Has Microsoft lost it?

5th Oct 2008 | 07:30

Has Microsoft lost it?

Rejected by Yahoo!, outgunned by Google and humiliated by Apple, it's fighting for its survival

On the face of it, Microsoft CEO Steve Ballmer and Gordon Brown don't have much in common.

One is a plain speaking, unpretentious, horny-handed son of toil who, after what seemed like an eternity, took over the top job from his best friend – only to find himself in charge of a crumbling empire with no clear direction, declining popularity and endless media coverage of his smoother, more stylish rival. The other is the Prime Minister.

The comparison isn't as bizarre as it might seem. With the departure of Bill Gates, Ballmer has inherited a Microsoft whose position looks much less secure than it did in the Gates era. Despite massive spending on search, Microsoft's market share is dwarfed by Google. It's outflanked in entertainment and mobile computing by Apple, it's losing browser market share to Firefox, and Silverlight is barely scratching Adobe's Flash.

The 'Wow' marketing campaign for Vista has been replaced with the more desperate 'if you try it, you might not hate it' Mojave campaign, and mini-PCs – one of the few PC sectors that hasn't stagnated – are sticking with Windows XP. Even Office, Microsoft's cash cow, is under attack from free and open source rivals.

So has Ballmer inherited a poisoned chalice? Has Microsoft lost it? And if it has, can it find it again?

Cracks appearing

Microsoft is still making enormous sums of money, but cracks are appearing in its $16billion Windows business. The death of XP has been postponed several times – the current rash of ultra-small, ultra-cheap laptops don't have the horsepower to run Vista – and while Microsoft claims to have sold 180 million Vista licences, many of those licences are for machines running XP.

As Jane Bradburn of HP Australia told reporters in July, "From 30 June, we have no longer been able to ship a PC with an XP licence. However, what we have been able to do [is] to ship PCs with a Vista business licence but with XP pre- loaded. That is still the majority of business PCs we are selling today."

There's no compelling reason for users to upgrade: Vista requires more powerful hardware than XP, and it's been plagued by driver problems and incompatibilities. As a result, it's faced an avalanche of bad publicity – some of it deservedly so, as users found that their devices didn't work.

The bad publicity isn't helping enterprise adoption. According to Forrester analyst Ben Gray, "Desktop operations professionals tell Forrester that they see the value in standardising on Vista, but many are having a hard time convincing their CIOs that the move isn't a risky bet, given the mixed reaction it's received in the press and the speculation surrounding what to expect after Vista." Forrester reports that 8.8 per cent of enterprise customers have migrated to Vista; 87 per cent are still running XP.

The 'mixed reaction' has been a gift for Apple, whose 'Mac vs PC' campaign mocked Microsoft ruthlessly. The ads worked: according to BMO Capital Markets analyst Keith Bachman, "More than 50 per cent of customers buying Macs in Apple stores are first time buyers."

Fixing Vista

Microsoft doesn't normally acknowledge its competitors, but in July, Steve Ballmer used the A-word in a company-wide memo. "In the competition between PCs and Macs, we outsell Apple 30 to one," he wrote. "But there is no doubt that Apple is thriving."

That's something of an understatement. Apple is now the third biggest computer manufacturer in the US and the sixth biggest worldwide, with a US market share of 8.5 per cent – compared to two per cent in 1996. While the PC market grew 4.2 per cent in the last year, Mac sales are up by 38 per cent. It has 17.2 per cent of the UK educational PC market and its iPhone came from nowhere to grab 27 per cent of the American smartphone market.

Ballmer thinks Microsoft can learn from Apple. "They are good at providing an experience that is narrow but complete, while our commitment to choice often comes with some compromises to the end-to-end experience," he told staff. "We're changing the way we work with hardware vendors to ensure that we can provide complete experiences with absolutely no compromises."

It's a rather cryptic comment, but it makes sense when you compare the out-of-the-box experience of an Apple computer with that of a Vista PC. Apple's control over hardware means that there are no device driver issues or incompatibilities – the famed 'it just works' approach – and the Mac desktop isn't stuffed with trial programs and ISP icons, often termed 'crapware'. Essentially, Microsoft wants PCs to be more Mac-like.

