Suddenly, Microsoft seems vulnerable.
It's an odd and abrupt development for the company that swaggered over the 1990s as both creator and beneficiary of the personal computing boom. Millions of people bought PCs, and almost all of those PCs depended on Microsoft's Windows operating system. The software behemoth's stock market worth surged to nearly a half-trillion dollars, making it the most highly valued corporation in history and creating three of the world's four greatest personal fortunes.
But Microsoft's continued reign as the most powerful force in the technology world is at risk--and not just because a federal judge on Friday dealt the company a staggering blow in its antitrust battle with the government, ruling that the firm has used its market clout to hobble competition, stifle innovation and harm consumers.
Outside the courtroom in the fast-moving technology marketplace, Microsoft faces equally daunting challenges as the Internet expands personal computing beyond the desktop. Several of the largest PC manufacturers, including Compaq Computer Corp. and Dell Computer Corp., have started backing away from their singular devotion to Windows. Not only have they begun selling machines outfitted with a rival operating system called Linux, but they're developing a new generation of slimmed-down computers that could include no Microsoft software at all.
Meanwhile, Microsoft's much-vaunted new operating system for businesses, Windows 2000, is two years behind schedule. Industry observers question whether the company's billionaire co-founder, Bill Gates, is too emotionally committed to Windows at the expense of other technologies, a debate that may have contributed to the recent departure of several key executives responsible for Windows and Internet strategy. And arch-rival Sun Microsystems Inc. is mounting a direct attack on Microsoft's highly profitable Office software suite by distributing word processing programs, spreadsheets and other everyday applications over the Internet--for free.
"Microsoft is facing some huge threats--both in and out of court," said Rob Enderle, an analyst with the Giga Information Group, a market research firm. "They're no longer going to be the power they once were."
For clues to the company's emerging challenges, consider places such as the emergency services dispatch center in St. George, Utah. For three years, the dispatchers tried to use Windows-equipped computers to process calls. Almost every night, one of the machines would inexplicably crash, forcing the operators to handle requests manually, information systems director Sherman Stebbins said.
Frustrated and worried that someone might die because of the glitches, Stebbins recently decided to give Linux a try. He liked it so much that within weeks, he installed the operating system on all the personal computers in the dispatch center. Now he's considering replacing Windows on every other computer in the police department.
"It was great to get liberated from Windows," Stebbins gushed, adding that if he worked at Microsoft, "I'd be worried."
But Microsoft's greatest strength is precisely the fact that it is worried. The last great shift in the technology world was the move in the early 1980s from mainframe computers to desktop computers. In the next big transition to the Internet, Microsoft is determined not to play the role that mainframe giant International Business Machines Corp. played--the giant that was caught napping.
Linux has only a tiny share of the market, but Microsoft feels threatened enough to have shown a short film ridiculing the operating system at its annual meeting with stock market analysts in July. Afterward, Microsoft executives underlined the point: We made fun of it because we're scared of it.
The idea of Microsoft as beset by competitors at every corner was a key part of the company's self-image even before it was accused of being a monopoly with no competition. The thought of losing everything is what energizes its wealthy executives to come to work every morning.
They practically boast about how many challengers are out there: "The competitive landscape just continues to grow," said Deborah Willingham, the Microsoft vice president in charge of marketing Windows 2000.
Five years ago, she noted, IBM and Novell Inc. were key competitors to Windows in the business market. "Today, Sun is a key competitor, [Hewlett-Packard Co.] has their flavor, Compaq has their flavor. There are new options for customers that didn't exist in the past," she said.
No one suggests the Redmond, Wash., company, that Gates and Paul Allen founded 24 years ago is anywhere near financial trouble. It has a cash hoard of $19 billion. It has made strategic investments in key new markets, most notably a $5 billion deal with AT&T Corp. that will ensure a role for Microsoft as the nation's homes get wired for high-speed Internet access over cable television lines. And it is planning to rely for a long while on the continued dominance of the PC.
"For most people at home and at work, the PC will remain the primary computing tool," Gates wrote in Newsweek earlier this year. "I'm betting Microsoft's future on it."
Still, the judge's withering ruling--which sided with almost all of the government's accusations and rejected virtually every element of Microsoft's defense--sets the stage for the government to seek an aggressive "remedy" that could strip the firm of its profitable monopoly in the desktop PC operating system market. Among the penalties under active consideration by the government are a corporate breakup and a forced sharing of the secret computer code that makes up Windows.
