What’s behind Microsoft’s fall from dominance?
Barry Ritholtz
Washington Post September 8, 2013

 

 

“Do you have an iPod?”

Steve Ballmer: “No, I do not. Nor do my children. My children — in many dimensions they’re as poorly behaved as many other children, but at least on this dimension I’ve got my kids brainwashed: You don’t use Google, and you don’t use an iPod.”

— Fortune Magazine, “CEO of Microsoft is ready to take the offensive,” March 29, 2006

 

The decade since Steve Ballmer took over as chief executive at Microsoft from his Harvard pal Bill Gates has not been kind to Microsoft: The company saw its stock price plummet, it made ill-advised acquisitions, demonstrated poor capital management and suffered a significant loss of market share. The once-dominant software giant lost its way.

The firm, considered the mac daddy of technology at one time, missed every major tech innovation of the new millennium. The Zune, its foray into portable music players, was an embarrassment. It let Apple gain a toehold on the consumer desktop, which Steve Jobs then leveraged to show consumers a superior alternative to kludgy Windows software. Microsoft was late to Web search and failed to monetize online properties. A belated attempt to jump into advertising by acquiring aQuantive for $6.2 billion led to its first-ever quarterly loss, in 2012.

It wasn’t just the existing software. Microsoft failed to recognize the impact of nearly every worthwhile development. It missed the rise of touch-screen technology and the mass appeal of social-networking sites (i.e., Facebook and Twitter). Perplexed by tablets, it lost more than $1 billion in that venture. Late to user-generated content and blogging, it built MSN Spaces — a Windows-only ghetto that failed to catch on or turn a profit. It blew its early lead in smartphones by failing to understand their significance. And it certainly never threw the same weight behind them as it did its mainstay PC business.

Indeed, it is hard to think of new technology since 2000 that Microsoft had a significant role in developing, marketing or monetizing — other than the Kinect device for the Xbox 360.

Much of the debate about its fall from grace focuses on two factors: Analysts have argued that its fade was part of the natural progression for all companies. The life cycle of innovation, adoption, missteps and irrelevancy is the inevitable fate of all companies. It suffered the “innovator’s dilemma” of overemphasizing its current business lines. This led to a failure to develop new technologies and profitable businesses. In the end, the thinking goes, it was a victim of its own success. (This is true for so many companies, though IBM is an exception; it morphed into a consultancy).

The counterargument is that a mediocre CEO allowed the company to slide into decline. Ballmer oversaw ill-advised acquisitions. He missed the tectonic shifts in technology. And despite the number of employees tripling over the past decade, many of the company’s most talented software engineers left for more-nimble rivals, a better lifestyle and more-interesting opportunities.

Both arguments are valid. Indeed, they are not mutually exclusive. But I believe there is a broader, overlooked explanation.

Microsoft’s greatest strength has always been its monopoly position in the PC chain. Its exclusionary licensing agreement with PC manufacturers mandated a payment for an MS-DOS license whether or not a Microsoft operating system was used. Because it made no sense to pay for two operating systems, it created a huge barrier to entry for any other software firm. No other operating-system maker could get a toehold in the PC market. By the time the company settled with the Justice Department in 1994 over this illegal arrangement, Microsoft had garnered a dominant market share of all operating systems sold. It held a lock grip on the market until 2008, when it fell below 90 percent desktop OS share for the first time.

Consider Microsoft’s huge cash flow: The former monopolist throws off nearly $78 billion in revenue and earns almost $27 billion in profit each year. Its three main product lines — Office, Server Tools and (now slipping into third place) Windows — account for three-quarters of its revenue and nearly all of its profit. It is not a coincidence that these business lines were the direct beneficiaries of the Microsoft monopoly. Indeed, none of Microsoft’s other businesses has achieved the success of its monopoly properties. Online service loses money each year. Despite enormous investments, its entertainment and devices division still earn less than $1 billion annually.