During Microsoft's Financial Analysts Meeting in July, Bill Veghte from the Windows group explained: "We worked with [OEMs] to do what we call the Windows Vista Velocity Program... a very extensive set of tests to measure everything from reliability to security to compatibility, boot time and so on. We ran over 280 systems through that process and you're starting to see the results of that in the market today."

Ballmer elaborated: "You can take the same laptop, oftentimes, and pre-configure it one way – and you get almost instantaneous boot and fantastic battery life. If you pre-configure it with software in another way you get long boots and much less battery life. That kind of education, discussion, dialogue, we find our OEMs appreciate. It doesn't mean they always follow our advice... but some of our OEMs, I know, are going to step up and do a lot more to complete the end-to-end experience of software, hardware and so on. And that will be a great thing."

Microsoft is planning the same approach with smartphones. While Windows Mobile fell short of its target of 20 million licenses sold in a year, it still increased its global market share from 11 per cent to 13 per cent – but the iPhone is clearly gunning for enterprise customers, with version 2.0 of the phone's software delivering Exchange support and group policies to make it a much more business-friendly device.

Apple's manufacturing partner Foxconn is reportedly manufacturing 800,000 units per week, and analysts predict sales of around 15 million iPhones in 2008 and 40 million in 2009 – a drop in the ocean compared to Nokia's 400-plus million units per year, but double what Windows Mobile is currently doing.

To fight back, Microsoft has it's new operating system Windows Mobile 7 – but that won't ship until at least 2009. In the meantime, the firm is addressing one of the key things that iPhones do better than Windows Mobile devices: web browsing. The next version of Windows Mobile's Internet Explorer will deliver full-screen browsing, Flash, Silverlight support and H.264 video compatibility. It should appear on handsets by late 2008.

Out of Office

Office is famously Microsoft's cash cow, but that cow's being chased around the field by open-source Office-a-likes and fast, flexible and free online office services. Microsoft's solution isn't to make Office free, but to change the way that it's sold to price-conscious customers.

US consumers can now subscribe to Equipt, a £35 per year service that delivers the OneCare security package, Live Mail, Messenger and Writer, Office Live Workspace – a web-based service for online file storage and sharing – and the full Office Home & Student Edition. Long-time Microsoft watcher Rob Enderle calls it "a transitional product".

As he explains: "One of the problems of moving to a new concept like cloud computing is that you have to move your code base and the market has to be ready for the move at the same time. This means that an entrenched firm has to create a transitional product with elements in both the old and the new in order to create time for the translation of the code base and to allow the installed base – in this case consumers – to make the switch to a new product." Enderle believes that Equipt is that product.

So what's next? The answer may be Live Mesh. Currently in early beta, Live Mesh at first looks like yet another file sharing service. However, the vision is much bigger. Microsoft sees Mesh facilitating easy, instant data sharing across devices and platforms, with the ability to control devices from any other device. For example, you might control a program on your home PC with your mobile phone or use a web-based desktop when you're on the move. It's not a Windows-only plan either.

Microsoft plans to make Live Mesh cross-browser, cross-platform and available for everything from consoles to printers. Live Mesh is Microsoft's answer to the current buzz about Software as a Service (SaaS), where applications – from word processing to Photoshop – are hosted on central servers and delivered via web browsers. Microsoft is betting that the future isn't SaaS, but Software and Services. If it's right, we'll still use traditional software, but Live Mesh will connect it to the cloud.

Silverlight, Microsoft's platform for web applications, has a crucial role to play here. Its 1.5 million daily downloads are impressive, albeit dwarfed by Flash's 98.8 per cent market share and installed base of 864 million machines, but its role in Live Mesh should dramatically boost adoption. It's likely to be the platform that brings Live Mesh not just to Windows and Internet Explorer, but also to Firefox, Macs and Nokias.

In another smart move, Microsoft has signed a deal with Google-owned DoubleClick to serve adverts on the Silverlight platform – something that will help persuade content publishers to take Silverlight seriously.

