To the extent that Microsoft recognizes a portion of the up-front cash payment over subsequent periods, the practice converts a one-time payment into a stream of revenue, just as its forays into E-commerce, cable television, and wireless communications are intended eventually to produce.
A Whistle-Blower’s Tune
But some analysts also suggest that Microsoft may use the deferred amounts to manage earnings, which violates both GAAP and federal securities law. In a little-reported whistleblower’s lawsuit settled last year, Microsoft’s former chief of internal audit, Charles Pancerzewski, charged that the company had set up a cookie-jar reserve that it used to eliminate fluctuations in its earnings prior to his resignation in 1996, and that he had been forced to resign after calling attention to the practice.
In his lawsuit, Pancerzewski cited Microsoft’s use of deferred revenue as a potential means of creating such a reserve, and brought in William Simpson, a former SEC accountant in its Los Angeles office and now a consultant, to testify that Microsoft did indeed manage its earnings through such means, according to court documents. Microsoft convinced the court to seal Simpson’s testimony from public view, and both he and Pancerzewski declined to be interviewed for this article.
Nor would CFO Greg Maffei comment on the lawsuit. (Repeated attempts to reach former CFO Mike Brown were unsuccessful.) But Maffei strongly defends the company’s use of deferred revenue, and says it doesn’t use the amounts or any other item as a means of managing earnings. “We manage the expectations about earnings,” he says. They are “two different things.”
As for how Microsoft determines the amount of revenue it defers, Maffei insists “we follow GAAP. That unearned revenue is not managed earnings in any way, shape, or form. It’s quite the opposite. When people talk about managing earnings, they think you’ve got some hidden pocket here or there that you’re pulling [money out of].” But he adds, Microsoft’s deferred revenue is “entirely visible. It goes in under a set of rules that we proclaim to analysts. We reviewed that with the SEC, and they agreed.”
Despite the recently announced SEC inquiry into Microsoft’s accounting practices, Maffei says analysts can still draw comfort from the amounts of revenue it defers. He notes that the inquiry “to our knowledge” has nothing to do with the deferred revenue, though a spokesman for the commission declined to confirm that.