April 28, 2000 7:20 PM PDT

Government to judge: Break up Microsoft

WASHINGTON--In the strongest antitrust action since the breakup of Ma Bell, the Justice Department and several states today asked a federal judge to divide Microsoft into two companies to prevent further abuse of its monopoly in computer operating systems.

Under a 17-page proposal by government prosecutors, one of the resulting companies would sell the Windows 98, Windows CE and Windows 2000 operating systems; the other would comprise Microsoft's software applications, such as the word-processing and spreadsheet programs of Office and BackOffice, the Internet Explorer browser and Internet businesses such as MSN.

Breaking the giant: Special Coverage Assistant U.S. Attorney General Joel Klein said breaking up Microsoft "will revitalize competition in the browser market, which the court found Microsoft tried to monopolize." Each of the companies "will have the incentive to compete vigorously by developing products that compete with the other," he added.

"Because Office (software) is enormously popular, its availability on other operating systems would give those systems a real chance to compete with Windows," he said at a press conference here. "By turning loose the power of competition in the operating system business, it will stimulate innovation throughout the industry."

Within the industry, however, many say the proposed penalties had already become obsolete in the hyperspeed of Internet business and proved that the government had neither the understanding or resources to regulate the industry effectively. The case has been further complicated by election-year politics and a global economy that has become increasingly driven by the development of high technology.

Two of the 19 states participating in the suit filed a separate proposal that stopped short of calling for an immediate breakup. Instead, officials from Ohio and Illinois recommended that Microsoft's conduct be restricted for three years, with the possibility of a breakup if that proved ineffective.

 How Microsoft would be  split under the Justice  Department proposal
The "Operating Systems Business" includes OS products for computing devices such as:
• personal computers based on the Intel x-86 architecture and other microprocessors
• servers
• handheld devices such as personal digital assistants and cellular telephones
• TV set-top boxes

The "Applications Business" includes products such as:
• Office
• Internet Explorer
• BackOffice
• Internet Information Server
• SQL Server
• Mobile Explorer and other Web browsers
• streaming audio and video software
• Mobile Explorer
• SNA server software
• XML servers and parsers
• Java virtual machines
• Frontpage Express
• Outlook Express
• Media player
• Net Meeting
• MSN
• MSNBC
• Slate
• Expedia
• "all investments owned by Microsoft in partnerships or joint ventures"
The proposal was filed after the U.S. financial markets had closed for the day. Microsoft shares were up slightly in after-hours trading after declining sharply this week in anticipation of the proposal, but analysts said the stock's prospects for next week and beyond remained uncertain.

If the proposal is accepted by U.S. District Judge Thomas Penfield Jackson, Microsoft chairman Bill Gates and other corporate officers and directors could own stock in just one of the two companies. Asked if the proposal was an attempt to punish Gates, Klein said, "This has never been about punishing any individual. This has been about protecting American consumers and the viability of the software industry."

Gates responded today that "consumers should understand that these remedies would not allow us to deliver software products as we have in the past. These regulations do not help the software industry in any way. They simply retard the speed at which it can move ahead."

The proposed remedy, which the judge is not obligated to accept, marks the latest step in the historic antitrust suit against Microsoft, which has sharply divided detractors and supporters of the software behemoth. While many claim Microsoft's domination has benefited consumers by making computers accessible to millions of users, others accuse the company of using its position to squash competition and innovation.

The conflict has reached beyond business and technology into the realm of legal scholars, who have viewed it as something of a test case for antitrust law in the 21st century--raising fundamental questions about the very definition of a monopoly in American society today.

In a scathing ruling earlier this month, Jackson found that Microsoft had violated antitrust laws by leveraging its monopoly position in operating systems to capture the market for Web browsers. "The court concludes that Microsoft maintained its monopoly power by anti-competitive means and attempted to monopolize the Web browser market," Jackson wrote.

The government's plan to prevent such abuses in the future includes several restrictions on Microsoft's business practices and how the two new companies could--and could not--interact. Among the proposals:

 Neither company could threaten PC manufacturers for using competing products, nor could they withhold licenses and technical support for former Microsoft products.

 The new operating system company would have to disclose Windows programming code to companies designing applications that would link to the system.

 The operating system company would be barred from creating software that would interfere with competing products. It also would be required to treat all hardware and software makers equally in pricing, licensing of Microsoft products and access to required technical codes.

 Internet Explorer, Microsoft's Web browser, would be owned by the applications company, although the operating systems firm could license it.

 The two companies could not merge for 10 years.

As for the detailed mechanics of the breakup, the Justice Department left that task to Gates and the Microsoft board of directors.

"Since the present limited availability of applications to new entrants into the OS market is a barrier to entry protecting Microsoft monopoly power, this proposed spin-off makes perfect antitrust sense," said Rich Gray, an intellectual property attorney with Outside General Counsel Silicon Valley in Menlo Park, Calif.

Besides proposing a breakup, the government is requesting "conduct remedies" that restrict Microsoft's business practices. Those limits could be imposed immediately after Jackson's final ruling and last as long as four years. Under these restrictions:

 Microsoft could not take or threaten to take action that may harm any competing products, including withholding licensing terms, technical support or sales support.

 It would have to provide equal licensing terms to manufacturers.

 Microsoft could not make it a condition in licensing its Windows OS that manufacturers accept other Microsoft software products that the company distributes separately from Windows.

 It could not force any agreement with manufacturers requiring them to promote, distribute or use Microsoft products.

Today's proposal moves the Microsoft trial into its final stage, in which Jackson will determine a solution to curb the company's conduct.

The remedies portion of the case will pick up steam during the next several weeks, as Jackson earlier this month told both sides he wanted to fast-track the process.

Microsoft will have until May 10 to file a response to today's government proposal. Microsoft general counsel William Neukom said today that the company will ask the judge for more time to respond "in light of this broadside by the government."

The company also is expected to file its own proposal by May 17, although it could ask for an extension. A hearing is scheduled for May 24, and the judge is expected to issue a final ruling in June.

Glenn Manishin, an antitrust attorney with Patton Boggs in McLean, Va., said that "even if Judge Jackson agrees to provide an evidentiary hearing, as Microsoft appears to want--which is not inappropriate--the hearings would be far shorter than a trial on the merits." He added that the hearings "would be over in a matter of two weeks or less. So, the schedule will still be fast."

At any point in the process, however, a settlement could be reached, legal experts have said. Jackson's April 3 ruling followed the collapse of settlement talks between Microsoft and the government. Although both sides have said that no new settlement talks are scheduled, neither has ruled out the possibility and negotiations could resume at any time.

The case has been followed closely by politicians, economists, executives, see special coverage: The verdict is in lawyers, investors and consumers. On Tuesday, Klein briefed the White House on the remedy proposal at the request of the Clinton administration.

Earlier, congressional leaders pledged to investigate the Justice Department's role in prosecuting Microsoft.

Microsoft CEO Steve Ballmer has said the company plans to appeal the case, which could put it before the Supreme Court within 24 months.

News.com's Scott Ard, John Borland and Rachel Konrad contributed to this report.

 

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