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I.

This case arises from Microsoft's practices in marketing its Windows 95 operating system. An operating system is, so to speak, the central nervous system of the computer, control- ling the computer's interaction with peripherals such as key- boards and printers. Windows 95 is an operating system that integrates a DOS shell with a graphical user interface, i.e., a technology by which the operator performs functions not by typing at the keyboard but by clicks of his mouse. Operating systems also serve as "platforms" for application software such as word processors. As the word "platform" suggests, the operating system provides a basic support structure for an application via "application programming interfaces" ("APIs"), which provide general functions on which applica- tions can rely. Each operating system's APIs are unique; hence applications tend to be written for particular operating systems. The primary market for operating systems consists of original equipment manufacturers ("OEMs"), which make computers, install operating systems and other software that they have licensed from vendors such as Microsoft, and sell the package to end users. These may be either individual consumers or businesses.

In an earlier opinion, also arising from litigation generated by the Justice Department's 1994 antitrust suit against Mi- crosoft, we briefly described Microsoft's role in the software industry and some of the industry's economics. United States v. Microsoft Corp., 56 F.3d 1448, 1451-52 (D.C. Cir. 1995). Because IBM chose to install Microsoft's operating system on its personal computers, Microsoft acquired an "installed base" on millions of IBM and IBM-compatible PCs. That base constituted an exceptional advantage, and created exceptional risks of monopoly, because of two characteristics of the software industry--increasing returns to scale and network externalities. First, because most of the costs of software lie in the design, marginal production costs are negligible. Production of additional units appears likely to lower average costs indefinitely. (I.e., the average cost curve never turns upward.) Second, an increase in the number of users of a particular item of software increases the number of other people with whom any user can share work. As a result, Microsoft's large installed base increases the incentive for independent software vendors to write compatible applica- tions and thereby increases the value of its operating system to consumers.

The Department's 1994 complaint alleged a variety of anti- competitive practices, chiefly in Microsoft's licensing agree- ments with OEMs. Along with it, the Department filed a proposed consent decree limiting Microsoft's behavior, the product of negotiations between Microsoft, the Department and European competition authorities. Most relevant here is s IV(E) of the decree:

Microsoft shall not enter into any License Agreement in which the terms of that agreement are expressly or impliedly conditioned upon:

(i) the licensing of any other Covered Product, Oper- ating System Software product or other product (pro- vided, however, that this provision in and of itself shall not be construed to prohibit Microsoft from developing integrated products); or

(ii) the OEM not licensing, purchasing, using or distributing any non-Microsoft product.

The Department sees a violation of s IV(E)(i) in Micro- soft's marketing of Windows 95 and its Web browser, Internet Explorer ("IE").