Gates’s true genius was not as a tech visionary. It was his business acumen in leveraging a monopoly position in operating systems to become the dominant U.S. tech company. IBM gave the world its first PC in 1980. The mainframe giant looked down on the idea of a personal computer for home or even business use. It thought the PC insignificant — it could never replace the big iron it made. In 1981, it happily outsourced the operating system to Gates’s squad of geeks, who themselves outsourced the OS code writing. By 1982, MS-DOS was released.

Embedded within that original IBM deal was the seed of Microsoft’s vast fortunes. Microsoft’s true genius was in its license agreements of MS-DOS (and, eventually, Windows) with PC manufacturers. They offered a variety of licenses, but the version that charged the least per copy included a clever kicker: Microsoft had to be paid for every machine sold — regardless of whether MS-DOS was the operating system. This brilliant, if evil, agreement with computer makers effectively blocked all OS competition. Microsoft became the standard adopted by corporate America.

Microsoft had its deal with the devil: Its lightning in a bottle was not some awesome technology or brilliant breakthrough – it was a clause in a contract that led to an enormously profitable monopoly. It then pre-installed Office in new PCs, creating a second monopoly and billions more in profits. By then, Office had become the dominant productivity software suite. Eventually, Microsoft’s server and tools division — which includes Windows Server and Microsoft SQL Database — also became a de facto standard.

Google’s motto, “Don’t Be Evil,” was a not-so-subtle swipe at how Microsoft had achieved its dominance.

Most monopolies, aside from baseball, eventually get broken. Microsoft was no exception. Once the Justice Department and the European Commission found the company in violation of antitrust laws, it was forced to compete fairly. It is no coincidence that as the company lost its vice grip on the desktop, its dominance faded. Revealed as a dinosaur, it was unable to compete with the smaller, more-nimble mammals.

And therein lay its current problems. In a fair and level playing field, the once-feared software giant has been revealed as a middling software writer and a mediocre competitor.

Ballmer oversaw a decade of missed opportunities, and he very well may have hastened Microsoft’s decline. But it might have been inevitable. The truth is that for all its claims of innovation, Microsoft never generated much in the way of profits by innovating. This then is a tale of the long, slow death of an enormous cash cow.

To quote London-based analyst Benedict Evans, “Just as overnight success can take a lifetime, so overnight collapse can also take a long time.”

Ritholtz is chief executive of FusionIQ, a quantitative research firm. He is the author of “Bailout Nation” and runs a finance blog, the Big Picture. Follow him on Twitter: @Ritholtz.

Category: Legal, Technology

Please use the comments to demonstrate your own ignorance, unfamiliarity with empirical data and lack of respect for scientific knowledge. Be sure to create straw men and argue against things I have neither said nor implied. If you could repeat previously discredited memes or steer the conversation into irrelevant, off topic discussions, it would be appreciated. Lastly, kindly forgo all civility in your discourse . . . you are, after all, anonymous.

35 Responses to “What’s behind Microsoft’s fall from dominance?”

  1. VennData says:

    Related: What is India’s problem? India makes you keep workers. Employers can’t fire them if you’re over a certain size without approval some some regulator. So 1) People only make firms that have fifty or fewer employees of 2) don’t hire more people.

    If you get “in” Microsoft, you can’t get out. You have to use their nonsense.

    The only restriction on Google is if your fat old man tells you you can’t use it, If you want to leave Google, it’s easy.

    Facebook? hard to leave, they are doomed. Apple, hard to leave, they are doomed. Now as you’ve seen with MSFT (and every green-eye-shaded CNBC “value” investor) “leaving” takes a long time, but it will happen, eventually, so the value in the stock, that long-tail out-int-the-future stub is not valuable. Because you can’t keep a Soviet system going, they crumble and break.

    So if you want Apple and Facebook etc to be valuable, tell them to open up their systems. It’s so utterly simple.

    • dwkunkel says:

      VennData is right on this.

      I work for a large Networking company the just decided to release a major project as Open Source. Mild panic erupted among some of the software engineers now faced with the prospect of having their code available for anyone to scrutinize.

