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Documents and Testimony New: Transcripts of Bill Gates's Videotaped Testimony Eighth Release Direct testimony of Richard Schmalensee, dean of MIT's Sloan School of Management Check back for daily updates from the courthouse.

By Rajiv Chandrasekaran and Mark Leibovich
Washington Post Staff Writers
Friday, January 15, 1999; Page E3

In 1982, Richard L. Schmalensee wrote an article in the Harvard Law Review in which he argued that "persistent excess profits provide a good indication" of whether a company possesses "market power."

Such profits, the Massachusetts Institute of Technology professor asserted, "show clearly that there is some impediment to effective imitation of the firm in question."

Yesterday, as he sat on the witness stand at the Microsoft Corp. antitrust trial, Schmalensee's words came back to haunt him.

Earlier in the trial, two government witnesses said the hefty profits Microsoft has reaped from the sale of its Windows operating system for personal computers indicate that the software giant has a monopoly. Schmalensee's article, excerpts of which were projected on a giant screen in the courtroom yesterday, seemed to lend credence to the assessments of the government witnesses.

But Schmalensee is Microsoft's witness, leading to a rather awkward moment in court yesterday when a Justice Department lawyer confronted the professor with passages from the document.

"My immediate reaction is 'What could I have been thinking?'" Schmalensee said.

A few questions later, he added that the article "does not, the way it sits, present a good indication about my present views."

Schmalensee maintained that his 1982 argument does not apply to the software market, where materials needed to create a product are intellectual, not physical. In "intellectual property" markets, the witness argued, good ideas and business skill can lead to products that generate large profits. But, he said, that does not mean somebody else with a better idea can't displace the market leader and earn similarly large profits.

In written testimony submitted to the judge hearing the case, Schmalensee argued that Microsoft does not have a monopoly with Windows. New operating systems and other software products, he said, could become popular enough to displace Windows in only a few years.

Through the 1982 article and other arguments, the Justice Department's lead trial attorney, David Boies, tried to poke holes in the witness's testimony. With relentless questioning over the course of the day, Boies landed a few blows, but Schmalensee, who remained largely unruffled, was able to fend off several others.

The witness argued that there are no major barriers to other companies entering and thriving in the operating system market. But Boies suggested in his questioning that operating systems made by IBM Corp., Apple Computer Inc. and others have not displaced Windows because there are large costs associated with trying to persuade other firms to write software, such as word processors and games, for competitive operating systems. "How much would it cost to develop the applications currently available for Windows that are not available for any other operating system?" Boies asked the witness.

Schmalensee said he could not answer the question but countered that the success of an operating system depends more on its quality than on the volume of software written for it. "The user uses what they need to do their job. Nobody needs 10,000 applications," he said.

The witness also said one reason Windows has remained the world's dominant operating system is that Microsoft tirelessly improves it, out of fear of competition. He said Chairman Bill Gates told him in a recent conversation of the fear he once had of IBM's OS/2 operating system, which was announced with much fanfare in the mid-1980s. Gates quoted an IBM executive as saying at the time that "in five years, no one will remember who you were."

Boies also tried to put Schmalensee on the spot by calling into question the data he relied on to assert, in his written testimony, that 85 percent of software vendors "predicted that Microsoft's integration of Internet functions in Windows would help their company and 83 percent predicted it would help consumers."

Boies said the survey Schmalensee cited was ordered up by Gates in anticipation of his appearance last spring before the Senate Judiciary Committee. "It would HELP ME IMMENSLY [sic] to have a survey showing that 90% of [software] developers believe that putting the browser into the [operating system] makes sense," Gates wrote in a February 1998 electronic-mail message to company lawyers and executives.

Boies then introduced an e-mail among Microsoft public relations officials that discussed problems with the survey data. "I wouldn't refer to it an unbiased, and I wouldn't refer to it as an opinion poll," wrote company researcher Ann Redmond. She also said she would "avoid releasing the [questions] to the press."

"It's not misleading," the witness said of the study. "It's a random survey done by a third-party research firm," he said. "The purpose is not relevant."