our incomebefore income ta#es. In fiscal years (*) and (*6, our foreign income before income ta#es was $**.* billion and$(.5 billion, respectively, and comprised '(Q and 56Q, respectively, of our income before income ta#es.

a# contingencies and other income ta# liabilities were $*.* billion and $*(.6 billion as of Kune &(, (*) and (*6,respectively, and are included in other long-term liabilities. his increase relates primarily to adAustments to prior years’ liabilities for intercompany transfer pricing and adAustments related to our I7/ audits. While we settled aportion of the I.7./. audit for ta# years ((6 to ((' during the third 1uarter of fiscal year (**, we remain under audit for those years. In 8ebruary (*, the I.7./. withdrew its (** 7evenue !gents 7eport and reopened the auditphase of the e#amination. !s of Kune &(, (*), the primary unresolved issue relates to transfer pricing, which couldhave a significant impact on our consolidated financial statements if not resolved favorably. We believe our allowances for income ta# contingencies are ade1uate. We have not received a proposed assessment for theunresolved issues and do not e#pect a final resolution of these issues in the ne#t * months. ;ased on theinformation currently available, we do not anticipate a significant increase or decrease to our ta# contingencies for these issues within the ne#t * months. We also continue to be subAect to e#amination by the I.7./. for ta# years((5 to (*).

We are subAect to income ta# in many Aurisdictions outside the J./. 3ur operations in certain Aurisdictions remainsubAect to e#amination for ta# years *%%' to (*), some of which are currently under audit by local ta# authorities.he resolutions of these audits are not e#pected to be material to our consolidated financial statements.


3ur effective ta# rate for fiscal years (*6 and (*& was appro#imately *Q and *%Q, respectively. 3ur effective ta#rate was lower than the J./. federal statutory rate primarily due to earnings ta#ed at lower rates in foreign

Aurisdictions resulting from producing and distributing our products and services through our foreign regionaloperations centers in Ireland, /ingapore, and 9uerto 7ico.

3ur fiscal year (*6 effective rate increased by Q from fiscal year (*& mainly due to adAustments of $6)+ million

to prior years’ liabilities for intercompany transfer pricing that increased ta#able income in more highly ta#ed Aurisdictions, as well as losses incurred by D/ and changes in the geographic mi# of our business. his was offsetin part by favorable transfer pricing developments in certain foreign ta# Aurisdictions, primarily Denmark.

4hanges in the mi# of income before income ta#es between the J./. and foreign countries also impacted our effective ta# rates and resulted primarily from changes in the geographic distribution of and changes in consumer demand for our products and services. We supply our Windows 94 operating system to customers through our J./.regional operating center, while we supply the Microsoft 3ffice system and our server products and tools to

customers through our foreign regional operations centers. Windows 94 operating system revenue decreased $'))million in fiscal year (*6, while Microsoft 3ffice system and server products and tools revenue increased $*.& billion

&%


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and $*.' billion, respectively, during this same period. In fiscal years (*6 and (*&, our J./. income before incometa#es was $5.* billion and $'.5 billion, respectively, and comprised 'Q and )Q, respectively, of our income beforeincome ta#es. In fiscal years (*6 and (*&, the foreign income before income ta#es was $(.5 billion and $(.6billion, respectively, and comprised 56Q and 5)Q, respectively, of our income before income ta#es.

6(


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8I!4I!= 43DII3

Cash! Cash EHuivalents! and Investments

4ash, cash e1uivalents, and short-term investments totaled $%'.) billion as of Kune &(, (*), compared with $+).5billion as of Kune &(, (*6. >1uity and other investments were $*.* billion as of Kune &(, (*), compared with$*6.' billion as of Kune &(, (*6. 3ur short-term investments are primarily to facilitate li1uidity and for capital

preservation. hey consist predominantly of highly li1uid investment-grade fi#ed-income securities, diversified amongindustries and individual issuers. he investments are predominantly J./. dollar-denominated securities, but alsoinclude foreign currency-denominated securities in order to diversify risk. 3ur fi#ed-income investments are e#posedto interest rate risk and credit risk. he credit risk and average maturity of our fi#ed-income portfolio are managed toachieve economic returns that correlate to certain fi#ed-income indices. he settlement risk related to theseinvestments is insignificant given that the short-term investments held are primarily highly li1uid investment-gradefi#ed-income securities.

3f the cash, cash e1uivalents, and short-term investments at Kune &(, (*), $%6.6 billion was held by our foreignsubsidiaries and would be subAect to material repatriation ta# effects. he amount of cash, cash e1uivalents, andshort-term investments held by foreign subsidiaries subAect to other restrictions on the free flow of funds Hprimarilycurrency and other local regulatory was $.* billion. !s of Kune &(, (*), appro#imately 5%Q of the cash e1uivalentsand short-term investments held by our foreign subsidiaries were invested in J./. government and agency securities,

appro#imately )Q were invested in corporate notes and bonds of J./. companies, and appro#imately )Q wereinvested in J./. mortgage- and asset-backed securities, all of which are denominated in J./. dollars.

%ecurities lending

We lend certain fi#ed-income and e1uity securities to increase investment returns. he loaned securities continue tobe carried as investments on our balance sheet. 4ash andNor security interests are received as collateral for theloaned securities with the amount determined based upon the underlying security lent and the creditworthiness of theborrower. 4ash received is recorded as an asset with a corresponding liability. 3ur securities lending payablebalance was $% million as of Kune &(, (*). 3ur average and ma#imum securities lending payable balances for thefiscal year were $+5 million and $5)( million, respectively. Intra-year variances in the amount of securities loanedare mainly due to fluctuations in the demand for the securities.