      Closed systems enable all sorts of questionable things to be covered up.

    • agronox says:

      Agreed, this is why Linux is the most valuable OS family out there.

  2. sellstop says:

    That reads like a pretty standard rise and fall of a great company. And the contract thing is not evil. That is just what a publicly owned corporation is SUPPOSED to do. Make money for the shareholders. It’s not evil. It just is.

    gh

    • That’s where we disagree — violating the law in the way they did was anti-competitive, and it set the development and adoption of technology back a few years — it may even have contributed to the dot com bubble.

      • msaltzny says:

        A question: When they began inserting that clause did it violate the law? They were far from being a monopoly at the time and they certainly were not the only OS competing. Another question: How did the anti-trust decisions in the US and Europe affect Microsoft’s ability to compete in other areas? The arguments about Gates and Microsoft’s code writing ability and innovation have been around for as long as I’ve been interested in computers (the late 80′s) as well as about Ballmer’s shortcomings and I’m sure both are true. Their success was never based on dealing with the consumer market but, rather, the enterprise market, a market (by the way) that Jobs never seemed particularly interested in. Finally as an aside, I don’t know of a single major software (or hardware manufacturer for that matter) who hasn’t tried to become a monopoly and that includes companies like Apple, Google, Sun, Oracle and a host of others, most of whom have been fierce Microsoft critics for self-serving reasons (which doesn’t mean they weren’t correct), Some of those companies succeeded some failed. Maybe what is most true of all is that Gates was a superb game player (he certainly out played IBM), at least in the space that he primarily chose to operate. And it may be that enterprise orientation is, in the long run, what has resulted in Microsoft’s being the mess that it is.

      • yes it did — the main statutes for the Anti-Trust law in the US are the Sherman Act 1890, the Clayton Act 1914 and the Federal Trade Commission Act 1914.

    • VennData says:

      sellstop, please get up to speed on US antitrust law.

      http://en.wikipedia.org/wiki/Sherman_Antitrust_Act

      http://en.wikipedia.org/wiki/Clayton_Antitrust_Act

      Easy to make up stuff following some philosophy of one-liners. But one-liners are only the real world in comedy clubs.

    • rd says:

      That is the standard line that the financial firms used as they crashed the world’s financial system requiring a full-out government response to save them and us that is still going on now.

      However, government officials over the past few years have essentially publicly declared that law-breaking won’t be prosecuted if it is potentially “destabilizing.” I haven’t quite figured out how that fits into Adam Smith’s “invisible hand” model of the market although it is does fit in quite well wit hthe concept that all regulation is undesirable which is the Somalian free market model.

  3. rd says:

    It has always astonished me how software folks have not understood the implications of Moore’s Law. Moore’s Law means that the toys of today will be the mainframes of tomorrow. IBM programmers ignored their own PC and Xerox software folks ignored PARC. In turn Microsoft ignored phones and tablets.

    Steve Jobs was one of the few who got it because he was into both the hardware and the software. He drove the look and feel of both the hardware they were building and the software that would drive it. Google is another one who got it by developing Android but they didn’t have an operating ecosystem to defend.

    A decade from now, you will be able to dock your phone or tablet at your desk and run word processors, spreadsheets, and even a number of technical programs. It will probably be heavy duty graphics and modelling applications like CADD that will still need to run on something the size of a desktop or laptop computer. The biggest limitations will still be the physical limitations of our eyes and fingers. It is possible that heads-up displays may allow for the equivalent of full-size monitors to be worn instead of having a big screen o nthe desk, but ergonomics will become the primary driver of what works there.

    Where a company like Microsoft will still have an advantage is the increasing importance of IT security for enterprise systems as networking devices get more and more dispersed with more and more access. Corporate and government security is going to require a great deal of diligence to the overall security of networks that app developers aren’t going to care about. The realization that somebody will be able to hack into the local sewage treatment or traffic light control system from their cellphone is going to drive a huge focus on how things are connected in the future. I think we will be focusing a Y2K type of rethinking of systems over the next decade or two although there won’t be the pumpkin hour deadline that there was at the end of 1999. Will Microsoft be at the head of that or will others step in to fill a void?

