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STEVE BALLMER: Well, thanks. I first want to say thanks to everybody very, very much for taking the time and spending it with us here today. It is a big investment of time just to get to Seattle, let alone to sit with us for an entire day. But we appreciate it very much. We appreciate the interest. I will tell you, we did our annual sales meeting last week in Atlanta. We had about 12,000 people fly in from around the country, and the same kind of thing: Start at 8:00, we're supposed to be done at 6:00; we didn't finish until about 8:15 at night. I promise we'll be better on time than that, but we get sometimes just extra enthusiastic about what we have to discuss. I also want to tell you, this is a Financial Analyst Meeting first. I am speaking first. I don't think in, whatever, 17 years of doing Financial Analyst Meetings I've ever had the pleasure of going first. I'll tell you I'm a little nervous about it, but mostly, frankly, I'm a little excited because I get a chance to talk today about essentially, outside of my family, my three favorite things: Microsoft, innovation, and growth. And that's what I'm going to chat with you a little bit about today, and hopefully give you something of a sense of where I think we are, and where I think we have the opportunity to go here into the future.

I think it's important to start with a perspective, though, of where we've come from. And particularly for me it's about five years since I became CEO, kind of an unusual transition. Bill stepped down to become our Chief Software Architect. But, of course, the two of us have been partners here for almost 25 years, but it's a good time for a look back to see how have we been doing on innovation, how we've been doing on growth, how those things come together. What I have here is a summary of our revenue and operating income, pre-tax, no investment income, no legal charges, no stock-based compensation, because I think it makes it hard to get an apples to apples comparison. And I show you what that looks like for five years, and below it what we've done with R&D spending, which, in some senses, is the very best proxy for the company's investment in its future. And it's been a pretty good five years. I think we've been through a period of really unparalleled innovation and unparalleled growth almost in world history. We've gone from a company of $25 billion and $12 billion of operating profits to $40 billion and $19 billion of operating profit while increasing our R&D spend by almost 25 percent. I think that's really quite an achievement, and certainly one both on the innovation front and on the growth front that we're very proud of. And of course the question is really for today not where have we come from, but what have been the key elements that have facilitated this kind of unparalleled success? What will they look like in the future? And what does the future bring?

In some senses, I think the key elements of success are three.

Number one: Are we picking the right areas to innovate? At the end of the day, that is a key bet: Are we in a broad enough portfolio of opportunities? Is the set of things we're investing in too narrow to propel innovation and growth? Do we take a broad enough outlook, or too broad an outlook on the opportunities and challenges that we have to serve our customers?

Number two: Do we execute? Do we execute well on the innovation front? Do we execute well in the marketplace in front of our customers?

And number three: The third question is, really, do we keep up with, can we keep up with major industry transformations that are going to go on? In the time I've been at Microsoft, 25 years, we've had the transition from minis and mainframes to PCs. We've had the transition from character mode to graphics user interface. We've had the transitions to the Internet and the browser. And you have to assess, will we keep up with those transitions? What does that look like, or is there an innovator's dilemma, essentially, type problem in front of us?

I want to talk about all three of those issues a little bit, and then I want to have a chance to show you where I think the innovation and growth comes from for the future.

I will start on this notion of innovating in the right areas, how broad is our perspective. Let there be no doubt, Microsoft is trying to innovate, and is innovating across a broader spectrum of human endeavor, if I can say it that way, than any other company certainly in the information technology industry, starting with the core devices, and not just PCs anymore, but phones and set-top boxes. We're trying to provide the core user interface and experience to information for users. We're trying to give developers the full complement of tools that they need to build and manage and secure applications. We grew up, in a sense, helping people communicate and collaborate and express themselves. There's a lot more runway left in that set of scenarios, and in that vision. We're trying to help people organize and access the information of the world, their personal information, their corporate information, the information in their communities, the information out in the world at large — big, bold view, how do they read it, how do they experience it, how do they hear it, how do they watch it? Entertainment is an area we've picked for innovation. How do people get new-generation, next-generation entertainment experiences, leveraging the power of software and intelligent experiences in the Internet. And certainly in the world of business and e-commerce, there's a lot of innovation to come, and Microsoft plans to lead and drive the innovation and growth that comes in that area.