At the same time, Microsoft's technological rivals are pursuing their own approaches to topple the Windows monopoly, attacking one of the company's strongest defenses--a phenomenon that government lawyers have called "the applications barrier to entry."
The applications barrier is formed by the tens of thousands of software applications that have been written for Windows, many with the specific encouragement of Microsoft. It would take years for a rival operating system company to build a similarly large software arsenal, and until then, Windows would have a clear advantage in the market. But now, Sun, America Online Inc. and a host of other technology companies have seized on a new weapon to attack that barrier: Web-based applications.
Instead of writing software tailored to a specific operating system, such programs would reside on the Web, ready to be used by any Internet-connected computer. If there were lots of Web-based applications, the rivals reason, people would no longer have to use Windows. Systems such as Linux and one made by a tiny Silicon Valley firm called Be Inc. could be just as attractive to users.
Sun's StarOffice, for instance, takes direct aim at Microsoft's Office software suite, which provides almost half of Microsoft's annual revenue. StarOffice, like Microsoft Office, has a word processing program, a spreadsheet, a scheduler, presentation software and a personal database.
StarOffice doesn't have nearly as many bells and whistles as Microsoft's Office. And running applications on the Internet can be slow and balky. But Sun's offering does have one key advantage: It's free.
For small firms, the money is significant: A Microsoft license costs more than $500. "Our clients don't have huge information technology budgets, and they couldn't afford Microsoft," said Barry Lerman, president of the Logical Alternative, a Toronto consulting firm, who is recommending to his 50 or so clients that they replace Microsoft with Star. So far, he said, two are doing it, and he expects others to follow suit.
Industry analysts don't believe that Web-based applications and rival operating systems will topple Office or Windows anytime soon, but some expect such products to encourage people to buy a new generation of intelligent Internet-connected devices--such as slimmed-down Web terminals--instead of full-fledged Windows PCs.
"Nobody is expecting the desktop PC to go away," said Dan Kusnetzky, a research director at International Data Corp., a consulting firm. "But in the future, Web-based applications will help to provide a competitive alternative to the Windows PC for some computer users."
Equally troubling for Microsoft are the fights it is facing as it attempts to push versions of Windows into corporate computer centers and into the low-cost consumer electronic device market.
In the booming market for hand-held computers, 3Com Corp.'s Palm device, which has its own operating system, has remained the clear leader, despite Microsoft's elaborate efforts to get other firms to design and sell hand-held organizers using a slimmed-down version of Windows called CE.
In the world of high-end corporate "file server" computers, Linux--a free operating system that has become a darling of the geek set--captured almost 20 percent of the market last year, while Microsoft's Windows NT system, whose user base had boomed for the three previous years, failed to increase its share.
"We're moving into a post-PC world," said Robert F. Young, the chief executive of Linux developer Red Hat Inc. "And in that world, it's hard to imagine that Microsoft will be as dominant as they were in the 1980s and '90s."
Microsoft's challenges aren't just on the outside. An estimated quarter of Microsoft's 33,000 employees are millionaires because of stock options, giving them the financial freedom to quit at any time. While Microsoft says its 7.4 percent attrition rate is less than half the industry average, the company is increasingly plagued by high-profile defections.
In the past year, about a dozen key managers and executives have either resigned or taken sabbaticals, among them Chief Technology Officer Nathan Myhrvold as well as Brad Silverberg, who led the development of Windows 95 and Internet Explorer. Other executives who have left were instrumental in the design and marketing of the company's MSN Internet service and the Office suite.
In some cases, industry analysts say, the departures stemmed from disagreements with Gates over the strategic direction of new products. "Bill's position is that Microsoft will embrace the Internet, but through the proprietary platform of Windows," said Michael Cusumano, a professor at the Massachusetts Institute of Technology's Sloan School of Management. "There are some in the company who believe that is not the future--that it is a dinosaur perspective. It's a critical debate in the company, and those who disagree with Gates are leaving."
Against this background, Microsoft is struggling to finish what Gates has called the company's most important product ever: Windows 2000, an industrial-strength operating system that is designed to run on all types of computers, from PCs to mainframes.
Comprised of more than 30 million lines of programming code, Windows 2000 is intended to provide a technical base for all of the company's future software and, perhaps most importantly, make Microsoft a viable competitor in the lucrative market for large server computer operating systems. But the product won't be shipped to customers until February--two years behind schedule.
