UPDATE: Court Reverses MS Breakup Order

Microsoft chairman Bill Gates said Thursday's federal court decision to overturn a breakup order against his company lifted clouds hanging over Redmond, Wash. CEO Steve Ballmer said the sun was breaking through.

The U.S. Court of Appeals for the District of Columbia sent the case back to a lower court to decide a new remedy for Microsoft's monopolistic practices. While the decision certainly brightens Microsoft's outlook, state attorneys general have vowed to press on with their case, taking aim at new products the company is developing.

The seven-judge panel, which last fall took over the antitrust case brought against Microsoft by the Department of Justice and 19 states, ruled unanimously that U.S. District Court Judge Thomas Penfield Jackson's June 2000 breakup order against Microsoft wasn't commensurate with the company's wrongdoing.

"This court has drastically altered the District Court's conclusions on liability," the judges wrote in a 125-page ruling. "Divestiture is a remedy that is imposed only with great caution." The appellate judges removed Jackson from the case, saying his remedy hearings were flawed procedurally. They also found that Jackson made "offensive" public comments about Microsoft to journalists, outside of the courtroom. (Jackson also Thursday removed himself from a separate, racial-discrimination case brought against Microsoft by former employees in January).

At a press conference in Redmond, Gates said the decision is "consistent with our ability to go forward" releasing new products, such as Windows XP and .Net Internet-based software. "It sets a high bar for any ruling against the inclusion of new features in any software product." He also said Microsoft would try to settle the case without further litigation. In Washington, D.C., Attorney General John Ashcroft left the door open to a settlement, but pointed to the court's ruling that Microsoft illegally maintained its Windows monopoly as a "significant victory."

In addition to sending the case back to the district court for a new remedy ruling, the appeals court overturned or revised Jackson's earlier findings of law in the case. Jackson found Microsoft violated the U.S. Sherman Antitrust Act in three ways: attempting to monopolize the market for Web browsers, illegally tying its Internet Explorer browser to Windows, and improperly maintaining its Windows monopoly through restrictive contracts with PC makers and ISPs. The judges upheld the monopoly-maintenance count, overturned the attempted-monopolization count, and applied a tougher standard to the tying issue, remanding a decision on that to the lower court.

The distinctions aim to set a precedent for the application of antitrust law to the technology sector, a troublesome area that dates back to the Justice Department's 13-year prosecution of IBM in the 1970s and '80s. Microsoft's legal troubles with the government date to the early 1990s. The company has argued that monopolies in the technology industry occur more naturally than in others, but the appeals court rejected that claim.

What happens next is uncertain. Either side may appeal Thursday's ruling to the Supreme Court. Meanwhile, state attorneys general led by Tom Miller of Iowa and Richard Blumenthal of Connecticut, say they still support a breakup of Microsoft, and may seek further litigation against the company. Their comments focused on Windows XP, the desktop operating system Microsoft plans to release Oct. 25. Microsoft said Thursday it would remove a controversial "Smart Tags" feature from the system, which encroached on others' Web sites. But the attorneys general say other hooks between XP and Microsoft's new Web-services software could harm consumers. "What is so deeply troubling about the XP approach," says Blumenthal, "is it looks like more of the same."

Shares of Microsoft closed Thursday up $1.60, at $72.74.