MSFT 10-Q: Smart Summary

OpenAI investment: Microsoft holds approximately 27% of OpenAI on an as-converted basis, accounted for under the equity method using the hypothetical liquidation at book value (HLBV) method; total funding commitments are $13B, of which $11.7B has been funded as of December 31, 2025. In October 2025, a new definitive agreement extended the partnership, and following the OpenAI Recapitalization, Microsoft's proportionate ownership decreased, resulting in a dilution gain recorded in other income (expense), net.

• Receivables balances: Long-term accounts receivable, net, was $5.3B as of December 31, 2025 (vs. $5.2B as of June 30, 2025); other receivables related to server component purchase facilitation grew to $15.1B from $8.2B over the same period; financing receivables, net, declined to $2.7B from $4.3B.
• Prior period recast: Certain prior period amounts on the consolidated cash flows statements were recast to conform to the current period presentation, with no impact on consolidated balance sheets, income statements, or net cash from (used in) operations, investing, or financing activities.
• Pending accounting standards: The FASB's December 2023 income tax disclosure standard will be adopted in annual reporting for fiscal year 2026; the November 2024 income statement expense disaggregation standard is effective beginning with annual reporting for fiscal year 2028, with early adoption permitted, and Microsoft is currently evaluating its impact.

Anti-dilutive awards: Anti-dilutive stock-based awards excluded from the calculations of diluted EPS were immaterial during the periods presented.

• OpenAI impact: Other income (expense), net included $10B and $5.9B of net gains for the three and six months ended December 31, 2025, respectively, and $1.2B and $1.9B of net losses for the three and six months ended December 31, 2024, respectively, from investments in OpenAI, primarily net recognized gains (losses) on the equity method investment reflected in Other, net; the net gains recorded for the three and six months ended December 31, 2025 primarily relate to the dilution gain from the OpenAI Recapitalization.
• Net gains (losses) on derivatives: Swung sharply to $1.6B gain for the six months ended December 31, 2025 from a ($454M) loss in the prior-year comparable period; on a quarterly basis, $37M gain vs. ($116M) loss.
• Equity investment gains/losses: Net unrealized gains on investments still held were $385M for the three months ended December 31, 2025 vs. $25M in the prior year; impairments of investments fell to ($38M) from ($853M) in the prior-year quarter.
• Interest net: Interest and dividends income of $840M exceeded interest expense of ($736M) for the three months ended December 31, 2025, compared to $600M income vs. ($594M) expense in the prior-year quarter.

• Debt portfolio (December 31, 2025): Total debt investments had an adjusted cost basis of $80.2B and a recorded basis of $79.5B, with gross unrealized gains of $481M and gross unrealized losses of ($1.1B); the largest single holding was U.S. government securities at an adjusted cost basis of $48.2B (recorded basis $47.3B, Level 1), allocated almost entirely to short-term investments ($45.3B).
• Equity investments (December 31, 2025): Total equity investments were $20.9B, split between Level 1 equity investments of $4.4B (of which $3B in Equity and Other Investments and $1.3B in Cash and Cash Equivalents) and 'Other' equity investments of $16.6B; within 'Other,' equity investments without readily determinable fair values measured at cost with adjustments were $5B and equity method investments were $11.5B, up from $2.9B and $6B respectively at June 30, 2025.
• Unrealized losses on debt (December 31, 2025): Total debt investments in an unrealized loss position had a fair value of $32.2B and total unrealized losses of ($1.1B), with the vast majority — $28.9B fair value and ($1B) loss — concentrated in U.S. government and agency securities held 12 months or greater; management does not believe any remaining unrealized losses represent impairments.
• Debt maturity profile (December 31, 2025): Of the $80.2B adjusted cost basis, $27.6B (estimated fair value $27.5B) is due in one year or less, $47.1B ($46.5B fair value) due after one year through five years, $4.1B ($4.2B) due after five through 10 years, and $1.3B ($1.3B) due after 10 years.

