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Notes to Financial Statements continued (in millions, except per share amounts)


Earnings Per Share

Basic earnings per share is computed on the basis of the weighted average number of common shares outstanding. Diluted earnings per share is computed on the basis of the weighted average number of common shares outstanding plus the effect of outstanding preferred shares using the "if-converted" method, assumed net-share settlement of common stock structured repurchases, and outstanding stock options using the "treasury stock" method.
      The components of basic and diluted earnings per share were as follows:

Year Ended June 30 1998    1999    2000   
Net income $ 4,490    $ 7,785    $ 9,421   
Preferred stock dividends 28    28    13   
Net income available for common shareholders $ 4,462    $ 7,757    $ 9,408   
Weighted average outstanding shares of common stock 4,864    5,028    5,189   
Dilutive effect of:                  
   Common stock under structured repurchases 6    13      
   Put warrants       2   
   Preferred stock 34    16    7   
   Employee stock options 458    425    338   
Common stock and common stock equivalents 5,362    5,482    5,536   
Earnings per share:                  
   Basic $   0.92    $   1.54    $   1.81   
   Diluted $   0.84    $   1.42    $   1.70   

Operational Transactions

In August 1997, Microsoft acquired WebTV Networks, Inc., an online service that enables consumers to experience the Internet through their televisions via set-top terminals based on proprietary technologies. A director of the Company owned 10% of WebTV. Microsoft paid $425 million in stock and cash for WebTV. The Company recorded an in-process technologies write-off of $296 million in the first quarter of fiscal 1998.
      In August 1998, the Company sold a wholly-owned subsidiary, Softimage, Inc. to Avid Technology, Inc. and recorded a pretax gain of $160 million. As part of a transitional service agreement, Microsoft agreed to make certain development tools and management systems available to Avid for use in the Softimage business.
      In November 1998, Microsoft acquired LinkExchange, Inc., a leading provider of online marketing services to Web site owners and small and medium-sized businesses. Microsoft paid $265 million in stock.
      In September 1999, the Company sold the entertainment city guide portion of MSN Sidewalk to Ticketmaster Online-CitySearch, Inc. (TMCS) for a combination of TMCS stock and warrants with a value of $223 million. The transaction also included a distribution agreement. Microsoft recognized a gain of $156 million on the sale and will recognize revenue amounts related to the distribution arrangement over the term of the agreement.
      In November 1999, Expedia, Inc. completed an initial public offering of its common stock. Expedia, which is majority-owned by Microsoft, is a leading provider of branded online travel services for leisure and small business travelers. Expedia's financial results and financial condition are consolidated with the operations of Microsoft.
      In January 2000, the Company merged with Visio Corporation in a transaction that was accounted for as a pooling of interests. Microsoft issued 14 million shares in the exchange for the outstanding stock of Visio. Visio's assets and liabilities, which were nominal, are included with those of Microsoft as of the merger. Operating results for Visio from periods prior to the merger were not material to the combined results of the two companies. Accordingly, the financial statements for such periods have not been restated.
      During fiscal 1999 and 2000, Microsoft also acquired several other entities primarily providing online technologies and services. The Company did not record significant in-process technology write-offs in connection with these transactions.



The Company has operating leases for most U.S. and international sales and support offices and certain equipment. Rental expense for operating leases was $95 million, $135 million, and $201 million in 1998, 1999, and 2000. Future minimum rental commitments under noncancelable leases, in millions of dollars, are: 2001, $178; 2002, $172; 2003, $160; 2004, $151; 2005, $139; and thereafter, $437.
      Microsoft has committed $299 million for constructing new buildings and $200 million for the manufacturing of products. During 1996, Microsoft and National Broadcasting Company (NBC) established two MSNBC joint ventures: a 24-hour cable news and information channel and an interactive online news service. Microsoft agreed to pay $220 million over a five-year period for its interest in the cable venture, to pay one-half of operational funding of both joint ventures for a multiyear period, and to guarantee a portion of MSNBC debt.


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