What I'm saying here is really not some small trivial thing. I think it's a very big idea, because when a company hits a certain size one of the key questions you ask is, how do you get more growth? A company has to be willing to reinvest itself, to think about its mission more broadly, to seek to do more for its customers, and in literally every area up on that board there is some big significant competitor, but there is nobody who is trying to compete and innovate and grow across this entire expanse of ideas. And if we are to grow, we must innovate broadly. We see synergy across what we do in these areas. Synergy in user experiences, synergy in the way people build and manage the software, synergy between entertainment and communications scenarios, information access, and business and e-commerce, and so on and so forth. This is not a set of unconnected experiences, but it is a breadth of innovation investment that is really unparalleled and unprecedented.

Second key question is execution. You'll get a chance to assess a little bit today what you think about our execution. I'm going to try to give you a snapshot about history and a little bit of a snapshot about what the near-term future looks like in my opening remarks. I had our team go back and pull the operating income pre-tax, no stock comp, no special charges—same basis as the first line I showed you—of 25 leading IT companies, partners of ours, competitors of ours, but people that represent, if you will, the strength and the drive and the impetus in information technology. I said, add them all up and tell me what the operating income was in the year 2000, what was Microsoft's share, tell me what the operating income was in 2005, what was Microsoft's share, and then the question in some sense is for all of us, certainly we believe positively and strongly and compellingly in the future, but the real question is in 2010 what happens to the industry's pie, and what happens to Microsoft's?

I didn't leave out—I don't think I sandbagged this—I put in the fast-growth companies: Salesforce, Google, Yahoo!. The big companies: IBM, Intel, Dell, HP. You can have your own favorite list, but certainly if you're gauging execution over the last five years, our markets have grown. The market has grown by about a third, and our share—at least the operating profits of this market have grown in this collection of companies—and our share of that operating income has grown actually quite significantly from 18 percent to almost 23 percent of the total operating income of this group of 25 companies.

Now, we I hope will continue to grow our share, because of the breadth of investment that we are making in R&D. That's an execution question, of course, and we all get a chance to say, Will the IT industry be, in general, a more profitable business five years hence than it is today? We certainly believe in our opportunity, relative to the growth in that overall pie.

Again, in terms of assessing execution, in a sense I'd tell you to take a look at our product pipeline, particularly over the next six months. In a way, we're applying our own Moore's Law almost to product innovation. In the next year our product pipeline will double that of the past three years. You'll see new products, Windows Mobile 5, the beta of Windows Vista, and Office 12. You'll see new releases of Windows Server, Microsoft TV, and many, many other products during the course of this next six months. I think it's kind of an interesting way to think about it. The Moore's Law of product innovation, as our pace of introducing these kinds of new innovations across that broad spectrum of areas increases.

The third issue that I mentioned is this notion of the changing world, and can we keep up. The world is changing, but so is Microsoft. The PC and Windows remain today at the center of people's technologies. But today people are using a range of new devices and new Internet-based services at dramatically increasing rates. And while the PC continues to grow super nicely, the new areas—and new areas, frankly, that we will tackle with vigor and excitement and enthusiasm—are growing even faster. We are committed to keep up with the changing world.

The Internet's transformative impact on the software business has just begun to be felt. We've lived in a world where we deliver bits, we're moving to a world where we deliver bits and services across the Internet. The digital lifestyle, new business models—add subscriptions in addition to transaction fees for software—are all important. And I guarantee you, here at Microsoft it is absolutely a job one priority to not only keep up with this shift, but to help drive it, and shape it, and be a significant part of where the industry moves forward. So a broad range of innovation, I'd say the broadest, and broad enough to grow, a history of execution and a pretty good near-term future on that front, and certainly a broad understanding and a commitment to keep up with the changing world.