• Notional amounts: As of December 31, 2025, designated hedging instruments totaled $1.5B (foreign exchange contracts purchased) and $1.2B (interest rate contracts purchased); non-designated instruments included $8.9B foreign exchange purchased, $43.7B foreign exchange sold, $4.9B equity contracts purchased, $2.2B equity contracts sold, $2.6B other contracts purchased, and $878M other contracts sold — all measured in U.S. dollar equivalents.
• Net derivative position: Gross derivative assets fell from $758M at June 30, 2025 to $320M at December 31, 2025, while gross liabilities declined from ($1.8B) to ($907M); after netting and cash collateral, net derivative assets were $124M and net liabilities were ($783M) as of December 31, 2025, versus $500M and ($1.7B) as of June 30, 2025.
• Fair value hierarchy: As of December 31, 2025, virtually all gross derivative value was Level 2 — $314M in assets and ($907M) in liabilities — with a small $6M Level 3 asset; at June 30, 2025, Level 3 assets were $283M and Level 3 liabilities were ($5M).
• P&L impact: Non-designated foreign exchange contracts generated a ($54M) loss for the three months ended December 31, 2025 (vs. $1.1B gain in 2024) and $327M gain for the six months ended December 31, 2025 (vs. $755M in 2024); equity contracts contributed $31M for the quarter and $1.6B for the six-month period. Credit-risk contingent features require AAA-rated long-term unsecured debt and minimum liquidity of $1B; both conditions were met as of December 31, 2025, so no collateral was required.

• Depreciation expense: $7.9M for the three months ended December 31, 2025 and $15M for the six months ended December 31, 2025, up from $5.2M and $9.9M for the comparable prior-year periods.
• PP&E in accounts payable: Purchases of property and equipment remaining in accounts payable were $23.1M as of December 31, 2025, up sharply from $6.9M as of June 30, 2025.

• Segment breakdown: Goodwill rose from $119.5B at June 30, 2025 to $119.6B at December 31, 2025, with Productivity and Business Processes contributing $31.5B, Intelligent Cloud $25.7B, and More Personal Computing $62.4B at period end.
• Acquisitions: New acquisitions added $67M in aggregate goodwill during the period — $26M in Productivity and Business Processes, $36M in Intelligent Cloud, and $5M in More Personal Computing.
• 'Other' column: The $46M 'Other' movement captures foreign currency translation adjustments, purchase accounting adjustments, business dispositions, and inter-segment transfers; measurement periods for acquired assets and liabilities do not exceed 12 months from the acquisition date.

• Amortization expense: Intangible assets amortization expense was $1.2B and $2.6B for the three and six months ended December 31, 2025, respectively, down from $1.5B and $3B for the three and six months ended December 31, 2024, respectively.
• Net carrying amount: Total net intangible assets declined from $22.6B as of June 30, 2025 to $20.3B as of December 31, 2025, with Technology-based assets representing the largest gross balance ($22.7B gross, $5.9B net) and Marketing-related assets the largest net balance ($12.2B net).
• Future amortization: Estimated amortization for the remainder of fiscal year 2026 (excluding the six months ended December 31, 2025) is $2.1B, followed by $3B in 2027, $2.1B in 2028, $1.9B in 2029, $1.4B in 2030, and $9.9B thereafter.

• Debt structure: All debt is senior unsecured obligations ranking equally with other outstanding obligations; interest is paid semi-annually except for the Euro-denominated debt (2013 issuance of €4.1 billion), which is paid annually. Stated rates range from 1.35% to 5.30% across issuances, with effective rates as high as 5.49%.
• Face value reduction: Total face value declined to $46.2B as of December 31, 2025 from $49.2B as of June 30, 2025, primarily reflecting a $3B reduction in the 2015 issuance of $23.8B (from $7.6B to $4.6B). After unamortized discount and issuance costs of ($1.1B), hedge fair value adjustments of ($21M), and a premium on debt exchange of ($4.8B), total debt was $40.3B vs. $43.2B at June 30, 2025.
• Current portion and long-term split: The current portion of long-term debt rose to $4.8B from $3B at June 30, 2025, leaving long-term debt of $35.4B vs. $40.2B at June 30, 2025.
• Fair value and maturity schedule: Estimated fair value of long-term debt (including current portion), based on Level 2 inputs, was $37.3B at December 31, 2025 and $40.4B at June 30, 2025. Of the $46.2B total face value outstanding, $9.3B matures in fiscal year 2027, $2.1B in 2029, and $34.9B thereafter, with no maturities in the remaining fiscal year 2026, fiscal year 2028, or fiscal year 2030.