Silverlight's availability for Firefox is another sign that Microsoft recognises reality: while the resurrected IE team is making very good browsers that address IE's legacy of poor security and standards support, the firm knows that its days of near-100 per cent browser market share are long gone.

New seekers

Despite Microsoft's best efforts, its share of the search market is dismal. The latest figures from comScore show that Google has 61.5 per cent of the US search market and 75 per cent of the UK one, with Microsoft at 9.2 per cent in the US and 3.4 per cent in the UK. While those figures show a slight year-on-year improvement for Microsoft, it's clear from the figures that when people search, they generally Google.

Google's sheer dominance of the search market makes it a hard company to beat – a position that, rather ironically, Microsoft has been in once or twice over the years. As Microsoft's rivals know all too well, it's not enough to build a better mousetrap; you also need to persuade huge numbers of people to use it.

So is Google the Microsoft of search? Kevin Ryan is Vice President of Search Engine Strategies, the publisher of Search Engine Watch. "We have learned several things from the development of search over the last few years," he says. "Google definitely has the pole position in search in many areas of the world. Google's strategy of building small applications in an organic culture of development is working. A series of small acquisitions targeted and complementary has beaten the big 'buy and build' strategy. In other words, you don't build one mousetrap, you build a lot of little ones."

So what should Microsoft be concentrating on to become a market leader in search? "Gaining market share is difficult in this marketplace, but it always has been," Ryan says. "The strategy should not be 'become a leader in search'. The strategy should be 'build a culture of need fulfilment and become necessary'. Becoming necessary or irreplaceable will build the next need fulfilment category for gathering information and ipso facto the next leader in search."

In July, Steve Ballmer told analysts that search was a key part of Microsoft's future. "There's a $1trillion market being transformed. That is such a huge opportunity. We have to seize it." While Ballmer admitted that so far, Microsoft's spending in search hasn't resulted in huge returns, he noted that the spending was "tiny relative to our business" and offered a good ratio of risk versus return.

Search is taking money from its other businesses, but Ballmer is convinced that it's where Microsoft needs to be. "Search is ripe for innovation," Ballmer says, and his internal memo to Microsoft staff explains what he meant. "We'll introduce new approaches that move beyond a white page with 10 blue links to provide customers with a customised view of their world," he wrote. "This is a long-term battle for our company—and it's one we'll continue to fight with persistence and tenacity."

Microsoft search guru Satya Nadella told analysts that "we think we're as good as Google" when it comes to relevance, and that Microsoft intends to make search better still by understanding user intent, offering cashback via Live Search, putting Live Search on popular sites such as Facebook, increasing the size of Live Search's index and improving relevance still further.

Another key area is marketing. As Ballmer put it: "Google doesn't have to. We do." Veteran Microsoft observer Joe Wilcox of Microsoft Watch agrees. "Google's dominance isn't assured," he writes. "Microsoft needs to keep pushing the technological boundaries and more aggressively market, market, market Windows Live Search. Microsoft, don't just sell advertising – buy it."

Microsoft, says Ballmer, will "re-invent the user model and business model. It's harder for the market leader to do this." However, as Silicon Alley Insider notes, "The market leader can sit back, watch others innovate and steal the good ideas. Microsoft used to be great at this... what do you think Google will do if it sees something it likes? Copy it. Immediately. Before users change [their] habits."

That's entertainment

Microsoft's entertainment portfolio looks decidedly mixed. The Xbox 360 has done very well, but the Zune music player is an also-ran and Microsoft's attempts to rival iTunes have been less than impressive.

Windows Mediapowered download shops have barely dented iTunes, which is now the US's biggest music retailer. Realising that selling songs that don't work on iPods means missing out on most of the market, retailers are increasingly dumping Windows Media to sell unprotected MP3s instead. Windows Media still has a role to play in digital music, but only in music subscription services.

Nick Thomas is the European Media Analyst for Jupiter Research. "Apple's success with the iPod has been to build an ecosystem around software, content partnerships and hardware, making its profits from the hardware," he says. "Microsoft doesn't have the content experience to build a compelling aggregated rival to iTunes and doesn't have the experience of hardware manufacturing (Xbox aside) on a scale to compete with the iPod."