    • Iamthe50percent says:

      “Where a company like Microsoft will still have an advantage is the increasing importance of IT security for enterprise systems …”
      This is completely wrong. Microsoft software has the worst security record in the industry and always has. Way out of proportion to desktop penetration, enterprise systems (USPS big enough for you? How about UK & German governments) run servers with open source Linux and Apache because they are SOLID. Open Source is about doing it right, not securing a monopoly. Microsoft is today’s Western Union.

      • rd says:

        It is an opportunity for MSFT. It is directly related to their core business. If they elect not to take advantage of it and improve their security, then someone else will and their primary market will vanish with the wind.

        It is their choice.

    • mrflash818 says:

      It has always astonished me how software folks have not understood the implications of Moore’s Law.

      I would counter argue that, if you do a search using the keyword ‘linux’ at news.google.com, on how well that particular operating systems, and the people that use it, has scaled to the raspberry pi, to IBM mainframes.

      To my interpretation” it is not ‘software folks’ that do not understand, it is ‘Microsoft folks’ that are struggling.

  4. dang1 says:

    why I bought this Windows 8 netbook: Office works best for me, Google Docs just isn’t up to task; no Office for Chromebook, MacBook- not; at $240, this refurbished Acer off of eBay was cheaper than a Win 7, my previous Acer held up well but I slammed the trunk lid on its screen. This 11.6 V5 fits well in my backpack, and my VZW Galaxy Nexus goes in my pocket.

  5. slowkarma says:

    Microsoft may die, but its death doesn’t seem to me to be imminent, or even inevitable over any foreseeable period. Despite all the stuff about moving to tablets and cell phones, etc., tablets and cell phones are not what business is about — business is still about terminals and keyboards. Tablets basically replaced paper and reporting devices (books, magazines, UPS delivery reports, etc, where PCs were never used) and PCs used for browsing, but they are not basically entry or creative devices. That business will continue, and I think will resemble the TV business…steady, predictable, unexciting, low-margin sales year in and year out, except for the OS, which costs nothing to replicate, and which will continue to generate large profits.

    The key is the large profits, which represent opportunity on almost an unprecedented scale, and is where Ballmer fell on his ass. He didn’t know what to do with them. Steve Jobs knew, people at other startups know. The question is, are Microsoft’s Gates and the board so stuck in the monopoly-generated past that they will be unable to hire a genuinely creative CEO before the music stops?

    Another possibility is this: there isn’t any place really to go. What great revelatory device has Apple or Google released in the past few years? Not much since the smart phone. Maybe the big tech spurt that started with the first PCs has now plateaued, the way radio did, until TV came along…

  6. Frilton Miedman says:

    I remember reading an interview with Gates in the 90′s, the interviewer entered Gates’ office, noticed a Google plaque on his desk in plain sight and asked him why it was there.

    Gates put it there to remind himself that Google was the only company he hadn’t been able to either eliminate or take over.

    That was the way Gates measured success, suppression of competition rather than competitive innovation.

    Decades of that business model has left them hapless, Windows was a one hit wonder that they continually managed to monopolize, until mobile, Chrome & Android came along and gave consumers choice.

    The only hope I see for MSFT are guys like me, years of familiarizing myself with the tricks, shortcuts, keyboard/mouse functions (like CTRL+F for lengthy doc’s, or depressing the scroll wheel to open links in new tabs) and many other functions of the Windows platform, I don’t think the PC is truly dead, yet.

    But, if MSFT makes the mistake of yet another overpriced version of Windows that forces me into yet another lengthy learning curve replete with computer freezing – that could change.

    Where Apple is highlighting the “excitement” over new colors for the Iphone it would seem they’ve apexed their innovation for now, MSFT has an opening here to put the focus back on function vs form. – but the price has to be right and users want the old Windows they’ve learned to use for decades.

