Microsoft Goes Live

Microsoft is playing catch-up in the Web software realm. Can it substitute ad sales for license revenue and change how it develops software?

Aaron Ricadela, Contributor

November 4, 2005

8 Min Read

One barometer of the forces that sweep the computer industry is the intensity with which Microsoft reacts to them. By that measure, the most powerful come along about twice a decade. Last week marked one of them.

Like the "Internet tidal wave" that opened the door for PCs to connect to the Web 10 years ago and new standards for online data sharing in 2000, this year has seen the explosive popularity of Web software from Google,, and Yahoo. These Web apps feel like they're running on a desktop, get constantly tuned with new features, rely on ads or subscriptions instead of license fees, and invite users to share information without permission from corporate IT. Microsoft finally responded with a plan of its own--one that could mark the beginning of the end of the company's outdated software-delivery model.

Gates calls Microsoft's fundamental shift in direction to "live software" a sea change. "This affects everybody who uses software," he says.Photo Courtesy Microsoft

At a 2-1/2-hour press conference in San Francisco last week, Microsoft chairman Bill Gates and chief technical officer Ray Ozzie outlined plans for a fundamental shift in the company's technical and business direction based on the concept of what Gates calls "live software." It's enabled by low-cost bandwidth, widespread wireless access, and cheap memory and storage, and marked by rapid release cycles, an agnostic attitude about whether products run on PCs or other computing devices, and the ability to blend local, peer-to-peer, and online functions. It's also Microsoft's attempt to capitalize on the torrid growth of online advertising. "This affects everybody who uses software," Gates said. "It's a dramatic sea change."

As a first step, Microsoft is launching a test version of a Web site called Windows Live that provides PC functions such as file-sharing, E-mail, and Internet phone calls, making it possible to extend those capabilities to PCs, PDAs, and cell phones. Early next year, the company plans to start testing Office Live, a complement to its personal-productivity suite aimed at small businesses that'll include hosted E-mail, Web-page design tools, and a new application called Microsoft Mojo that lets two users work on an Excel spreadsheet over the Internet. Instead of charging people to use the apps, Microsoft plans to generate revenue by selling ads to sponsors, including American Express, Cingular, and Toshiba.

Taking Risks To Compete With Google
By untethering its multibillion-dollar brand names from individual PCs, quickening the tempo of releases, and betting that enough customers will click on ads instead of paying for licenses, Microsoft risks severing important anchors of its business. "It's a revolution in how we think about software," Gates said. But it's a revolution that was thrust on Microsoft by innovative competitors, not one of its own making.

Microsoft is taking another risk: opening its coffers to acquire technology that can power its live software sites. Last week it bought AG, a Swiss supplier of voice-over-IP applications, and FolderShare, a unit of privately held ByteTaxi Inc., whose software lets users synchronize PCs and computing devices and share files over the Internet. Terms of the deals weren't disclosed. "This is showcasing Microsoft pointing the company at Google, as opposed to one product," says Rob Enderle, principal at consulting company the Enderle Group.

To make the plan work, Microsoft needs its 3.5 million Windows developers also to embrace Web-app development, and it needs to grab some of the brand name and buzz that's helping Google and Yahoo apps win online. "What becomes popular is really a function of the conversation that takes place on the Internet," Ozzie said.

True, but Microsoft will try to protect its desktop franchise by tying the Web-based software services to Windows and its Visual Studio development tools. The company will deliver a "Windows Live client layer" for the desktop, Gates said, and provide APIs and programming tools that let independent software developers integrate Microsoft services such as Virtual Earth and Windows Live Mail into their apps and serve up contextual ads from Microsoft's sponsors. "This advertising model has emerged as a very important thing," Gates said. "We want all software developers to tap into that."

Microsoft isn't talking about how its development tools will work with the new Live products yet. But this week it releases new versions of Visual Studio, its SQL Server database, and BizTalk Server that speak XML by default. Live software does, too, so the runway is clear for a lot of new development if the company finds the right balance.

If the programming conventions for talking to Windows and Office Live differ too much from what developers already know, however, Microsoft could squander a huge advantage it has over Google and other rivals. "If they're telling people to write to a new platform, and the platform is different than the legacy, then they're competing with the other guys," says Jason Maynard, a software analyst at Credit Suisse First Boston.

Microsoft has 10% of the Internet's $15 billion ad market, Ozzie says.Photo Courtesy Microsoft

Also at stake is whether Microsoft can create enough hooks between its Live applications and desktop Windows and Office to keep customers upgrading to new versions, without breaking down the run-anywhere compatibility that makes apps from Google, Salesforce, and Yahoo so compelling. And Microsoft needs to foment grassroots adoption of its Live products without alienating the IT managers who are the gatekeepers for sales of its big-money products. "The issue is going to be security and integration," says Kent Kushar, VP and CIO at E.&J. Gallo Winery. "If there are apps that have some value and are free, and they're for a standalone user, then it's pretty cool. But if they start feeding into other systems, that's when CIOs are going to say, 'Hey, wait a minute.'"

While it's trying to win over CIOs and developers, Microsoft also needs to figure out how to sell ads. Google nearly doubled its third-quarter revenue to $1.6 billion--all but a sliver from ad sales--but Microsoft's online business is stalled. MSN revenue declined to $564 million during the quarter ended Sept. 30, from $588 million a year ago.

A Media Company?
Microsoft has about 10% of the $15 billion Internet ad market, Ozzie said, although it's counting on new advertising software called AdCenter being tested in France and Singapore to expand its share by making ads more relevant. Microsoft counts 250 million users of its Hotmail E-mail service and 170 million users of its instant-messaging software. But as long as Google keeps converting its 380 million unique monthly visitors into rising ad clicks and revenue, Microsoft's audience size might not matter. Even Ozzie is a bit awed. "Google has done an amazing job of making that ad engine fire on all eight cylinders, and we've learned a tremendous amount from them," he said.

Microsoft's ad engine could deliver ads to Microsoft-hosted Web sites, those run by other companies, or desktop PCs, Ozzie said. That's dicey ground, but Credit Suisse analyst Maynard says companies might have some tolerance for ads in their official software. The business versions of online travel-booking services Travelocity and Expedia already serve up ads, for example. "You might not want it in your accounting system, but there may be more disposable applications where it makes sense," he says.

Meanwhile, Google is branching out into more serious business applications. IBM last month released a plug-in to its WebSphere business search engine that lets it work with Google's desktop search software. Also last month, Google and Sun Microsystems signed a pact that lets Google distribute its browser toolbar with every download of Java. Vint Cerf, Google's chief Internet evangelist, says the software industry is broad enough to support a mixture of local and Web-based products but framed Microsoft's products as out of step. "Users are going to demand interoperability for most of the popular products that they use," he says. Still, he allows, "proprietary software isn't going to disappear overnight."

Even factoring out the technical glitches that marred Microsoft's Live demos, some of the scenarios looked underwhelming. Hosted storage and free E-mail? And it's an open question how the rest of Microsoft's thousands of engineers working on dozens of products will apply the new mandates. "Microsoft's product groups still control the power dynamic," analyst Enderle says.

Windows may pay the bills for Microsoft's new ventures, but for the company to stay relevant, those efforts will soon have to stand on their own.

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