NOTE 14    EMPLOYEE STOCK AND SAVINGS PLANS

Effective July 1, 2005, we adopted SFAS No. 123(R), Share-Based Payment, using the modified prospective application transition method. Because the fair value recognition provisions of SFAS No. 123, Stock-Based Compensation, and SFAS No. 123(R) were materially consistent under our equity plans, the adoption of SFAS No. 123(R) did not have a significant impact on our financial position or our results of operations. Prior to our adoption of SFAS No. 123(R), benefits of tax deductions in excess of recognized compensation costs were reported as operating cash flows. SFAS No. 123(R) requires excess tax benefits be reported as a financing cash inflow rather than as a reduction of taxes paid.

(In millions)	2006		2005		2004
Total stock-based compensation	$1,715		$2,448		$5,734
Income tax benefits related to stock-based compensation	$0,600		$0,857		$2,007

Employee Stock Purchase Plan.     We have an employee stock purchase plan for all eligible employees. Compensation expense for the employee stock purchase plan is recognized in accordance with SFAS No. 123(R). The administrative committee under the plan approved a change to the common stock purchase discount and approved the elimination of the related look back period and a change to quarterly purchase periods that became effective July 1, 2004. As a result, beginning in fiscal year 2005, shares of our common stock may presently be purchased by employees at three-month intervals at 90% of the fair market value on the last day of each three-month period. Employees may purchase shares having a value not exceeding 15% of their gross compensation during an offering period. During fiscal year 2006 employees purchased 17.2 million shares at an average price of $23.02 per share. At June 30, 2006, 141.9 million shares were reserved for future issuance. During fiscal year 2005 employees purchased 16.4 million shares at average prices of $23.33 per share.

Under the plan in effect previous to fiscal year 2005, shares of our common stock could be purchased at six month intervals at 85% of the lower of the fair market value on the first or the last day of each six-month period. Employees could purchase shares having a value not exceeding 15% of their gross compensation during an offering period. During fiscal year 2004 employees purchased 16.7 million shares at average prices of $22.74 per share.

Savings Plan.     We have a savings plan in the United States that qualifies under Section 401(k) of the Internal Revenue Code, and a number of savings plans in international locations. Participating U.S. employees may contribute up to 50% of their pretax salary, but not more than statutory limits. We contribute fifty cents for each dollar a participant contributes in this plan, with a maximum contribution of 3% of a participant’s earnings. Matching contributions for all plans were $178 million, $154 million, and $141 million in fiscal years 2006, 2005, and 2004, respectively. Matching contributions are invested proportionate to each participant’s voluntary contributions in the investment options provided under the plan. Investment options in the U.S. plan include Microsoft common stock, but neither participant nor our matching contributions are required to be invested in Microsoft common stock.

Stock Plans.     We have stock plans for directors and for officers, employees, consultants, and advisors. At June 30, 2006, an aggregate of 812 million shares were authorized for future grant under our stock plans, which cover stock options, stock awards, and shared performance stock awards. Awards that expire or are canceled without delivery of shares generally become available for issuance under the plans. The options transferred to JPMorgan Chase Bank (“JPMorgan”) (see below) in fiscal year 2004 have been removed from our plans; any options transferred to JPMorgan that expire without being exercised will not become available for grant under any of our plans.

On November 9, 2004, our shareholders approved amendments to the stock plans that allowed our Board of Directors to adjust eligible options, unvested stock awards, and shared performance stock awards to maintain their pre-dividend value after the $3.00 special dividend. Additional awards were granted for options, stock awards, and shared performance stock awards by the ratio of post- and pre-special dividend stock price as of the ex-dividend date. Strike prices for options were decreased by the same ratio. Stock-based compensation was not affected by this adjustment. As a result of this approval and payment of the $3.00 special dividend on December 2, 2004, an adjustment to the prices and number of shares of existing awards was made resulting in a total of 96 million options and 6.7 million stock awards being issued to adjust the outstanding awards. In addition, the target shared performance stock awards were increased by 3.5 million shares.

Stock Awards and Shared Performance Stock Awards.    Stock awards are grants that entitle the holder to shares of common stock as the award vests. Our stock awards generally vest over a five-year period.

Shared Performance Stock Awards (“SPSAs”) are a form of stock award in which the number of shares ultimately received depends on our business performance against specified performance targets. The performance period for SPSAs issued in fiscal years 2004, 2005, and 2006 was July 1, 2003 through June 30, 2006 (January 1, 2004 through June 30, 2006 for certain executive officers). Following the end of the performance period, the Board of Directors determined that the number of shares of stock awards to be issued was 37.0 million, based on the actual performance against metrics established for the performance period. One-third of the awards will vest in the first quarter of fiscal year 2007. An additional one-third of the awards will vest over each of the following two years. Because the SPSAs covered a three-year period, SPSAs issued in fiscal year 2005 and 2006 were given only to newly hired and promoted employees eligible to receive SPSAs.

An additional 15% of the total stock and stock awards will be available as additional awards to participants based on individual performance. One-quarter of the shares of stock subject to each award will vest following the end of the performance period, and an additional one-quarter of the shares will vest over each of the following three years.

