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MICROSOFT FINANCIAL FRAUD
Conclusion: Updated 11/5/99 2:00 PM with Response to Mary Jo Foley ZD
Net Interview
We are living in extraordinary economic times here in the U.S. and
this success could ignite a whole new cycle of economic prosperity.
We must first, however, take a hard look at what is occurring at
Microsoft. Microsoft is a great company with terrific employees who
have achieved great success. Sadly, many of these brilliant people
have been blinded by the stock price and unable to see that they have
also become the key architect of the greatest financial fraud/pyramid
scheme this century. It is not uncommon for participants in pyramid
schemes to lose their emotional bearings. My close friends who work at
Microsoft are particularly upset over my work and it is possible that
even Bill Gates and Steve Ballmer do not realize the implications of
their financial practices. If you see anything in this analysis that
is not clear please challenge me via email so that I might clarify the
facts. The stakes are too high for all of us and let's also be
practical and respect the notion that Microsoft does have a certain
level of media influence that will undoubtedly be shaped to discredit
my findings.
The fundamental problem is that Microsoft is incurring massive losses
and only by accounting illusions are they able to show a profit.
Specifically, Microsoft is granting excessive amounts of stock options
that are allowing the company to understate its costs. You might ask
yourself, what would happen to Microsoft's stock price if the public
suddenly realized that they lost $10 billion in 1999 rather than
earning the reported $7.8 billion? If 80 percent of its stock value
or roughly $400 billion is the result of a pyramid scheme, one might
also ask what kind of effect this could have on the retirement system.
It is also important to note that this is a relatively new situation
that did not occur before 1995. Microsoft has always been a highly
valued stock and that might have been justified prior to 1995.
An Overview of Financial Fraud at Microsoft
[msbargraph699.gif]
This situation is not about stock valuation, product quality or
whether or not Microsoft has monopoly power in its markets. Nor is it
part of a pro or anti-Microsoft movement. This situation is instead a
shining example of financial fraud and corruption enabled by bad
government policy. If not quickly and aggressively addressed, we will
all be losers as credibility in our financial markets is destroyed.
This fraud accelerated greatly during the quarter ending 9/30/99. One
need only examine the State Teachers Retirement System of California
to see the impact. This one system now owns more than 16 million
Microsoft shares with a current market value of $1.4 billion due to
its commitment of indexing based upon the S&P 500. If 80 percent of
this value is the result of a pyramid scheme, based upon manipulating
a breakdown in the accounting rules, that would imply a future loss of
$1.1 billion to the teachers of California. It is unfortunate that
teachers will bear this loss when they are already struggling to keep
pace with inflation. To confirm this amount one need only contact
James Wollman, CEO of the California State Teachers Retirement
System. This is just one public retirement plan in one state.
Other recent significant events include Microsoft's addition to the
Dow Index, Deloitte and Touches issuance of a clean audit opinion,
Fidelity Investments response, a proposal for adding John Bogle to the
Federal Reserve Board and other matters. Each will be discussed
further in this report.
A common criticism of this study is its inadequate attention to the
raw data. Please do study this simple one page spreadsheet which
contains data derived from the SEC Edgar Database. Foreign readers
should note that the SEC is a government agency that monitors our
financial system and that misrepresenting this information can result
in severe sanctions. Right-click to download a Simplified Spreadsheet
(Excel 95 format), with supporting data and charts. If you download
using Netscape and can't open the spreadsheet, send e-mail to
bill@billparish.com requesting it as a file attachment.
In July I met SEC Chairman Arthur Levitt here in Portland, Oregon, and
provided him a complete summary of findings. This summary has also
been provided to Robert Parry and Alan Greenspan of the Federal
Reserve, Treasury Secretary Summers, Secretary of Labor Alexis Herman
and both Joel Klein and Phil Malone of the Department of Justice. In
addition, the largest public pension funds, their investment advisors,
state budget officers and representatives from leading bond rating
agencies, including Duff and Phelps, now have the report. These
pension managers were specifically asked to remove Microsoft from
their indexed portfolios based upon the S&P 500 as a step toward
demonstrating their fiduciary responsibility to plan participants.