• Effective tax rate: The effective tax rate was 20% for both the three and six months ended December 31, 2025, up from 18% for both the three and six months ended December 31, 2024, primarily due to deferred tax expense attributable to the dilution gain from the OpenAI Recapitalization and changes in the mix of earnings and tax expenses between the U.S. and foreign countries; the rate remained below the U.S. federal statutory rate primarily due to earnings taxed at lower rates in foreign jurisdictions through the foreign regional operations center in Ireland.
• Unrecognized tax benefits: Unrecognized tax benefits and other income tax liabilities were $28.7B as of December 31, 2025 and $27.4B as of June 30, 2025, included in long-term income taxes on the consolidated balance sheets.
• IRS NOPAs: On September 26, 2023, the IRS issued Notices of Proposed Adjustment (NOPAs) related to tax years 2004 to 2013, seeking an additional tax payment of $28.9B plus penalties and interest, with the primary issues relating to intercompany transfer pricing; the company disagrees with the proposed adjustments and intends to contest them through the IRS's administrative appeals office and, if necessary, judicial proceedings, with no final resolution expected within the next 12 months.
• Ongoing audits: The company remains under IRS audit for tax years 2014 to 2017, and its Ireland operations remain subject to examination for tax years 2021 and thereafter; resolution of non-U.S. audits is not expected to be material to the consolidated financial statements.

• Unearned revenue rollforward: For the six months ended December 31, 2025, unearned revenue began at $67.3B, new deferrals totaled $89B, and recognition of unearned revenue was ($102.2B), leaving a balance of $54B at period end.
• Remaining performance obligations: Revenue allocated to remaining performance obligations was $631B as of December 31, 2025, of which the commercial portion was $625B with a weighted average duration of approximately 2.5 years; approximately 25% of both total and commercial remaining performance obligation revenue is expected to be recognized over the next 12 months.

• Lease cost acceleration: Total finance lease cost rose to $1.9B in the three months ended December 31, 2025 (vs. $1.2B in 2024), driven by amortization of right-of-use assets of $1.3B and interest on lease liabilities of $615M; operating lease cost was $1.7B (vs. $1.3B). For the six months ended December 31, 2025, total finance lease cost was $3.6B and operating lease cost was $3.4B.
• Finance lease balance sheet growth: Finance lease right-of-use assets (net) grew to $60.6B as of December 31, 2025 from $44B at June 30, 2025, with total finance lease liabilities increasing to $60.2B from $46.2B; weighted average remaining term is 13 years at a 4.3% discount rate.
• Operating lease position: Operating lease right-of-use assets were $25.1B and total operating lease liabilities were $22.9B as of December 31, 2025, essentially flat from June 30, 2025 ($24.8B and $22.9B respectively); weighted average remaining term is 6 years at a 3.6% discount rate.
• Uncommenced leases: As of December 31, 2025, leases not yet commenced — primarily for datacenters — totaled $155.1B, expected to commence between fiscal year 2026 and fiscal year 2031 with lease terms of 1 year to 20 years.

Legal Proceedings

• Irish Data Protection Commission v. LinkedIn (final decision Oct 2024, appeal Nov 2024): IDPC alleged GDPR violations in LinkedIn's targeted advertising practices and assessed a fine; LinkedIn appealed to Irish courts, with a preliminary hearing held in December 2025.
• Other contingencies (as of December 31, 2025): Accrued aggregate legal liabilities of $575M; adverse outcomes beyond recorded amounts estimated at approximately $400M in aggregate are reasonably possible.