At the same time, the firm is scrambling to compete with America Online Inc., Yahoo Inc. and others in the Internet services arena. Analysts estimate that Microsoft's MSN Internet access service has about 2 million customers, a figure that has remained relatively stagnant over the past year, while AOL has grown to more than 18 million members.
While Microsoft is big enough to throw its weight around, size is not always an advantage these days. "If you're Microsoft, the good news is that you have hundreds of millions of users," explained Guy Kawasaki of Garage.com, which advises new entrepreneurs. "The bad news is, you have hundreds of millions of users. So how do you innovate while carrying along your installed base? It's the gorilla's dilemma. Whereas two guys in a garage, all they have to worry about is innovation."
Craig Mundie, Microsoft's senior vice president for consumer strategy, conceded, "It takes a lot of energy to keep the current businesses going. So we start later, and have more baggage."
Ultimately, industry executives and analysts believe it will be a combination of legal sanctions and changes in the marketplace that will accelerate a dilution of the company's dominance.
And both factors could play off each other. If, for instance, Linux and other operating systems become serious competitive threats in the desktop PC market, it could lead appellate judges to mute any court-ordered sanctions. On the other hand, if viable alternatives don't appear in the marketplace, it could convince an appeals court to uphold stiffer sanctions.
"It will either be market forces or something from the court," said Robert H. Lande, a law professor at the University of Baltimore. "Either way, they are facing a big threat."
But many Microsoft watchers believe the company can--and will--overcome its hurdles with Windows 2000 and Internet services. The company has lined up 25,000 firms to sell Windows 2000, for instance, and it plans to have 60,000 software applications that will run on the operating system, giving it a commanding advantage over its rivals. And recent management and content changes have helped to make the MSN network of sites the third most frequently visited place on the Internet after AOL and Yahoo.
"It's always easy to find problems that Microsoft is going to have to overcome," said Jeffrey Tarter, publisher of the Softletter, a software industry newsletter based in Watertown, Mass.
"But the history of Microsoft shows that they almost invariably manage to overcome those things," Tarter said. "These guys are more aware than anyone else of where they can get in trouble, and they're brilliant at comebacks."
HIGHLIGHTS IN MICROSOFT'S HISTORY
ORIGIN: Founded in Albuquerque in 1975 by Bill Gates, 19, and Paul Allen, 21. Gates soon drops out of Harvard. In 1979, they move the company to the Seattle area, where both grew up.
IBM DEAL: In 1980, Microsoft licenses its personal computer operating system to IBM. Microsoft retains ownership of the system, meaning that the company will collect a fee each time IBM loads the software onto a machine.
APPLE'S CHALLENGE: Apple Computer in 1984 introduces the Macintosh, which offers a graphic-based navigation system, with a mouse for users to point-and-click.
WINDOWS: Microsoft in November 1985 releases its Windows operating system, similar to the Mac but widely judged as a slower and inferior product.
GOING PUBLIC: Microsoft sells stock at $21 a share in March 1986; Gates becomes the industry's first billionaire a year later.
A BETTER WINDOWS: The company finally refines its Windows system and releases version 3.0 in May 1990, a product that becomes popular enough to overwhelm any opportunity for Apple or anyone else to claim a large slice of the market. The company's practices in building market share come under scrutiny. Microsoft eventually signs a consent decree with the government, agreeing to stop some of its practices.
EXPANDED REACH: Microsoft launches Windows NT, designed to extend its reach into client-server computer systems used by businesses, in 1993, and Windows CE, for devices such as hand-held comput ers, in 1996.
THE INTERNET: Microsoft is slow to recognize the importance of the Internet. But alarmed by the growth of the Web browser developed by Netscape Communications Corp., the company finally embraces the new medium in 1995. It releases its Internet Explorer browser -- again, judged an inferior product at first -- and launches a series of Web-based software and content initiatives.
THE ANTITRUST CASE: In 1997, the Justice Department sues Microsoft, alleging the company violated the 1994 consent decree by forcing computer makers to feature its Web browser. On Friday, Judge Thomas Penfield Jackson issues preliminary findings that Microsoft harmed consumers by using its monopoly power to stifle competition and innovation.
SOURCES: Washington Post files; International Directory of Company Histories; Hoover's; Bloomberg News; Microsoft Corp.
CAPTION: Top, Microsoft Chairman Bill Gates in person and on screen at a 1995 interactive media conference; middle, the Microsoft campus in Redmond, Wash.; bottom left, Microsoft co-founder Paul Allen, who quit his company job in 1983; bottom right, Gates introduces Windows in 1990.