SEC Brings Settled Accounting Charges Against Microsoft Corporation

FOR IMMEDIATE RELEASE
2002-80

Washington, D.C., June 3, 2002 -- The Securities and Exchange Commission today brought a settled administrative enforcement action against Microsoft Corp. ordering the company to cease and desist from committing accounting violations and other violations of federal securities laws. In the Order for this proceeding, the Commission found that Microsoft had maintained seven reserve accounts in a manner that did not comply with Generally Accepted Accounting Principles (GAAP). More particularly, the Commission found that these reserves did not comply with GAAP because, to a material extent, they did not have adequately substantiated bases. As a result, Microsoft misstated its income by material amounts in certain periodic filings with the Commission made between July 1, 1994, and June 30, 1998. The Commission also found that Microsoft did not properly document the bases for these accounts and failed to maintain proper internal controls, as required by the federal securities laws.

"This case emphasizes that the Commission will act against a public company that issues financial statements with material inaccuracies, even in the absence of fraud charges," said Stephen M. Cutler, Director of the Commission's Division of Enforcement. "Public companies must ensure that their accounting is substantiated in the first instance by factual bases and well-reasoned analyses and conclusions. In order to do so, companies must properly document the bases for their reserves and other accounting entries, so that they and their auditors can verify that the accounting is proper; and they must maintain appropriate internal controls, so that this verification will occur in the normal course of business."

The Commission's Order Instituting Public Administrative Proceedings makes the following findings:

• Microsoft recorded reserves, accruals, allowances, and liability accounts relating to marketing expenses, sales to original equipment manufacturers, accelerated depreciation, inventory obsolescence, valuation of financial assets, interest income, and impairment of manufacturing facilities (collectively "reserve accounts") that did not have properly substantiated bases, as required by GAAP. During 1995 through 1998, the total balance of these accounts ranged from approximately $200 million to $900 million.
   
• Microsoft's quarterly and annual filings with the Commission included or incorporated by reference financial statements containing undisclosed and unsupported adjustments to reserve accounts that, to a material extent, did not comply with GAAP. By including these adjustments in its financial statements, Microsoft failed to accurately report its financial results, causing overstatements of income in some quarters and understatements of income during other quarters.
   
• Microsoft failed to maintain sufficient documentation of the bases for these reserve accounts and to apply its own accounting policy relating to the reconciliation of entries in its accounting system. Microsoft exempted the reserve accounts from its company-wide requirement that every account be reconciled at least once each quarter and that the reconciliation include ascertaining if there existed adequate supporting documentation relating to activity in the account. As a result, Microsoft lacked important safeguards to ensure that adjustments to the reserve accounts and the balances of these accounts were appropriate or accurately reported in conformity with GAAP.

Microsoft consented to the issuance of the Commission's Order without admitting or denying the findings. The Commission found that Microsoft violated Sections 13(a), 13(b)(2)(A), and 13(b)(2)(B) of the Securities Exchange Act of 1934 and Rules 12b-20, 13a-1, and 13a-13 thereunder, and ordered Microsoft to cease and desist from committing future violations of these provisions.