• Share repurchase programs: The Board approved a $60B repurchase program on September 14, 2021 (commenced November 2021, completed April 2025) and a second $60B program on September 16, 2024 (commenced April 2025, no expiration date); as of December 31, 2025, $47.4B remained under the second program.
• Repurchase activity (six months ended December 31, 2025 vs. prior year): In fiscal year 2026 (first two quarters combined), 20 million shares were repurchased for $9.9B, versus 15 million shares for $6.3B in the comparable fiscal year 2025 period; additionally, shares repurchased to settle employee tax withholding on vesting stock awards totaled $1.5B and $3.1B for the three and six months ended December 31, 2025, respectively, versus $1.5B and $2.8B for the three and six months ended December 31, 2024, respectively.
• Dividends declared (fiscal year 2026): Two dividends of $0.91 per share each were declared (September 15, 2025 and December 2, 2025), totaling $1.82 per share and $13.5B in the aggregate; the December 2, 2025 declaration (payment date March 12, 2026) was included in other current liabilities as of December 31, 2025.
• Dividends declared (fiscal year 2025): Two dividends of $0.83 per share each were declared (September 16, 2024 and December 3, 2024), totaling $1.66 per share and $12.3B in the aggregate.

• Derivatives AOCI: The derivatives component ended the period at ($14M) (Three Months Ended December 31, 2025), swinging from a $21M gain at December 31, 2024; the six-month net change was ($6M) (net of tax of ($2M)), driven by ($16M) unrealized losses partially offset by $10M in reclassification adjustments for losses reclassified into other income (expense), net.
• Investments AOCI: The investments component ended at ($525M) as of December 31, 2025, a significant improvement from ($1.9B) a year earlier; the six-month net change was $526M (net of tax of $140M), reflecting $525M unrealized gains versus ($434M) in the prior-year comparable three-month period.
• Translation adjustments: The translation adjustments and other component ended at ($2.2B) (December 31, 2025) vs. ($3.7B) (December 31, 2024); the three-month change was $223M favorable vs. ($1B) unfavorable in the prior-year period, both net of tax of $0.
• Total AOCI: Accumulated other comprehensive loss at end of period was ($2.7B) as of December 31, 2025, compared to ($5.6B) as of December 31, 2024.

• Segments and CODM: The company reports 3 segments — Productivity and Business Processes, Intelligent Cloud, and More Personal Computing. The CODM (also the Chief Executive Officer) uses operating income as the primary profitability measure to allocate resources and assess performance, principally by comparing actual results to prior periods and expected results.
• Cost allocation methodology: Revenue from certain contracts is allocated among segments based on relative value of underlying products and services (actual prices charged, prices when sold separately, or estimated costs plus a profit margin); cost of revenue is allocated in certain cases based on a relative revenue methodology; operating expenses allocated primarily include marketing costs, generally allocated based on relative gross margin. Certain corporate-level costs (legal including settlements and fines, IT, HR, finance, excise taxes, field selling, shared facilities, customer service and support, and severance from corporate programs) are allocated to segments generally based on relative gross margin or relative headcount.
• Assets not allocated: Assets are not allocated to segments for internal reporting. A portion of amortization and depreciation is included in an overhead allocation to each segment; it is impracticable to separately identify the amount by segment.
• Geographic concentration: No individual customer or country other than the United States accounted for more than 10% of revenue for the three or six months ended December 31, 2025 or 2024. The United States figure includes billings to OEMs and certain multinational organizations due to the nature of those businesses and the impracticability of determining the geographic source of the revenue. Microsoft Cloud revenue (Microsoft 365 Commercial cloud, Azure and other cloud services, the commercial portion of LinkedIn, and Dynamics 365) was $51.5B and $100.6B for the three and six months ended December 31, 2025, respectively, and $40.9B and $79.8B for the three and six months ended December 31, 2024, respectively.