    All MSFT has to do is think like it’s diminishing customer base, instead of looking for ever new ways to control or bilk them – this isn’t rocket science, it’s common sense.

    • Iamthe50percent says:

      Not only would it have been better for the marketplace, it would have been better for Microsoft itself if the courts had broken them into an operating systems company and an application systems company. For my two cents, it should even have been a three-way split by breaking off development tools as a separate company. Then there would have been an incentive for real progress instead of prioritizing support of obsolete monopoly products.

      And Fliton, do yourself a favor and look hard at Linux and look beyond Ubuntu.

  7. jlj says:

    Dont forget, Gates is the one who missed the internet. Gates is the one who loaned money to Apple and took cash back, not stock. Gates pickedBalmer. Gates did the veto on MSFT tablet a few years back. And as bad as balmer is, if msft were getting payments out of china n india etc. For all the pirated software, the press would be talking about him as another gates or welch.

  8. Mike9 says:

    First, what Balmer got right:
    - Software quality of Windows has risen, security of windows has risen. They are no longer the joke of a software company as they were under Gates.
    But, not sure the hiring has changed, under qualified developers is still a Microsoft standard.

  9. dcsos says:

    Barry, Windows still sells many more machines than Mac. It still seems that most Windows users go around in the dark….Its not until they actually use a Macintosh that they are converted – and as the society moves offa the PC (to tablet and phones) this is the real basis of the dominance loss. It seems the cold dead hands are actually holding a discontinued Dell that still runs XP!

    • “Windows” doesnt sell any machines, but a variety of PC makers do — Lenovo, HP, Dell, etc.

      If you include tablets, Apple is the best selling brand of computing devices (add smart phones and its even better)

      • dang1 says:

        add smart phones and Samsung is the best selling brand of computing devices.

        Most tablets these days are too big to be mobile, not as robust as PC’s; tablets are Smartphone Max That Are Not Phones. Hilarious that Apple is touting its new A7 chip as desktop-class- so, its previous chips, thus iPhones, are just really puny lightweights. Welcome to the PC plus era.

        Most tablets are paired up physical keyboards, so they’re really just crappier laptops. Looking forward to more, robust 8 inch Windows 8 tablets though; pair ‘em up with a physical keyboard- that would be ideal for me.

  10. vonbahr says:

    Please note in paragraph ten, “Gates true genius…”. w/ no malice intended about a bright guy w/ plenty of brainpower, let us not forget the following: 1) the role of Paul Allen who was the lead geek, and a tiny handful of others; 2) the role of Wm. Gates, Sr. and his corporate law firm and the 3-4 smart lawyers that crafted the ballsy monopoly agreement that could be used w/ manufacturers knowing full-well what a second-year law student knew: eventually such a contract could be ajudicated anti-competitive; 3) MSFT bought a bare-minimal O/S from a clueless Seattle Computer Co. that did not have the Gates law firm behind it to check efficacy and marketability and thus sold ALL rights for less than $300K for a shell O/S based on BASIC that could be tweaked and fiddled with to become MSFT’s MS-DOS; and 4) it was a zoo back then (1980-85) and CP/M as an O/S and MS-DOS and Lotus 1-2-3 could as easily become the defacto standard(s) given the vagaries of the marketplace. Look how close Apple-Jobs came to becoming a sunken ship…. The term “genius” should be used with great care.

  11. capitalistic says:

    Interesting post. The reasons for MSFT’s fall are:

    1. Lack of visionary leadership – Ballmer is a manager, not a leader.

    2. Software > Hardware – MSFT should have focused on developing mobile software/OS and perhaps acquire hardware companies such as Motorola, Nokia or RIM seven years ago.

    3. Maturity – MSFT, like most tech companies, can no longer innovate from within. They should morph into a VC/PE company. Acquire/invest in companies like Twitter, provide the fuel, exit, rinse and repeat.