Before I turn and talk about how all of that then can amount to growth, I do want to talk a little bit about the fact that there are risks in our business. We have risks, people love to talk about them. Challenges: People talk about the challenge we have from open source software. Yes, we do, and we're focused in on it. The challenge of services as a transformative factor, and new things—search, music, things that are happening—we're focused in on it. People talk about the challenges of our legal situations which are, frankly, primarily behind us today, although there are still a few issues remaining; we've really done a lot of work to put those behind us. There is the challenge of protecting intellectual property. Piracy, particularly in emerging markets, is very high.

So we have challenges in our business. If we're not innovating and creating enough value, and moving with speed, and executing hard, there are certainly risks to any view of growth. But, the thing I want to make sure you understand from my talk today is how enthusiastic we are about those opportunities, and about the investments we're making to take advantage of them.

Around here innovation really does drive growth. There is no way for our company to grow without innovation. We've had choices. We could focus only on our original anchor business, or anchor businesses, and grow modestly, or we could set our sights higher and aim for greater growth. We chose the path for greater growth. We'll achieve that growth not only by focusing on our anchor businesses, but by competing and winning in a wide range of new services, many of them based on advertising or subscription revenue, and by creating a new portfolio of products that meet the growing needs of our customers. That really is the formula for growth at Microsoft, growth beyond our anchor businesses; and that certainly is the road ahead, the new road ahead, for Microsoft.

The anchor businesses—I think most of you would think about Windows and Office and our server businesses. We think we can grow those. I'm going to talk about that. We're trying to expand the portfolio of areas as I discussed in which we are innovating. I want to talk about how that expansion of the portfolio can bring growth. And, as I said, we are committing and committed to this notion of software as a service. That, too, has the opportunity to bring great growth to Microsoft.

Let me start with the anchor businesses, if you will. And here I think we think Windows and Office and servers. And we sell these things quite broadly across the world. Some people will ask if Windows Vista is the end of the last generation of software. I think about it as the beginning of the next generation of products for Microsoft. The PC market, the server market—those are growth hardware markets. The units in marketplace will grow. We have an opportunity, and we see it when we come out with exciting innovations to stimulate even greater growth on the software side than we see on the hardware side.

Piracy is rampant in emerging markets. That will change as those countries mature and as we get better and better at articulating the value of legitimate software. In China alone, the second largest PC market in the world, a country that will care about intellectual property for its own future development, piracy is well, well, well above 90 percent. There are billions of dollars of growth opportunity merely by selling the value of legitimate software.

We think we have great opportunities, though, also to grow share — I didn't say "maintain" share, I said "grow" share. I think we can grow share in the server. We can do that by being more successful, more innovative, in Web servers. We see that opportunity today. We've got some of the best minds saying not just how do we hold share, but what will it take to win back large hosters. And we've put into market some of the most innovative work we've ever done with our .NET platform for hosters in the last year and coming in this next year. We barely play today in the market for high performance or HPC, high-performance clusters. These are big technical computing systems that you find in scientific applications, in pharma companies, in automotive, in oil and gas, in government. Mostly a Linux world, frankly, today. We've got great innovations in development tools, in management software. We recently hired a new vice president of technical computing to really think about and help us drive and shape our opportunity.

We think there's an opportunity for us in database, in e-mail. We have gained share, as you'll hear later in the day, versus both Oracle and Lotus with their Notes product. And we think there is more share to gain. Deliver more value, drive more units, gain share.

To some degree people will talk about this as a competition with open source—and sure it is—and a competition really with IBM. When it comes to the servicing of global business, Big Blue may do most of the advertising today, but we actually do more of the selling—the selling to businesses of all sizes around the world. And I think you can fairly say we're really becoming the standard for modern global business. So I'm excited about the growth opportunity in our anchor businesses—more units, more units, comparable value, more units and drive forward very hard.

The second area is growth that, when you look at it financially from a segment perspective, will show up in Windows, will show up in Office, and will show up in server. But it really is a fundamental expansion of our innovation portfolio. It is consistent with that expansion.

What I show you here is a set of new technologies and new value that we have announced and are working on—in some cases our strategies are very visible, in some senses less visible. But we talk about work flow, real-time communications, document management, collaboration, terminal services, search, portals, unified messaging, media technologies management, anti-spam, Mendocino, business intelligence, storage, and security—blah, blah, blah, blah, blah. These are all areas in which the company is doing some of its best work. These are areas in which we will introduce new products, but perhaps as significantly we will also introduce higher-value versions of existing products that really help us drive new growth and new value. We did that with the Professional edition of our Windows product, and it drove literally billions of dollars of revenue growth versus the home version.

