The brilliance of deferred revenue in Windows 10
I just wrote up an article on how people were looking at the term "deferred revenue" in Microsoft's Windows 10 PR material and getting it all wrong. And then I sat down and thought about and realized that there is much more to this move, and that it could be a brilliant strategy if I'm understanding things.
So, for accounting purposes, since Microsoft cannot be sure how many paid upgrades they are going to lose by offering a free upgrade, they may need to assign every free unit a value and record that as a loss somewhere. Naturally, this could result in a positively MASSIVE drain on their numbers which could scare off investors.
And that is where revenue deferral comes in. It is also where the 1 year limit on the offer comes in. By limiting the free upgrade period to a year, they know that the negative revenue they defer won't grow beyond the first year. But positive revenue will (or at least should).
If all revenue is deferred evenly over 3 years for instance; YoY for the four years following that initial write down, each year is basically guaranteed to look better than the last even if it is truly isn't because during those first three years, new sales will be additive and none of the Windows 10 sales will yet be fully recognized and in the 4th year the write down will be off the books for the first time, giving a one-time boost.
For example, if, $300M (recognizing -$100M/year) worth of free upgrades were given, and then $300M worth of new sales came in the first year and then another $300M in each subsequent year as well, then in year 1 they will recognize $0 in revenue because the -$100M/year from the write down will cancel out the $100M/year from the first years sales.
In the second year, no new free upgrades are given, so they still have just the -$100M deferral from the 1st years upgrades + $100M/year from the 1st year sales and another $100M/year from the second years sales. In year 2, they made the same amount in sales as year 1, but they recognize $100M more. The same thing in year 3. And, if the trend continued, in year 4 and they sold the same again, they would recognize $300M/year, and only then, after 4 years would they plateau.
Basically, the advantage this gives them when reporting profits and losses for Windows 10 is that it allows them to spread out any bad numbers from the first year over a longer period and gives them effectively 4 years of numbers that should look like steady growth buying the company time to turn things around if it gets off to a slow start.
Even if they don't need to factor those free upgrades in as a loss, they would still get 3 years worth of revenue where only those paying close attention to the deferral amounts would truly know Microsoft's state of affairs from year to year, once again, making them look better off than they might be and buying the company time, should they need it.
So, for accounting purposes, since Microsoft cannot be sure how many paid upgrades they are going to lose by offering a free upgrade, they may need to assign every free unit a value and record that as a loss somewhere. Naturally, this could result in a positively MASSIVE drain on their numbers which could scare off investors.
And that is where revenue deferral comes in. It is also where the 1 year limit on the offer comes in. By limiting the free upgrade period to a year, they know that the negative revenue they defer won't grow beyond the first year. But positive revenue will (or at least should).
If all revenue is deferred evenly over 3 years for instance; YoY for the four years following that initial write down, each year is basically guaranteed to look better than the last even if it is truly isn't because during those first three years, new sales will be additive and none of the Windows 10 sales will yet be fully recognized and in the 4th year the write down will be off the books for the first time, giving a one-time boost.
For example, if, $300M (recognizing -$100M/year) worth of free upgrades were given, and then $300M worth of new sales came in the first year and then another $300M in each subsequent year as well, then in year 1 they will recognize $0 in revenue because the -$100M/year from the write down will cancel out the $100M/year from the first years sales.
In the second year, no new free upgrades are given, so they still have just the -$100M deferral from the 1st years upgrades + $100M/year from the 1st year sales and another $100M/year from the second years sales. In year 2, they made the same amount in sales as year 1, but they recognize $100M more. The same thing in year 3. And, if the trend continued, in year 4 and they sold the same again, they would recognize $300M/year, and only then, after 4 years would they plateau.
Basically, the advantage this gives them when reporting profits and losses for Windows 10 is that it allows them to spread out any bad numbers from the first year over a longer period and gives them effectively 4 years of numbers that should look like steady growth buying the company time to turn things around if it gets off to a slow start.
Even if they don't need to factor those free upgrades in as a loss, they would still get 3 years worth of revenue where only those paying close attention to the deferral amounts would truly know Microsoft's state of affairs from year to year, once again, making them look better off than they might be and buying the company time, should they need it.
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