As Thomas notes, the Xbox 360 has done rather better – partly because it beat the PlayStation 3 to market and partly because Microsoft created a very credible console for serious gamers. However, PS3 sales are catching up fast and Nintendo's Wii already outsells both consoles. "Sony's PS3 and the Nintendo Wii are competing on different fronts.

The PS3's Blu-ray compatibility gives it additional appeal to potential buyers who enjoy both games and movies, and will benefi t from the marketing push for Blu-ray titles in the all-important Christmas season." Microsoft tried to do the same with the Xbox, but backed the wrong horse: the now-defunct HD-DVD.

"Nintendo has taken the console market into whole new areas beyond core users," Thomas says. "Families and female users who would not have considered either an Xbox or a PS3 have bought a Wii to play Wii Fit, among other titles. Microsoft has been publicly dismissive of the Wii, seeing it as just a stepping stone en route to a 'proper' console like the Xbox, but given the relative sales of the two machines, that comes across as arrogance or sour grapes – or both. They say the Xbox is being positioned as a more family-friendly console, but their major games titles are generally more hardcore shoot-em-ups than mainstream family-friendly titles."

There are some areas in which the Xbox excels, though. Xbox Live, its networked gaming and media service, has been a huge success – something that Sony has thus far failed to emulate. Come autumn, Live will play a key part in a major update to the Xbox, a new interface that essentially gives every Xbox owner a new console for free. The update will introduce Wii-style avatars and a new emphasis on video content in an attempt to reposition the console as a fully fl edged home entertainment system.

Nick Thomas suggests that Microsoft's move into Xbox video downloads has been a qualified success, particularly in the US – although the available catalogue is much smaller than Apple's iTunes. However, the lack of BBC's iPlayer, which is available on the Nintendo, is a big omission in the UK:

"Xbox's lack of a web browser – and according to some, a too-aggressive negotiating position regarding branding – means that the Xbox isn't able to offer its users access to the iPlayer." That said, "The partnership with Netflix in the US points to partnerships with retailers as a way to expand their offering... but again there are mixed messages coming from Xbox. Some execs seem unconvinced by the appeal of the console as a media device, preferring to focus only on games. Building on those content partnerships, whether it's games or videos, will be crucial to Microsoft moving forward – but for music, it's surely far too late for them to be a player."

Uh-oh or 2.0?

So has Microsoft lost it? A company with 93 per cent of the worldwide operating system market, rising revenues, a $60billion turnover and around $22.49billion in operating income is hardly struggling. However, the world in which Microsoft operates is changing dramatically, and Microsoft knows it.

In its latest report to investors, the "risk factors" section notes that "our competitors range in size from Fortune 100 companies to small, specialised single-product businesses and open-source community-based projects. Open-source software vendors are devoting considerable efforts to developing software that mimics the features and functionality of our products."

Microsoft is fighting back on multiple fronts. It's "developing versions of our products with basic functionality that are sold at lower prices than standard versions", but more importantly it's chucking enormous sums of money at things that may or may not work.

"We make significant investments in new products and services that may not be profitable. We may not achieve significant revenue from new product and service investments for a number of years, if at all. Moreover, new products and services may not be profitable, and even if they are profitable, [margins] may not be as high as the margins we have experienced historically."

To many observers, the way in which Microsoft's online division is haemorrhaging cash is a sign that Microsoft has missed the boat – but the 'let's throw money at this until it works' approach has worked in the past for Windows, Office, Internet Explorer and Xbox, none of which were immediately successful. Microsoft may not be the leader in search, cloud computing or mobile phones, but the combination of determination and deep pockets is a powerful one.

As Steve Ballmer told Microsoft staff in July: "Nobody is better than we are. Nobody works harder than we do. Nobody is more tenacious than we are. We're investing more broadly and more seriously than anybody else. Our opportunities to change the world have never been greater."

First published in PC Plus Issue 274

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