We have plans in the Windows Vista generation to introduce an enterprise edition. Windows Media Center drives higher price point, new value, in the home. We have plans in the next generation for something even higher-end in Office that we call Office Premium. We think of a new concept that we call the Office Server. It will have associated with it a new premium client access license. And when you take a look at all of the premium work that we're doing in management and security and e-mail, we think about a new premium client access license also for our Windows product. All of that drives new value.

In the server market, about five years ago we introduced a product called Small Business Server. We took a lot of technologies. We took Windows itself, Exchange, and we put it into one integrated nice package. Some people could say you did something that was going to drive down revenue, because you put this stuff into market at a lower price. What we find of course is that our customers, if we package this stuff simply enough, consume more technology and deliver more revenue growth. So new SKUs or premium SKUs—SKUs, stock-keeping units, products—at higher prices based upon literally—take a look at that list. It is a broad list. There are companies of good size competing in many of the areas up on the board, and in all of those cases we are trying to drive value, sometimes in conjunction with partners, like we do in Terminal Services with Citrix. But certainly there's an opportunity there for phenomenal growth in our anchor businesses.

We're also trying to reshape our portfolio. Some people may think we're standing still, but we're not. We're moving forward today with a broad portfolio of products, with the goal of having really best-of-class products in every one of the major marketplaces we play in: games, entertainment, search, mobile, business applications. All of these areas—so-called emerging businesses here at Microsoft, segments that you see—are important. There are hundreds of millions of phones sold per year. We are selling dozens of millions of phones per year. We have a great opportunity, and you'll hear from our team in that area. There are hundreds of millions of TV watchers—billions of TV watchers—around the world. We're doing now the pioneering work with great companies like Verizon and SBC, aggressively driving next-generation interactive television into the marketplace. There are billions of Internet users around the world. And if you get nothing else out of the whole day today, we are very, very, very serious and committed about driving our presence with that community, versus any and all competitors in the marketplace. It is a big opportunity for us. It is a job-one priority for our company, this transformation to services and the competition that it brings with Yahoo! and Google and everybody else.

And of course in the video game and the gaming business, with our Xbox 360 product this year, we're poised to become market leader, and we are very, very excited about that opportunity.

When you look at the last 10 years, we have won on the desktop. I think a lot of people can now fairly say, with what we've done with Windows Server, we have won in the business marketplace. And now we really are going to win on the Web. We'll expand our services so that we become the number one place to advertise. We tend to offer not just the best search engine, but really the strongest overall array of online services. There will only be a handful of major players in the ad market, and you can rest assured this company will be one of them.

This services opportunity though is not just about the consumer. It's also about small business and larger business. It's not just about what can be done on the Internet; it's about rich intelligence at the PC client, in the phone, at the corporate server. And it's about serving everybody from consumers on up to large businesses—with Hotmail and MSN Messenger and MSN Spaces. You'll hear about a lot of what we're doing to serve the consumer with Xbox Live.

We bought a company last week called FrontBridge that provides processing services for e-mail hygiene—anti-spam, virus, etc.—to businesses around the world. We're running a test with Energizer. We're looking through what it would mean to have managed services for larger companies for their desktops. Our Live Meeting product really facilitates business communication as much as anything. Search—over half our search traffic is actually from people who are at work, not just people who are at home—hosted CRM, Outlook, and other Office services. So we will span the gamut and do our darnedest to be the pioneer and the winner in transforming our enterprise, our mid-market, our small business, and our consumer work using the transformative power of the Internet.

This is a companywide commitment. It's not something you should associate just with MSN. Windows, Office, the server and tools groups all have robust and active services strategies to drive growth in their particular areas.