Historical Perspectives
Two other situations this century involving similar techniques include
those of Charles Keating, who first destabilized and then later
plundered the Savings and Loan system and Samuel Insull who was
President of Edison Electric, the great technology company of the
1920's. Insull was a national hero in the 20's yet came to be
recognized as a symbol for what caused the great depression in the
1930's. Sadly, his good intentions and significant charitable and
civic causes did not include ensuring the financial integrity of his
company. He died of a heart attack in 1938, penniless, in a Paris
subway station, exhausted from years of fighting lawsuits for fraud.
Interestingly, he was never convicted.
Many believe that the stock market crash of 1929 caused the Great
Depression yet history clearly shows that it was instead simply bad
government policy that was manipulated by leaders such as Insull.
The link to the Keating Savings and Loan debacle was clearly outlined
in the original study in October 1998. Keating used junk bonds to
pilfer Savings and Loan banks and this time pension funds are being
plundered by junk stock as it is leveraged into the pension funds by
an over reliance on unmonitored passive indexes, most notably the S&P
500. Index based investment is an ideal strategy for pensions, yet the
fraud and corruption should be removed when of this magnitude.
The Original Purpose of My Study
In the summer of 1998 the rapid movement of global capital flows began
to have a crushing effect on developing countries. While everyone was
analyzing the speed at which capital moved, no one was trying to
answer the basic question, where did it end up? A closer look revealed
that a primary contributor to global economic instability was an
elaborate financial pyramid scheme being utilized by the Microsoft
Corporation, which others are now rapidly seeking to emulate.
Frankly, I was astonished myself and contacted Steve Ballmer's
assistant several times along with other Microsoft representatives,
including the editor of their Slate magazine, before publishing the
results of my study in a press release on PR Newswire. The
Independent, a major UK Newspaper, based their story on this study and
shocked many readers. The study also included projecting that
Microsoft would begin issuing "watered stock" in an effort to disguise
and diffuse the pyramid.
Watered Stock
On 9/23/99, the same day Steve Ballmer, for whom I have tremendous
respect for his honesty and integrity, publicly said that Microsoft's
stock price was absurd and "false", the company also filed a
registration with the SEC to make Expedia a separate company. This is
a dramatic watershed event in the history of our financial markets.
Either the SEC, Federal Reserve or Treasury department step up and
cancel this registration statement or we begin aggressively moving
toward a full scale economic meltdown for the following reasons.
Disclaimer: Due to the dramatic implications of the study results and
potential legal ramifications for Microsoft, let's focus on the hard
financial facts and leave the conspiracy theories and hyperbole to
others.
Expedia is a company with $38 million in sales for which it incurred a
loss of almost $20 million for the fiscal year ended June 30, 1999.
What Microsoft is also doing is loading Expedia up with $150 million
in stock option debt, making Expedia a "watered stock," and requiring
employees that transfer to Expedia to exchange unvested Microsoft
stock options for new Expedia options. What these employees may not
realize is that Microsoft will also charge this option expense to
earnings as they become vested, creating an expense of $150 million.
This is remarkable because Microsoft does not charge its own income
statement for such vesting options. Imagine how the Expedia employees
might feel if within 6 months their options are the equivalent of
worthless paper due to this staggering expense overhang. For this
reason and several others noted in a letter to Arthur Levitt, Chairman
of the SEC, I have asked that the Expedia IPO be canceled.
The fundamental challenge is that Microsoft itself is a "watered
stock" and must be deflated by at least 50, perhaps 80 percent, to
restore credibility to the financial markets as a matter of monetary
policy. Reasons supporting this conclusion will be discussed later.
To Steve Ballmer I would say, perhaps we could have a brief discussion
regarding some ways to manage this situation. By now it should be
clear that farming me off to your legal staff was not a good
decision. You can only confuse people so long before they are fully
armed with the facts and require you to be accountable for your
actions.