Aaluation

In general, and where applicable, we use 1uoted prices in active markets for identical assets or liabilities todetermine the fair value of our financial instruments. his pricing methodology applies to our =evel * investments,such as e#change-traded mutual funds, domestic and international e1uities, and J./. government securities. If 1uoted prices in active markets for identical assets or liabilities are not available to determine fair value, then we use1uoted prices for similar assets and liabilities or inputs other than the 1uoted prices that are observable either directlyor indirectly. his pricing methodology applies to our =evel investments such as corporate notes and bonds,common and preferred stock, foreign government bonds, mortgage- and asset-backed securities, J./. governmentand agency securities, and certificates of deposit. =evel & investments are valued using internally developed modelswith unobservable inputs. !ssets and liabilities measured at fair value on a recurring basis using unobservable inputsare an immaterial portion of our portfolio.

! maAority of our investments are priced by pricing vendors and are generally =evel * or =evel investments as thesevendors either provide a 1uoted market price in an active market or use observable inputs for their pricing withoutapplying significant adAustments. ;roker pricing is used mainly when a 1uoted price is not available, the investment isnot priced by our pricing vendors, or when a broker price is more reflective of fair values in the market in which theinvestment trades. 3ur broker-priced investments are generally classified as =evel investments because the broker prices these investments based on similar assets without applying significant adAustments. In addition, all of our broker-priced investments have a sufficient level of trading volume to demonstrate that the fair values used areappropriate for these investments. 3ur fair value processes include controls that are designed to ensure appropriatefair values are recorded. hese controls include model validation, review of key model inputs, analysis of period-over-period fluctuations, and independent recalculation of prices where appropriate.

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Cash Flows


4ash flows from operations decreased $&. billion during the fiscal year to $%.* billion, mainly due to an increase inmaterials and production costs in support of sales growth as well as payments related to restructuring charges andother changes in working capital, offset in part by increases in cash received from customers. 4ash used in financingincreased $'+' million to $%.* billion, mainly due to a $5.* billion increase in cash used for common stockrepurchases, offset in part by a $'.5 billion increase in proceeds from issuances of debt, net of repayments. 4ashused in investing increased $6. billion to $&.( billion, mainly due to a $).) billion increase in cash used for netinvestment purchases, sales, and maturities, partially offset by a $. billion decrease in cash used for ac1uisitions of companies and purchases of intangible and other assets.


4ash flows from operations increased $&.6 billion during fiscal year (*6 to $&. billion, mainly due to increases incash received from customers. 4ash used in financing increased $6' million to $+.6 billion, mainly due to a $.(billion increase in cash used for common stock repurchases, a $*.6 billion increase in dividends paid, and a $&6million decrease in proceeds from the issuance of common stock, offset in part by a $&.6 billion increase in proceedsfrom issuances of debt, net of repayments. 4ash used in investing decreased $).( billion to $*+.+ billion, mainly dueto a $*(.) billion decrease in cash used for net investment purchases, sales, and maturities, offset in part by a $6.6

billion increase in cash used for ac1uisition of companies and purchases of intangible and other assets, and a $*.billion increase in capital e#penditures for property and e1uipment.

De6t

We issued debt to take advantage of favorable pricing and li1uidity in the debt markets, reflecting our credit ratingand the low interest rate environment. he proceeds of these issuances were or will be used for general corporatepurposes, which may include, among other things, funding for working capital, capital e#penditures, repurchases of capital stock, ac1uisitions, and repayment of e#isting debt. /ee ote * 0 Debt of the otes to 8inancial /tatementsfor further discussion.

#nearned $evenue

Jnearned revenue at Kune &(, (*) was comprised mainly of unearned revenue from volume licensing programs.Jnearned revenue from volume licensing programs represents customer billings for multi-year licensingarrangements paid for either at inception of the agreement or annually at the beginning of each coverage period andaccounted for as subscriptions with revenue recogni"ed ratably over the coverage period. Jnearned revenue atKune &(, (*) also included payments for: post-delivery support and consulting services to be performed in thefutureO Bbo# =ive subscriptions and prepaid pointsO Microsoft Dynamics business solutions productsO 3ffice &')subscriptionsO /kype prepaid credits and subscriptionsO ;undled 3fferingsO and other offerings for which we havebeen paid in advance and earn the revenue when we provide the service or software, or otherwise meet the revenuerecognition criteria.

he following table outlines the e#pected future recognition of unearned revenue as of Kune &(, (*):

,In millions

Three )onths Ending!

/eptember &(, (*)

$ +,++%

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,In millions

December &*, (*)

5,*5March &*, (*'

6,+6+Kune &(, (*'

,&*6hereafter

,(%)

otal

$ ),&*

+

Share $epurchases

3n /eptember *', (*&, our ;oard of Directors approved a share repurchase program authori"ing up to $6(.( billionin share repurchases. he share repurchase program became effective on 3ctober *, (*&, has no e#piration date,and may be suspended or discontinued at any time without notice. While the program has no e#piration date, we

intend to complete it by December &*, (*'. !s of Kune &(, (*), $*.% billion remained of our $6(.( billion sharerepurchase program.

During fiscal year (*), we repurchased %) million shares of Microsoft common stock for $*&. billion under theshare repurchase program approved by our ;oard of Directors on /eptember *', (*&. During fiscal year (*6, werepurchased *5) millio

microsoft 2015 annual report

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