I want to end with a discussion of how I see the future and how maybe you see the future. And, I don't know—this is not what will happen. We're not the kind of company—never have been, never will be—that will get out here and make kind of weirdo forecasts like we're going to grow 9.36 or 15.28 percent per year. I don't know, I have some sense. But what I do know is the opportunity we have for growth is phenomenal. Because of this selection of areas that we have made to innovate and because of execution, I am very bullish about our prospects for growth. I somehow might characterize today as, at least as you see it in analyst reports and commentary, you think our anchor businesses, that light blue circle in the center—it has some growth prospects. Most of you I don't think are thinking at all about the kinds of growth that we can get out of this expansion of our anchor businesses through the kinds of portfolio investments that I talked about. A lot of you I'm not sure see the same opportunities that we see in our home and entertainment and MBS and MED businesses. And certainly I know that we will have a lot more growth in our MSN area than many of you think we will have, because of our commitment and our focus and the quality of our execution.

I believe in the future of Microsoft from an innovation perspective and from a growth perspective. I believe in it I think more than you do, I'll be honest. You might be thinking that Windows and server and Office are slow-growing businesses. We think that they are poised for very steady, robust growth. You might be thinking that our other businesses have generated little added profit. We made big investments. We may still have more investment to make, but they are really poised to take off. Many of you may be thinking other companies get a lot of attention. We're thinking we're going to be major players in every significant area, including areas like search and music. And we're thinking our future is bigger and bolder and brighter than I think many of the folks who watch us.

How do we evidence that belief? Now we have three things we can do. Number one, we can invest, which in our business, frankly, primarily means operating expenses. It's not a huge capital budget, at least relative to our size, but it means operating expenses. And I know people sort of engaged in some quizzical commentary after our fourth quarter; Chris can talk to you about all the details about numbers. I will talk about not one detail, about not one number, but I will tell you we are prepared, because of our belief in the future, we are prepared to invest, in terms of operating expenses, in the future of this business.

We will drive back hard to give growth. And all of these new technologies I've talked about, we paid for all of the R&D for them, every year, every day—it’s all in the income statement, all the time. That's number one.

Number two is acquisitions. We have dialed up the pace of acquisitions we are making because we see so much opportunity in this business. We are unlikely to do blockbuster acquisitions. We're not close-minded to it, but they are less likely. But the pace here of making 100 million, 200 million, 300 million, 500 million dollar acquisitions, to improve our R&D portfolio, our innovation portfolio, is very strong. Maybe we'll make a billion dollars a year, or 2 billion dollars a year, order of magnitude acquisitions, but we believe in the future, and we will invest in that future.

And of course, perhaps most interestingly, the company is a buyer of our own stock. We announced the plan last year to buy back over 10 percent of the company's market value. That's huge. We bought 8 billion dollars of stock in the last 12 months. There's no better sign that we believe in the future of our business, in fact, than the investments that we're making buying our own stock.

I do a thing where I tease some of our employees: I say to them, Are you buying the stock, and they all keep their hands down, because you know, hey, cash is tight. And I said, did you know, the company is increasing every day, we're out there increasing your interest in the operating value of Microsoft, converting that cash into greater ownership? Now some of you may sell when we buy, so you may not do the same thing, but at least to me as a shareholder, I come to work every day knowing that I personally am increasing my stake in the operating part of this business. And nobody should be confused that that's what buyback means, because we do believe in the growth opportunities, and our ability to realize. I don't know whether we'll be 23 percent of 100 billion of industry profits of 2010, or 14 percent, or 36 percent, or whether industry profits will be, instead of 100 billion, they'll be, I don't know, 5 billion. I don't know, I can't answer, or at least I'm not prepared today to give you my prediction. I'll keep that right here in the back pocket.

But I am prepared to tell you that we believe that the future is exciting, the future for innovation is even more exciting, and the future for operating income growth is absolutely fantastic. You're going to hear from the rest of the team all day long about the different things we're doing, and what's going on strategically, and see some of the innovations. You gauge for yourself. I think you'll be very, very impressed.

I want to thank you for the time, again, with me, and with all of us here today, and now I want to turn things over to Bill Gates, our chief software architect, who will be joined by Ray Ozzie, our newest chief technical officer, and by Ed Lazowska, professor of computer science from the University of Washington. Thank you. Have a great day.

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