A Breakthrough With The Independent Editorial
In October of 1998 a prominent British publication, the Independent
newspaper, published a lead editorial, citing my study and concurring
that Microsoft had erected a financial pyramid scheme in which
employees were prepaying their own wages and the retirement system was
being plundered. I can still remember the editor's voice who
interviewed me and his startled realization that the study was
credible. The study results and follow-up work were then sent to The
Economist and several leading business publications here in the US,
more than a dozen times, in addition to regularly calling once a month
and leaving detailed messages. Another breakthrough could have
occurred when CNBC scheduled a panel discussion on World Business
Review with Caspar Weinberger yet the show was canceled due to the
controversial nature of the content.
The Economist Story Legitimizes My Study
This is Bill Gates' favorite publication on finance and economics and
generally believed to be the leading such publication in the world. In
an 8/7/99 cover story, The Economist noted that a proper accounting at
Microsoft would result in a loss of $18 billion for 1998 rather than
the reported earnings of $4.5 billion. If you are not an accountant,
don't waste the time pretending you are, trust The Economist, the
earnings are not real. Don't let yourself be intimidated or deceived
by financial analysts, TV commentators, bullies on Internet forums or
Microsoft's elaborate public relations campaign. Bill Gates trusts The
Economist and you should too. Abbey Joseph Cohen and Rick Sherlund of
Goldman Sachs have been sent this material numerous times over a 9
month period and neither has publicly divulged this situation.
Microsoft's Response to The Study
Microsoft's perspective is best reflected by Bob Herbold, Chief
Operating Officer, to whom the CFO reports. Bob very sincerely
replied, "Bill, everyone is doing it." My response was that Microsoft
is a leader and that others are now seeking to emulate these
fraudulent practices they have legitimized. Naturally Bob was not
pleased by this perspective and that was our final conversation. A
second informal response came when Microsoft's asked PR Newswire's to
stop issuing my press releases. Microsoft is PR Newswire's largest
client. Pam Edstrom, director of Microsoft's public relations, Steven
Holley, lead outside counsel with Sullivan and Cromwell and Bob
Herbold are regularly called prior to releasing any new information on
the study yet they no longer respond to inquiries, which is
disappointing. Although confident of the findings, it would be nice
if they could issue a formal statement or response.
Why Deflating Microsoft's Stock Will Be Good for Microsoft and the
Economy
The media would like you to believe that what is good for Microsoft's
stock is good for the country, yet that is false. One key impact of
Microsoft's scheme is to suppress the stock values of many other
companies, large and small, that are practicing honest accounting.
Investors are less interested in these companies because compared to
Microsoft they look less profitable. This artificial inefficiency
progressively destabilizes the economy and the media fuels this by not
disclosing Microsoft's real earnings. A good example might be
Allstate Insurance, which recently announced earnings would be less
than expectations and saw their stock drop sharply. Allstate is still
significantly more profitable than Microsoft.
A second reason is that investment managers have gotten lazy and been
corrupted, narrowing their holdings to a few leaders like Microsoft,
and focusing on fee generation rather than good investment
management. On-line brokers are also earning massive fees due to the
high trading volumes since they earn a spread on every transaction in
addition to the nominal transaction fee. As John Bogle notes, even
passive S&P 500 index based investors are being charged excessive
fees.
On a longer term basis, Microsoft might benefit somewhat in terms of
product sales from deflating its stock as capital moves more
equitably, both here in the U.S. and abroad, thereby stimulating a
broader based economic growth and more vibrant markets for its
products. They may also find recruitment easier as new employees
perceive more growth potential in the stock value. Earnings will
plummet however as margins rapidly decrease upon recognizing their
true earnings..
It is also true that other tech companies will be affected from using
similar practices, yet the effect at Microsoft dwarfs the others. In
addition, most of these companies are much smaller than Microsoft and
can grow out of the problem as they expand. Also unique to Microsoft
is that roughly half of the stock is still owned by management and
employees. That is why it is imperative that the SEC act quickly
before more of this stock gets pushed into the retirement system.