    I do think MSFT will reinvent itself.

  12. CitizenWhy says:

    Remember Word Perfect, and the office suite that went with it, whatever it’s name was? An elegant set of packages.

    Bowing to the “standard,” I installed Microsoft office on on of those old computers (486? no, the one after), but I kept Prefect Office (was that the name). For one thing, mail merge was a horror in Microsoft Word but a simple, easy to do operation, accurate operation in Word Perfect.

    But my main point: the better operating Word Perfect suite took 90 MB of space. The inferior performing Microsoft Office took 196 MB. Right away I knew that Microsoft Office was a clunky layering on of new coding with old coding (sitting on top of the awful MS-DOS). But it was the “standard,” so we all were stuck with it.

    On retiring I went to an iMac and Mac Book Air (small screen). So easy to learn and to use, with automatic or cheap upgrades. I can open any Microsoft document in one of Apple packages. Those using Microsoft office cannot open my Apple files. But no problem. I can easily, swiftly and elegantly convert my Apple documents to Microsoft Documents and send them on.

    Microsoft is horrible technically, with aggravating and expensive constant, clunky upgrades. That’s another reason for the decline.

  13. murthy says:

    There is also a macro trend at play here. Most companies depend on a few visionaries than a culture of innovation. With hierarchical structures in past century, it was almost always true. With the cultural and technological changes in this century, we are seeing more pervasive innovation.

  14. sellstop says:

    I don’t need to know US antitrust law to know that any large corporation will do whatever they can get away with to enhance shareholder value. They did it. And it worked for how many years?

    Law Schmaw

    gh

  15. sellstop says:

    Has anyone noticed how all they talk about on Bloomberg or CNBC is what the latest Appl thing is?
    How long can it go on that people buy the latest fad. How do these things contribute to productivity?

    ??

    gh

  16. Ultimately, it’s always management. Microsoft’s initial success resulted from Gates’ gaining a monopoly position. Microsoft always was a follower, never a technology leader. Under Ballmer it succumbed to the Innovator’s Dilemma, which is unsurprising since it never was one. But IBM is a parallel. It gained an effective monopoly with System/360, which was a strategic innovation more than a technological one, and lost its way under CEO Akers. Then came the transformation under a leader from outside. Microsoft, too, could have a successful Act 3 under a new leader, but it’s unlikely.

  17. Petey Wheatstraw says:

    MS slipped on an Apple peel.

  18. Stock Soup says:

    To put MSFT’s “fall from dominance” in perspective (as well as Ballmers)

    for the fiscal years from 2008 (when the iphone came to market) thru 2013, compounded annually, Microsoft’s
    1) reported EPS grew 7.22 %
    2) I didn’t calculate this but I am sure you can add to 1) above 1.5 to 2.5% to that for dividends
    3) FCF grew 5.75% (per share it’s higher)
    4) Book value (Warren Buffets favorite measure) grew 14.37% (per share it’s higher)

    As everyone knows the bigger you are the slower you grow. Financially Ballmer did very well for shareholders. It was not his fault the stock traded at 50x when he took over (under now scenario would the stock be up 10 years later)

    With regards to consumer mobile devices, well, it’s still the third inning…. Personally, I think they need two CEO’s. Its been done before. It can work. One for enterprise, and one for Consumer.

  19. WolfStreet says:

    Didn’t have a chance to try Windows 8 yet. But from I’ve gathered, it’s a disruptive technology compared with the previous versions of the OS. And that may be the nail in the coffin for Microsoft : its main advantage was its monopoly on the desktop, witch meant most people were used to its interface, useful both at home and at work.

    But with this new version, people will have to learn how to use it / get formations at work. That’s a game changer : whatever OS they choose now, users will need to relearn how to use it. The same applies for companies, which will have to train their employees no matter the chosen target.

    So people now have real alternatives. Will they choose the old (sometimes buggy) dinosaur’s system, or systems like Linux or Apple, which have a better reputation for stability ?