• Microsoft Cloud revenue: Microsoft Cloud revenue increased 26% to $51.5B in Q2 fiscal year 2026 compared with Q2 fiscal year 2025.
• Commercial remaining performance obligation: Commercial remaining performance obligation increased 110% to $625B.
• Cloud and software segment highlights: Azure and other cloud services revenue increased 39%; Microsoft 365 Commercial cloud revenue increased 17%; Microsoft 365 Consumer cloud revenue increased 29%; Dynamics 365 revenue increased 19%; LinkedIn revenue increased 11%.
• Other product lines: Windows OEM and Devices revenue increased 1%; Search and news advertising revenue excluding traffic acquisition costs increased 10%; Xbox content and services revenue decreased 5%.
• OpenAI partnership: In October 2025, Microsoft signed a new definitive agreement with OpenAI extending their strategic partnership (originally established in 2019), with Microsoft holding rights to OpenAI's intellectual property, including models and infrastructure, for integration into its products, along with reciprocal revenue-sharing arrangements.

• Competitive dynamics: The markets for software, devices, and cloud-based services are described as dynamic and highly competitive, with competitors developing new software and devices while deploying competing cloud-based services, and customer preferences for devices and form factors evolving rapidly.
• Infrastructure investment and margins: Investments in cloud and AI infrastructure and devices are expected to continue increasing operating costs and may decrease operating margins; the company continues to identify and evaluate opportunities to expand datacenter locations and increase server capacity, particularly given growing demand for AI services, though datacenters depend on availability of permitted and buildable land, predictable energy, networking supplies, and servers including graphics processing units.
• Supply chain concentration: For the majority of products the company has the ability to use other manufacturers if a current vendor becomes unavailable, but some products contain certain components for which there are very few qualified suppliers, and extended disruptions at these suppliers could impact the ability to manufacture devices on time to meet consumer demand.
• Foreign exchange: Fluctuations in the U.S. dollar relative to certain foreign currencies increased reported revenue and did not have a material impact on reported expenses from international operations for the three and six months ended December 31, 2025; global trade policy changes, including tariffs and other controls on imports or exports, could result in increased supply chain challenges, cost volatility, and consumer and economic uncertainty.

Seasonal pattern: Revenue fluctuates quarterly and is generally higher in the fourth quarter of the fiscal year, driven by a higher volume of multi-year contracts executed during that period.

• Productivity and Business Processes revenue: Increased $4.7B or 16%, with Microsoft 365 Commercial cloud revenue growing 17% (driven by revenue per user growth in Microsoft 365 E5 and Microsoft 365 Copilot, and 6% seat growth), Microsoft 365 Consumer cloud up 29%, LinkedIn up 11% driven by Marketing Solutions, and Dynamics 365 up 19% across all workloads; revenue, gross margin, and operating income included a favorable foreign currency impact of 2%, 2%, and 3%, respectively.
• Productivity and Business Processes operating income: Increased $3.7B or 22%; gross margin percentage increased primarily driven by efficiency gains in Microsoft 365 Commercial cloud even with continued investments in AI infrastructure and growing AI product usage, while operating expenses rose $424M or 6% driven by R&D investments in compute capacity and AI talent, as well as higher advertising expenses.
• Intelligent Cloud revenue: Increased $7.4B or 29%, driven by Azure and other cloud services revenue growth of 39% across all workloads and server products revenue growth of 2% from hybrid solutions demand and the launch of SQL Server 2025; enterprise and partner services revenue grew $146M or 8%.
• Intelligent Cloud operating income: Increased $3B or 28%; gross margin percentage decreased driven by continued investments in AI infrastructure and sales mix shift to Azure, partially offset by efficiency gains in Azure, while cost of revenue rose $4.2B or 44% and included an unfavorable foreign currency impact of 2%.