Tools Available to Deflate Microsoft's Stock - Please note that these
are recommendations specific to Microsoft, not the overall market.
1) Require restatement of earnings since 1995 to fully account for
stock options, both on the income statement and balance sheet.
History clearly shows that footnote disclosure is not adequate to
deflate the stock.
Microsoft has deceived the public into thinking that stock options are
charged to earnings via the earnings per share calculation when
exercised. That is false and we need also revisit our fourth grade
math class and a lesson in basic fractions to prove how ridiculous
that is.
The calculation of earnings per share is a completely separate and
independent issue from whether or not an item appears on the income
statement as a revenue or expense. The earnings per share calculation
comes after the income statement is prepared and earnings determined.
Stock option wages are "never" charged to earnings, that is, they
never appear on the income statement. They are however indirectly
considered in the earnings per share calculation in the form of more
shares outstanding.
Let's now take a look at how earnings per share is calculated.
Earnings per share is net earnings divided by shares outstanding. In
math terms, the numerator is net earnings and the denominator is
shares outstanding. Basic math tells us however that there is a
fundamental difference in the outcomes derived by making changes to
the numerator compared to making changes to the denominator. Nothing
more than basic fractions.
For example: If Microsoft's net earnings are 7.8 billion divided by 5
billion shares that gives us 1.56 as earnings per share According to
Microsoft's position, if we add the 800 million shares in options that
would result in 7.8/5.8 or 1.34 in earnings per share. This is what
Microsoft calls "fully diluted" earnings per share. Don't be fooled by
the term "fully diluted." What I am saying is that if the numerator is
adjusted, that is, if earnings are actually charged for the cost, we
would get something like -10 billion/5.8 billion or a loss if 1.72 per
share. Can you now see the clear difference? The Q and A section
will include a section on basic accounting theory to help furthur
explain this.
What seemed like the financial story of the decade might indeed be the
basic math story of the decade.
2) Do not allow Microsoft to issue tracking stocks, spin-offs or
"watered stock," an example of which is Expedia, for 10 years. This
would be subsequent to the recommendation that the Department of
Justice divide Microsoft into at least 3 companies, a position that
will be explained later in this report.
3) Prohibit Microsoft from buying back its own stock, instituting
stock splits or selling put contracts and engaging in other hedging
activity for 10 years. These are tricks used to manipulate the stock
price and have contributed greatly to building the financial pyramid.
Stock buy backs and splits can be good tools for sound financial
management yet Microsoft should be denied access to these tools.
We wonder how we have come to being a market so laden with derivatives
yet we need only look to the Nightly Business Report, which refuses to
report this story. When told about the Independent article and
Economist cover story, a senior producer replied that maybe it's just
not that big of a story over here in the US. Did you ever consider
that, they noted. Previously a New York Editor for the show noted
that, we don't do stories like that. More than a year was spent in a
very thoughtful progression, trying to get them to do the story, and
it does seem troublesome that this show is using a public broadcasting
channel with such attitudes.
Also noteworthy is that the Bridge News Service, formerly the
Commodity Research Bureau, specializes in information on futures and
derivatives and is the primary source of business news for the Nightly
Business Report. This is not some wacko conspiracy related assumption
but rather a simple matter of fact.
4) Prohibit Microsoft from offering employee stock options or any
employee based ownership program for 10 years. The truth is most
people go to Microsoft for stock options. This will require paying
more real wages and more accurate financial results and therefore
deflate the pyramid and increase competition. It might also introduce
more equity among their own employees; i.e., perhaps officially
employing sub-contractors would be good for internal morale at
Microsoft.
5) Ask to have Microsoft removed from your 401K, 403B or public
pension retirement fund, including funds based on the S&P 500 and
other indexes. Removing Microsoft from this index will greatly reduce
demand for the stock and deflate the price. This would be rather
simple for a large public pension fund. They could issue a statement
to members saying their S&P 500 index has everything except Microsoft
due to concerns over their financial practices. Sometimes we forget
that for the system to work we must take action. One effect of the
pyramid they are building is that it is using cash from the retirement
system to sustain itself while the founders aggressively diversify, as
noted in a recent cover story in Fortune magazine indicating Bill
Gates alone has a non-Microsoft investment portfolio exceeding $12
billion. It is also likely that Social Security funds will be the next
level or source of funds for the pyramid if reforms are not initiated.
