May 3, 2002 12:20 PM PDT
Can Microsoft play nice with PC makers?
The states prosecuting the software giant are seeking to introduce new evidence showing that Microsoft is using the separate settlement with the Justice Department to exert more control over PC makers.
The states want to introduce 12 documents, including e-mails from Dell Computer, to support earlier allegations that Microsoft is using new uniform licensing rules to raise the price PC makers pay for Windows and to continue potential retaliatory behavior. But it is uncertain how many of the documents U.S. District Judge Colleen Kollar-Kotelly will admit into evidence.
Nine states and the District of Columbia are pursuing stiffer sanctions against Microsoft than those found in the November settlement reached by the Justice Department and nine of 18 states. In theory, the uniform licensing provision would prevent the software giant from negotiating separate deals that could reward some manufacturers but punish others.
Trustbusters, computer manufacturers and analysts charge that Microsoft has long placed serious restrictions--through logo programs, software licensing contracts and marketing development funds, among other mechanisms--on how computer manufacturers set up and sell PCs. In part, Microsoft wants to protect in Windows what it considers is copyrighted material, valuable intellectual property and an important brand name.
Microsoft also sees Windows as an essential utility for distributing software--Internet Explorer, Windows Media Player and Windows Messenger, for example--supporting desktop applications like Office and launching into Web services, said Paul DeGroot, an analyst with Directions on Microsoft, a technology consultancy.
"There is no single other software company in the world that can put 100 million copies of its software out in the wild as fast as Microsoft," DeGroot said. "This is a strength Microsoft won't easily throw away."
But that effort conflicts with the interests of Microsoft's PC maker customers, which also have a vested interest in promoting their brands and in differentiating their products from competitors, particularly given the tough sales climate, according to analysts. The restrictions Microsoft places on them to protect the Windows brand and the capability to distribute software and services squash innovation, analysts say.
"There is no question Microsoft hampers (manufacturers') ability to innovate," DeGroot said. "Microsoft has a particular interest in being able to dictate to (manufacturers) what they put on their machines."
In its 125-page ruling delivered in June 2001, a seven-judge appellate panel in fact found that Microsoft had cut prohibitive deals with PC makers that illegally protected the software giant's monopoly in Intel-based operating systems.
Privately, PC makers say Microsoft still exerts tremendous control over what they can do with the computers they design and sell.
For example, to receive lucrative marketing discounts--$10 per copy of Windows, down from $12 last year--they must adhere to strict hardware configuration guidelines and agree to ship an operating system on every computer they sell. The discount is significant enough that no manufacturer would risk passing it up while competitors took advantage of it.
Depending on volume, PC makers pay on average between $65 and $90 per copy of Windows, say computer manufacturer sources. Microsoft does not publicly disclose this figure.
Microsoft also wields control over hardware design, both via limitations made through licensing and the power the company has to endorse one hardware standard over another. For example, manufacturers and analysts have hotly debated which DVD recording format, DVD-R/RW or DVD+R/RW, might emerge as the standard bearer. Microsoft's endorsement of DVD+R/RW for Windows XP last month may have made the winner a certainty.
ARS analyst Toni Duboise sees another problem when Microsoft's customers or partners attempt to innovate and extend into new areas. That, too, often results in the software giant tightening the reins through either licensing or the types of products bundled with the operating system.
"Microsoft wants to be the biggest part of everything," Duboise said. "Microsoft doesn't want anybody to move forward without them. They don't want anyone to get more of a piece of pie than them. You can see them doing the same thing with multimedia as they did with the browser: strong-arm tactics."
More serious, some computer manufacturers contend, is that Microsoft is essentially using the Justice Department settlement to strengthen its grip on them. According to court documents, both Sony and Hewlett-Packard complained about the new licensing provision, over which they have little say. Since the contracts are no longer negotiated, Microsoft largely sets the terms.
"Microsoft retains incredible power over Gateway and, presumably, other (manufacturers)," Gateway Group Counsel Anthony Fama testified in court. He concluded that Microsoft has changed terms for the company's benefit and not its customers', while slipping in language that would allow some types of retaliation and control.
But in a mid-March interview, Microsoft incoming General Counsel Brad Smith blamed any problems on the fact that "we lose the opportunity to devise contracts that address customers' unique or idiosyncratic needs. It's not surprising...that PC manufacturers are, in some cases, unhappy with them."
Windows seems less important
One area of increasing contention between Microsoft and its manufacturer customers is the importance of Windows to selling PCs.
Privately, PC makers say they increasingly see the branding of the operating system as less important to customers. Computer manufacturers want to build up their own brands but see interference from Microsoft's attempts to promote Windows. This in part has to do with the limited control they have over the Windows desktop and the additional products, such as instant messengers or media players, that Microsoft forces them to take with the operating system.
Analysts said there is no question the operating system's role is diminishing in importance in consumers' eyes as the computer market begins to look more and more like those for other electronic goods. Researcher Gartner estimates that the highly promoted Windows XP won't be running on half of consumer PCs until 2004. Many businesses, in fact, will favor Windows 2000 over XP this year, according to Gartner. Rather than rush and buy XP, most consumers or businesses won't switch until they buy a new PC.
Elsewhere on the operating system front, market researcher NPD TechWorld reported that boxed copies of Windows 98 are selling surprising well alongside Windows XP. During the first quarter of 2002, retailers sold 230,000 copies of Windows XP upgrades, compared with 110,000 copies of the Windows 98 upgrade. In fact, Windows 98 sales increased from the fourth quarter.
"You would think (Windows) 98 would have gone away if the operating system were so important," said NPD TechWorld analyst Stephen Baker.
"The operating system is not the main reason people buy a computer," he added. "People buy a computer because it does specific tasks they are interested in, like visiting an Internet site, printing a letter to their aunt or sending an e-mail."
Increasingly, the trend is toward buying a PC to attach things to, such as printers, cameras, digital camcorders or music players, Baker said. These devices are not necessarily dependent on the operating system, and some don't even require a computer to use.
"The PC industry is sort of an anomaly, where there was so much focus on components inside," Baker said. "But that's changing, just like in the television market, where it doesn't matter who made the screen on your TV. All the TVs work when you plug them into the antenna or the cable outlet."
As PC sales decline and consumer buying habits change, PC makers are looking more than ever to build up their brands, which creates conflict with Microsoft's continued emphasis on the Windows brand, ARS's Duboise said. Gateway, HP and Sony, for example, have been struggling to build their brands by focusing more on specific tasks around devices, with "Sony...really pushing hard into multimedia," she added.
"Right now these PCs are just commodities that pretty much look alike, but the companies want to innovate," Duboise said. "Microsoft makes that harder."
She pointed to Apple Computer's trendy new iMac as an innovative product at the core of the consumer trend focusing on function, where the operating system is, at best, a secondary concern. The new iMac is selling so well that it lifted Apple's U.S. and worldwide market share in the first quarter, according to researcher IDC.
With consumers increasingly focusing on using computers as a hub to which they can attach devices for doing "cool things," applications sitting on top of the operating system become more important because they are easier to sell, NPD TechWorld's Baker said. "It's much harder to sell a big OS to do those things," he said.
After all, explaining the value of Apple's iPhoto, a separate application sitting atop the OS, is much easier than explaining Windows XP's Scanner and Photo Wizard.
From Microsoft's perspective, bundling middleware into the operating system makes sense when selling to the captive Windows audience, Duboise said. But that could create difficulties for PC makers trying to differentiate their wares with unique features and software for doing fun things.
"Microsoft is tying PC makers' hands, so to speak," she said. "It would be better to have separate applications, similar to what Apple does."