• Six-month revenue: Revenue increased $179M or 1%, with Windows and Devices revenue up $189M or 2% (Windows OEM up 11% with benefit from Windows 10 end of support and elevated inventory levels, offset in part by a decline in Devices), Search and news advertising up $726M or 11% (excluding traffic acquisition costs, up 13% driven by higher search volume and third-party partnerships), and Gaming down $736M or 6% (Xbox hardware down 31% on lower console volumes; Xbox content and services down 2% on a decline in first-party content, offset in part by growth in Xbox Game Pass and third-party content).
• Six-month operating income: Operating income increased $516M or 7%; cost of revenue decreased $706M or 5% on lower hardware sales, gross margin rose $885M or 6% driven by Windows OEM and Search and news advertising with gross margin percentage increasing on sales mix shift to higher margin businesses, and operating expenses increased $369M or 5% driven by impairment charges in the Gaming business and research and development investments in compute capacity and AI talent.
• Q2 quarterly comparison: For the three months ended December 31, 2025, segment revenue decreased $401M or 3% and operating income decreased $114M or 3%; Gaming revenue declined $623M or 9% (Xbox hardware down 32%, Xbox content and services down 5% against a prior year comparable that benefited from strong first-party content performance), while Search and news advertising increased $254M or 7% (up 10% ex-TAC).

R&D expenses: Research and development expenses increased $587M or 7%, driven by investments in compute capacity and AI talent and impairment charges in the Gaming business.

• Research and development: R&D expenses increased $1.2B or 8% for the six months ended December 31, 2025, driven by investments in compute capacity and AI talent and impairment charges in the Gaming business.
• Sales and marketing expense: Sales and marketing expenses were $12.3B for the six months ended December 31, 2025, up 1% from $12.2B in the prior-year period, with the expense ratio declining 1 percentage point to 8% of revenue from 9%.
• Sales and marketing composition: Sales and marketing expenses include payroll, employee benefits, stock-based compensation, and other headcount-related expenses for sales and marketing personnel, as well as costs of advertising, promotions, trade shows, seminars, and other programs.

Sales and marketing: Sales and marketing expenses increased $144M or 2%, driven by higher advertising expenses.

• Sales and marketing: Sales and marketing expenses increased $144M or 1%, driven by higher advertising expenses.
• General and administrative: G&A expenses grew 6% to $1.9B for the three months ended December 31, 2025 (vs. $1.8B prior year) and 7% to $3.7B for the six months ended December 31, 2025 (vs. $3.5B prior year); as a percent of revenue, G&A declined 1 percentage point to 2% in both periods.
• G&A cost composition: G&A includes payroll, employee benefits, stock-based compensation, employee severance expense incurred as part of a corporate program, headcount-related expenses for finance, legal, facilities, certain human resources and other administrative personnel, certain taxes, and legal and other administrative fees.

General and administrative: General and administrative expenses increased $109M or 6%, driven by higher legal expenses.

• G&A expenses: General and administrative expenses increased $242M or 7% driven by higher legal expenses.
• Other income (expense), net — OpenAI: Other income (expense), net included $10B and $5.9B of net gains for the three and six months ended December 31, 2025, respectively, and $1.2B and $1.9B of net losses for the three and six months ended December 31, 2024, respectively, from investments in OpenAI, primarily net recognized gains (losses) on the equity method investment reflected in Other, net; the net gains for both periods in 2025 primarily relate to the dilution gain from the OpenAI Recapitalization.
• Derivatives: Derivative instruments are used to manage risks related to foreign currencies, interest rates, equity prices, and credit; gains and losses from changes in fair values of derivatives not designated as hedging instruments are primarily recognized in other income (expense), net, with net gains (losses) on derivatives swinging from ($454M) in the six months ended December 31, 2024 to $1.6B in the six months ended December 31, 2025.

• Interest and dividends income: Increased primarily due to higher portfolio balances and higher yields on debt securities.
• Interest expense: Increased primarily due to higher finance lease interest expense, offset in part by higher capitalization of debt interest expense.
• Net recognized gains on investments: Increased primarily due to lower impairments and higher gains on equity securities in the current period.
• Net gains on derivatives: Increased primarily due to gains on equity derivatives in the current period as compared to losses in the prior period; Other, net primarily reflects net recognized gains (losses) on equity method investments, including OpenAI.