It seems that many pension plans have forgotten that they work for the
participants, not investment consulting and management firms. Even
the State of Oregon PERS and State Treasurer Jim Hill, after receiving
the study results, appear to not have done nothing to address this
situation. Jim Hill is a fine State Treasurer and the potential
political cost of exposing this fraud is understandable, but it is the
right thing to do.
6) Try to generate community discussions and dialogue via talk shows,
radio and other media outlets. I would be glad to participate if that
were of interest. Please do listen to the Jeff Rense radio interview
as an example, a link to which is available at www.billparish.com You
might also send the Web site link to friends and people of influence
such as other business leaders, political leaders and journalists,
both here in the U.S. and abroad. Let's create an information pyramid
of our own in the true spirit of democracy to raise the dialogue
here. If you have the email address for anyone in particular who
might be important in this effort, they could be added to a once or
twice a month update list.
7) Write a letter to your Congressman and local newspaper along with
posting messages on Internet forums. Please include a link to the
study update in all your communications. My site contains no
advertising other than that for the investment management business, no
cookies and access data is not sold to anyone for any reason.
Listening to the Jeff Rense interview, which can be linked to from the
site, could also be very helpful.
The McCain, Gore, Bush and Bradley presidential campaigns, in addition
to the staff of both US Senators in Oregon, Gordon Smith and Ron
Wyden, have now received the study results. Of the four presidential
candidates, the only one who has had the courage to speak out on this
issue is John McCain. McCain actually introduced legislation to
prevent this situation in 1995. He wanted to require that if companies
took a tax deduction for stock option wages, then those wages must be
charged to earnings. McCain was defeated which is ironic given that
he was a central figure in the Savings and Loan debacle, one of the
original Keating 5, and this time tried to do the right thing.
Bill Bradley's primary funding base is Wall Street and George W. Bush
is similarly closely aligned with Wall Street investment and legal
firms. Al Gore would seem the most likely to speak out on this,
especially given his endorsement by the major unions, yet he might be
fearful of a further backlash from technology firms. Gore has done
nothing thus far.. Steve Forbes has not received the study.
Most disturbing is that Microsoft, via Slade Gorton, does appear to be
aggressively supporting George W. Bush. Microsoft is also using and
corrupting well meaning public interest groups like the Citizens for a
Sound Economy, which is appearing more and more like a special
lobbying group designed to avert potential soft money campaign
spending limits, if enacted.
Department of Justice Case
Breaking up Microsoft, setting product limitations and other such
measures will simply not work unless the financial side is addressed.
AT&T and Standard Oil had real assets while Microsoft has smart
dedicated people and a pyramid scheme of which the public is
completely unaware. They also have good products and patents but any
technologist knows that the speed of change subjects them to rapidly
becoming obsolete. When these people leave, the assets are gone and
they are now leaving in large numbers.
Perhaps it is time that the Department of Justice focus on the real
product issue and the product is not Windows but rather Microsoft's
stock itself. Deflating Microsoft's stock price 50-80 percent will
help greatly in resolving concerns over Microsoft's perceived
monopoly. Most remarkable is that it could be done if the DOJ engaged
in several high profile public disclosures. How would the public
feel, for example, upon knowing that Microsoft took a tax deduction of
$9 billion in 1999 for wage expense that is not charged to earnings.
This could be the greatest example of corporate pork this century,
from a company that prides itself on seeking the "freedom to
innovate." Sure other companies do the same thing yet the magnitude
of what is occurring at Microsoft makes its case unique.
Originally it was recommended that the Department of Justice case be
dismissed for fear that a breakup could further fuel its financial
pyramid by creating several smaller pyramids and disguising the
fraud. Having been a strong and loyal Microsoft supporter since
Windows 2.0, it is also difficult to take an official stand here
against the company and criticism will result regardless of what that
stand is. The study, however, will now incorporate the following
official position regarding the DOJ case.
