June 23, 2004 8:50 PM PDT

Microsoft-SAP talks rooted in database concern

SAN FRANCISCO--Microsoft worried that it could lose ground in the database software market if Oracle acquired PeopleSoft, and that fear spurred Microsoft to discuss a merger with SAP last year, according to testimony in federal court Wednesday.

The software giant also briefly pondered taking a minority stake in PeopleSoft to help it fend off Oracle. "Thinking about this PeopleSoft bid by Oracle made me wonder if we should approach them and suggest a minority investment to bolster their independence in return for a modest platform commitment," Microsoft Chairman Bill Gates said in an e-mail to CEO Steve Ballmer the day after Oracle announced its PeopleSoft bid.

The U.S. Justice Department is trying to block Oracle's effort on the grounds that it would harm competition in the market for business applications software. On Wednesday, Microsoft Senior Vice President Doug Burgum appeared as a government witness at the antitrust trial here to discuss his company's role in that market.


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Oracle contends that Microsoft plans to enter the market for "high-function" business applications, a move that would act as a check on its market power if it were to combine with PeopleSoft. The start of the trial revealed Microsoft's talks with SAP, Oracle's largest rival in the business applications market.

Questioned about the SAP talks, Burgum said that Microsoft executives, including Ballmer and Gates, began considering a merger with the German software company last June after Oracle launched its hostile bid for PeopleSoft. They feared that Oracle, which competes with Microsoft in the database software market, would entice PeopleSoft's customers to switch from Microsoft's database product to Oracle's if the two companies combined, Burgum said. PeopleSoft applications currently work with both Microsoft and Oracle databases, while Oracle works with only its own.

"Regardless of the outcome, the dynamics of the industry have changed," Microsoft executive Cindy Bates said in an e-mail she sent to Ballmer, Burgum and Gates last June. "We should think proactively in determining our fate, as no doubt the folks in Armonk (IBM) are doing."

Such a move could drive IBM, another major database competitor, to focus its sales efforts on customers of SAP or to buy SAP, Microsoft's executives conjectured. That would put further pressure on Microsoft's database business, unless Microsoft bought SAP instead, according to a confidential Microsoft document submitted as evidence in the trial.

Microsoft cited a potential "halo effect" on its database business as one reason to buy SAP, according to that document. Elaborating on the halo effect, Burgum said that owning SAP could help Microsoft sell more databases to SAP customers, possibly boosting Microsoft's revenue in that business.

He added that Microsoft planned to let SAP customers continue using rival databases even if it bought the company--a factor that added to the complexity of the deal and ultimately led Microsoft to back away from it. The realization that IBM had no plans to buy SAP also led Microsoft to cease its talks with the German company earlier this year.

In addition to addressing Microsoft's database concerns, SAP was an attractive acquisition target because it would give Microsoft an instant leadership position in the applications market targeting Fortune 500 companies, the document stated. But when talks about a deal ended, Microsoft gave up all intentions of competing in that space, Burgum said.

Throughout his testimony, Burgum stressed that Microsoft had no intention of competing with SAP, Oracle or PeopleSoft to supply large, complex companies with applications software once it abandoned the SAP deal. Instead, it's focused on selling to so-called midsize businesses, which Microsoft defines as companies with less than 500 employees, Burgum said.

It would be too expensive for Microsoft to go it alone and enter the "high-function" market without SAP, Burgum said. "The build option was not something that was ever considered."

Burgum added that Ballmer, his boss, sees more profit in selling to smaller companies and has asked Burgum to focus on that. "Microsoft's strength is low-price, high-volume packaged software, (serving) hundreds of millions of customers--not tens of thousands of customers," as SAP and Oracle do.

SAP's take
A PeopleSoft-Oracle merger would intensify competition between SAP and Oracle in the business software market, according to an SAP executive who testified earlier Wednesday.

Richard Knowles, SAP's vice president of operations for North America and an Oracle witness, said he believed that if combined with PeopleSoft, Oracle would offer more competitive prices when bidding against SAP.

The three companies are the largest suppliers of computer programs designed to streamline corporate tasks, such as billing, customer service and inventory-tracking.

The Justice Department wants to block the buyout on the grounds that it would give Oracle too much power in the market. Oracle contends that it needs PeopleSoft to take on SAP, its larger rival in the multibillion-dollar applications market.

Analysts say SAP could benefit from a buyout of one of its closest rivals because of the risks involved in such a large merger. Executives of the Germany software maker have publicly criticized the Justice Department's case, disagreeing with its view of the market.

The trial opened June 7 with the Justice Department presenting its case. Testimony has revolved around representatives of large companies--DaimlerChrysler, Verizon and others--that use the kind of software Oracle and its competitors sell. The Justice Department's witnesses have expressed concern that software implementations would cost millions of dollars more in a market without PeopleSoft, and current PeopleSoft customers have said they fear Oracle will stop supporting their software, making multimillion-dollar new systems a necessity.

Oracle is expected to present its case after the Justice Department finishes. The nonjury trial is expected to last about four weeks.

 

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