• Interest and dividends income: Increased primarily due to higher portfolio balances and higher yields on debt securities.
• Interest and other items: Interest expense increased primarily due to higher finance lease interest expense, offset in part by higher capitalization of debt interest expense; net recognized losses on investments decreased primarily due to lower impairments, offset in part by losses on equity securities in the current period as compared to gains in the prior period.
• Derivatives and other: Net gains on derivatives increased primarily due to gains on equity derivatives in the current period as compared to losses in the prior period; Other, net primarily reflects net recognized gains (losses) on equity method investments, including OpenAI.

• Effective tax rate: 20% for both the three and six months ended December 31, 2025, up from 18% for both the three and six months ended December 31, 2024; the increase was primarily due to deferred tax expense attributable to the dilution gain from the OpenAI Recapitalization and changes in the mix of earnings and tax expenses between the U.S. and foreign countries.
• Rate below statutory: The effective tax rate remained below the U.S. federal statutory rate for both periods ended December 31, 2025, primarily due to earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing products and services through the foreign regional operations center in Ireland.

• IRS audit — proposed adjustment: The IRS issued Notices of Proposed Adjustment (NOPAs) on September 26, 2023 for tax years 2004 to 2013, seeking an additional tax payment of $28.9B plus penalties and interest; the primary issues relate to intercompany transfer pricing.
• Contestation and timeline: The company disagrees with the proposed adjustments and will vigorously contest through the IRS's administrative appeals office and, if necessary, judicial proceedings; no final resolution is expected within the next 12 months, and no significant increase or decrease to income tax contingencies is anticipated within that period.
• Current audit exposure: Tax years 2014 to 2017 remain under IRS audit; as of December 31, 2025, management believes allowances for income tax contingencies are adequate.
• Non-U.S. audits: Operations in multiple jurisdictions outside the U.S. are under audit by local tax authorities, with resolution not expected to be material to consolidated financial statements; Irish operations remain subject to examination for tax years 2021 and thereafter.

Liquidity adequacy: Management expects existing cash, cash equivalents, short-term investments, cash flows from operations, and access to capital markets to be sufficient to fund operating activities and cash commitments — including dividends, share repurchases, debt maturities, and material capital expenditures — for at least the next 12 months and thereafter for the foreseeable future.

• Cash and short-term investments: Cash, cash equivalents, and short-term investments totaled $89.5B as of December 31, 2025, down from $94.6B as of June 30, 2025; these are predominantly highly liquid investment-grade fixed-income securities, U.S. dollar-denominated but diversified with some foreign currency-denominated securities to manage risk.
• Equity and other investments: Equity and other investments were $21.2B as of December 31, 2025, up from $15.4B as of June 30, 2025.
• Valuation methodology: The majority of investments are Level 1 or Level 2, priced by pricing vendors using quoted market prices or observable inputs; Level 3 investments (valued with unobservable inputs) are an immaterial portion of the portfolio.

• Operating cash flow: Cash from operations increased $24.3B to $80.8B for the six months ended December 31, 2025, primarily due to an increase in cash received from customers, offset in part by an increase in cash paid to suppliers.
• Investing cash outflows: Cash used in investing increased $28B to $57.3B for the six months ended December 31, 2025, driven by an $18.5B increase in additions to property and equipment, a $5.9B increase in other investing to facilitate the purchase of components, and a $5.7B increase in cash used in net investment purchases, sales, and maturities.
• Financing cash outflows: Cash used in financing increased $1.6B to $29.4B for the six months ended December 31, 2025, primarily due to a $4B increase in common stock repurchases, offset in part by a $3.7B decrease in cash used for repayments of debt.

Composition: Unearned revenue consists primarily of volume licensing programs (including cloud services and SA), invoiced annually at the beginning of each contract period for multi-year agreements and recognized ratably over the coverage period, plus advance payments for other offerings recognized when control transfers.

Recognition schedule: As of December 31, 2025, total unearned revenue was $54B, with $26.3B expected to be recognized in the three months ending March 31, 2026, $15.8B in the three months ending June 30, 2026, $6.3B in the three months ending September 30, 2026, $2.9B in the three months ending December 31, 2026, and $2.7B thereafter.