Microsoft has violated our trust, contributed greatly to corrupting
our financial, governmental and legal systems and should be first
broken up and then allowed to be liquidated by free market forces as
the extent and impact of their massive fraud is unraveled and
disclosed. This will obviously be a disaster for shareholders but a
great opportunity for their solution providers and probably result in
a services intensive business model, not unlike what Linux supporters
are attempting to create. Leading investment firms, most notably
Fidelity Investments and Janus, may also have significant legal
exposure here.
The Department of Justice might consider a minimum of three companies
as follows. A key objective should be to separate the SQL, Frontpage,
Excel and Word applications from the operating system. It is also
important to separate Windows CE from Windows NT and deny the Windows
and Windows NT business the capacity to offer content or data storage
services. One practical approach might include the following three
businesses:
1) Windows and Windows NT (No content or storage services based
businesses)
2) Applications: Excel, Word, Frontpage, SQL
3) Internet: Windows CE, MS Explorer, MSN, etc.
Giving the applications and Internet activities an incentive to talk
to other operating systems such as Linux and new operating systems not
yet developed should help stimulate competition and innovation.
Once divided up, and the pyramid exposed, the pyramid will quickly
deflate and it is not an unrealistic possibility that the company
could be liquidated due to significant lawsuits from retirement
plans. It will be a very sad day if that does occur yet Microsoft has
clearly told us, whether we like their products or not, that they can
not be trusted.
Financial Pyramid Building Techniques Being Used by Microsoft:
Stock option programs are a big benefit and many companies use them
responsibly. At Microsoft, however, stock option accounting is only
one of its many pyramid building techniques, what could be called a
cash generating component. Additional pyramid building techniques
include the following. It is important to note that the genius of the
pyramid scheme is to leverage share growth from investors using a
passive investment approach based upon indexing to the S&P 500. Most
smaller and mid size technology firms are not in the S&P 500 and
therefore are locked out of this key aspect of the pyramid from the
beginning.
1) Earnings Management: The first and most important tool Microsoft
uses is the manipulation of earnings to ensure analysts expectations
are met. According to an ABC News 1/22/99 article by Michael
Martinez, Microsofts own internal auditor, a respected 30 year veteran
and former partner of Deloitte and Touche, was fired in 1996 after
informing management that their earnings manipulations were illegal
and violations of the SEC and FASB laws. He was given the option to
resign or be fired and later settled for $4 million after suing under
the Federal Whistle Blowers Act.
2) Speculating on Their Own Stock: Microsoft issues a massive amount
of put options. During the same quarter ended 3/31/99, Microsoft sold
put contracts on their own stock for $400 million, basically betting
that the stock will not decline. They need not worry because they are
allowed to cook the books. Of Microsofts significant cash balance, it
is also a financial fact that more than 65 percent of that cash did
not originate from product sales but rather from tax benefits
associated with the exercise of stock options, employees prepaying
their own wages, and the sale of put contracts on its own stock.
Microsoft's financial innovation is making a mockery of financial
integrity, ethics, and the securities laws, just as Insull did in the
1920's.
3) Convincing Employees to Take Less Real Wages: Microsoft
aggressively markets stock options to new employees in an effort to
take wage expenses off the books. They also know that they can pocket
the exercise price employees will be required to pay to take ownership
of the stock. What also seems clear is that Microsoft is still
aggressively marketing its stock option program to new recruits. To
quote an email received, I am about to begin employment at Microsoft
and the stock option was the selling factor. Does your article overall
state that it will be bad for me and will fail me in my retirement
planning? Is Microsoft fulfilling its disclosure obligations to its
own employees, especially those that have put their entire 401K
balance in Microsoft stock? This explains how 22 percent of
Microsoft's massive cash balance has actually come from its own
employees in the form of them prepaying their own wages through stock
option exercise prices.