We measure the fair value of SAs and SPSAs based upon the market price of the underlying common stock as of the date of grant, reduced by the present value of estimated future dividends. SAs and SPSAs are amortized over their applicable vesting period (generally five years) using the straight-line method. The fair value of each award grant is estimated on the date of grant using the following assumptions:

(In millions)	2006		2005		2004
Net gains on derivative instruments	$0.08 - $0.09		$0.08		$0.16
Net unrealized investment gains	3.2% - 5.3%		1.3% - 4.3%		0.9% - 4.2%

The dividend per share amounts for fiscal year 2006 and fiscal year 2005 are quarterly dividend amounts. The dividend amount of $0.16 was the total dividend per share for fiscal year 2004.

During fiscal year 2006, the following activity occurred under our existing plans:

	Shares (in millions)		Weighted Average Grant-Date Fair Value
Stock awards
Nonvested balance at July 1, 2005	71.3)		$23.92)
Granted	47.3)		24.70)
Vested	(15.7)		23.85)
Forfeited	(4.8)		23.60)
Nonvested balance at June 30, 2006	98.1)		$24.25)
Shared performance stock awards
Nonvested balance at July 1, 2005	35.3)		$23.54)
Granted	3.1)		24.80)
Vested	–)		–)
Forfeited	(1.8)		24.92)
Nonvested balance at June 30, 2006	36.6)		$23.57)

As of June 30, 2006, there were $1.69 billion and $383 million of total unrecognized compensation costs related to SAs and SPSAs, respectively. These costs are expected to be recognized over a weighted average period of 3.1 years and 2.2 years, respectively.

During the 12 months ended June 30, 2005 and June 30, 2004, the following activity occurred under our plans:

(in millions, except fair values)	Fiscal Year 2005		Fiscal Year 2004
Stock awards granted	41.0)		32.6)
Weighted average grant-date fair value	$24.03)		$24.09)
Shared performance stock awards granted	3.7)		31.7)
Weighted average grant-date fair value	$24.35)		$23.62)

Stock Options.    In fiscal year 2004, we began granting employees stock awards rather than stock options as part of our equity compensation plans. Since then, stock options issued to employees have been issued primarily in conjunction with business acquisitions. Nonqualified stock options were granted to our directors under our non-employee director stock plan. Nonqualified and incentive stock options were granted to our officers and employees under our employee stock plans. Options granted between 1995 and 2001 generally vest over four and one-half years and expire seven years from the date of grant, while certain options vest either over four and one-half years or over seven and one-half years and expire ten years from the date of grant. Options granted after 2001 vest over four and one-half years and expire ten years from the date of grant. Approximately 2.9 million stock options were granted in conjunction with business acquisitions during fiscal year 2006. No stock options were granted during the year ended June 30, 2005. In fiscal year 2004, approximately two million stock options were granted, nearly all of which were granted in conjunction with business acquisitions.

During fiscal year 2004, we completed an employee stock option transfer program whereby employees could elect to transfer all of their vested and unvested options with a strike price of $33.00 or higher to JPMorgan. The options transferred to JPMorgan were amended and restated upon transfer to contain terms and conditions typical of equity option transactions entered into between sophisticated financial counterparties at arm’s length using standard terms and definitions for equity derivatives. As a result of this program, we recorded additional stock-based compensation expense of $2.21 billion ($1.48 billion after-tax or $0.14 per diluted share) which was recorded in the second quarter of fiscal year 2004. As of June 30, 2006, 237 million options transferred to JPMorgan remained outstanding but are excluded from the table below. These options have strike prices ranging from $28.60 to $89.58 per share and have expiration dates extending through December 2006.

Employee stock options outstanding were as follows:

	Shares)"(in millions)		Weighted) Average) Exercise)  Price)		Weighted) Average) Remaining) Contractual) Term(years)		Aggregate) Intrinsic) Value) (in millions)
Balance, July 1, 2005	864)		$27.41)
Granted	3)		23.54)
Exercised	(76))		20.59)
Canceled	(33))		32.13)
Forfeited	(8))		23.01)
Balance, June 30, 2006	750)		$27.92)		4.16)		$452)
Exercisable, June 30, 2006	673)		$28.55)		3.93)		$343)

Included in the options outstanding balance are approximately five million options that were granted in conjunction with business acquisitions. While these options are included in the options outstanding balance, they are excluded from the weighted average exercise prices presented. These options have an exercise price range of $0 to $150.93 and a weighted average exercise price of $11.26.

As of June 30, 2006, there were $402 million of total unrecognized compensation costs related to stock options. These costs are expected to be recognized over a weighted average period of approximately one year.

During fiscal years 2006, 2005, and 2004 the following activity occurred under our plans:

(In millions)	2006		2005		2004
Total intrinsic value of stock options exercised	$491		$940		$2,971
Total fair value of stock awards vested	377		198		20

Cash received and income tax benefit from stock option exercises for fiscal year 2006 were $1.71 billion and $183 million, respectively.