Mix-shift risk: Management notes that if customers shift toward cloud-based subscription or consumption models rather than transaction-based licenses, revenue recognition will move from point-in-time to ratable over the subscription period or upon consumption.

• Repurchase activity: For the six months ended December 31, 2025, the company repurchased 20 million shares for $9.9B, compared to 15 million shares for $6.3B in the six months ended December 31, 2024; all repurchases were made using cash resources.
• Remaining authorization: As of December 31, 2025, $47.4B remained of the $60B share repurchase program.

• Dividends declared: The Board of Directors declared dividends totaling $13.5B for the six months ended December 31, 2025, compared to $12.3B for the six months ended December 31, 2024.
• Capital return intent: Management states the company intends to continue returning capital to shareholders in the form of dividends, subject to declaration by the Board of Directors.

• Planned capital deployment: Management states it will continue to invest in sales, marketing, product support infrastructure, advanced technology, and acquisitions aligned with business strategy, as well as additions to property and equipment including new facilities, datacenters, and computer systems across R&D, sales, marketing, support, and administrative functions.
• Cloud and AI capex: Capital expenditures will continue to support growth in cloud offerings and investments in AI infrastructure and training.
• Lease obligations: The company holds operating and finance leases for datacenters, corporate offices, R&D facilities, Microsoft Experience Centers, and certain equipment.
• Related-party disclosure: Management states it has not engaged in any related party transactions or arrangements with unconsolidated entities or other persons that are reasonably likely to materially affect liquidity or availability of capital resources.

• Revenue recognition — performance obligations: Judgment is required to determine whether products and services are distinct performance obligations accounted for separately or together; certain cloud services, primarily Office 365, are treated as one performance obligation due to significant integration, interdependency, and interrelation between desktop applications and cloud services, with revenue recognized ratably over the cloud services delivery period.
• Standalone selling price (SSP): SSP is estimated using a single amount for items not sold separately (e.g., on-premises licenses sold with SA or no-charge software updates) and a range of amounts when products are sold separately; where SSP is not directly observable, management uses market conditions and other observable inputs, stratified by customer size and geographic region.
• Variable consideration and remaining performance obligations: Returns, credits, and estimated customer usage are accounted for as variable consideration, estimated at contract inception and updated each reporting period; changes to estimated variable consideration were not material for the periods presented. Estimating total consideration allocated to remaining performance obligations involves significant judgments, including identifying variable consideration and potential renegotiation of commitments.

• Debt investment review: Investments are reviewed quarterly for credit losses and impairment; if fair value is below cost, management evaluates market conditions, issuer credit quality, and the magnitude of the shortfall — if a sale is planned or likely required before recovery, the decline is recorded as an impairment charge in other income (expense), net and a new cost basis is established.
• Equity investments: Equity investments without readily determinable fair values are written down to fair value when a qualitative assessment indicates impairment, with the charge recorded in other income (expense), net.
• Goodwill testing: Goodwill is tested annually on May 1 at the reporting-unit level (operating segment or one level below), and between annual tests if events or circumstances — including significant business climate changes, legal factors, operating performance indicators, competition, or disposition of a significant portion of a reporting unit — would more likely than not reduce fair value below carrying value.
• Valuation methodology: Fair value of each reporting unit is estimated primarily via a discounted cash flow methodology requiring significant judgment around future cash flows, long-term growth rates, useful life of cash flows, and weighted average cost of capital; changes in these estimates and assumptions could materially affect the goodwill impairment determination.

• Policy for internal-use software: Internally incurred R&D costs for software products to be marketed or sold externally are expensed until technological feasibility is established, after which costs are capitalized until general release to customers.
• Technological feasibility determination: Management judges technological feasibility to be reached after all high-risk development issues have been resolved through coding and testing, which generally occurs shortly before products are released to production.
• Amortization treatment: Capitalized software costs are amortized through cost of revenue over the estimated life of the products.