4) Publicly touting the stock: In a recent earnings release, CFO Greg
Maffei jokingly cited 10 reasons why Microsoft is a $1 trillion
company. A common strategy here is to have top executives issue
conflicting statements, one talking up the stock and the other talking
it down and then within a few days financial analysts all come out
with buy recommendations on the stock due to a small decline. They are
making a mockery of financial integrity, ethics, and the securities
laws.
5) Controlling the media. After issuing several press releases on PR
Newswire, Microsoft told the service to stop issuing my press
releases. Microsoft is PR Newswire's largest client. PR Newswire is
owned by Miller Freeman of the UK, a large media company that
publishes many computer related publications including Information
Week in addition to Microsoft focused journals such as the Windows
System Developer. Miller Freeman does indeed function as if it were a
department of Microsoft itself.
6) Stock Option Accounting: It is important to note that any
discussion of stock option accounting must address two completely
different and independent situations. The first is to analyze the
impact of options exercised and already retired and the second is to
analyze the remaining options debt outstanding. This study focused on
both whereas most media coverage only focuses on the remaining options
debt outstanding.
Options Exercised and Retired: When stock options are
exercised, the options are retired as the employee takes ownership of
the stock. The value of these retired options should not be a subject
of debate. Upon exercise, the options are valued at the market price
of the stock less the exercise price and the employee pays W-2 taxes
on this gain, even if the stock is not sold. The company then takes a
tax deduction for wage expense for the same amount. What is surprising
is that not a dime of this expense is charged to earnings at
Microsoft, which they could voluntarily do. This amount alone for 1999
should exceed $9 billion even though net income is only $7.8 billion.
Remaining Options Debt Outstanding: The remaining unexercised
stock option liability is a completely separate issue and a debt just
as real as the current stock quote, especially if half of the options
are currently vested and exercisable. We all know that stocks can be
over and under valued yet the market gives us a price on any given day
and that is the price. The Black Scholes and related footnote
disclosure is a great mathematical model yet has become nothing but a
Trojan Horse for plundering the retirement system. What the Treasury
Department and Federal Reserve might concern itself with is that this
debt, $60 billion at Microsoft, has no interest cost that hits the
income statement and increases $800 million with each $1 increase in
the stock price. Simply put, Microsoft is somewhat immune to Federal
Reserve interest rate hikes, which explains why the stock is
increasing as the Fed raises rates and continues creating a Long Term
Capital like debt pyramid.
7) Purchasing future sales via equity investments: Another earnings
management tool being used by Microsoft is the purchase of future
sales via equity investments in other companies. Here is my
understanding of how that works. I could be wrong on this and
therefore the best thing to do would be confirm these claims with
their CFO, Greg Maffei.
First of all, Microsoft makes a $250 million investment in WebMD for
an 11 percent equity stake and part of the deal is that WebMD commits
to $100 million of advertising on MSN network. At the same time,
Microsoft agrees to subsidize an equal amount in medical prescriptions
for people using WebMD. Of course there are a few other interesting
aspects of this transaction which wont be addresed in this report. You
have basically bartered a purely paper transaction and current
accounting rules will allow you to recognize the entire $100 million
as revenues for MSN network, even though you are just trading checks.
That is, you are trading subscription subsidies for advertising
revenues. Advertising revenues are indeed the political currency of
the 1990s. Keating spent his dollars buying influence in Washington
D.C. Microsoft is buying influence on Madison Avenue.
8) Managing the financial analyst community. Another excellent
earnings management technique is the management of the analyst
community. This can be done by directing investment banking business
associated with acquisitions to a variety of firms based upon their
opinion of the stock. Microsoft purchased more than 33 companies in
1998. A good example here might be Rick Sherlund of Goldman Sachs,
often noted as the guy who can move tech stocks. One might ask why
Mr. Sherlund refers to Microsoft as a company with no debt when they
clearly have a contractual obligation, just as real as todays stock
price, of $60 billion to their employees. Fidelity Investments, one of
Microsofts largest shareholders and also provider of their 401K
retirement plan, has been silent on this issue.
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