Bill Gates

by Michael Becraft

  3. Is Microsoft software hard to imitate? Yes, as there is a lot of computer code involved in Microsoft Windows and a competitor that copies parts of the computer program would be in violation of Microsoft’s intellectual property. While there are alternative operating systems and thousands of other applications, the common ones used by the average consumer are produced by either Microsoft or Apple.

  Developing software costs money. In the case of the earliest versions of BASIC, we know that Gates mentioned spending $40,000 in the Open Letter to Hobbyists—in 1975 terms—developing the software, although the limitations of computers of the day meant the software being developed was small. In fact, the first version of Altair BASIC was fewer than 4,000 characters due to computer chip limitations. Now, major software development efforts can cost hundreds of millions of dollars, and Microsoft was reported to have spent $300 million in advertising alone for Windows 95. In order to remain profitable, Microsoft had to:

  1. Make products that consumers saw as worth the upgrade. As Bill Gates himself had suggested Microsoft was paid for “breakthroughs”—a consumer could indeed elect to use a 10-year-old computer without upgrading if he or she desired.

  2. Sell enough of every new product/operating system to cover the cost of development and advertising. Just like with the original Altair BASIC, Microsoft had to sell enough copies of the software to make up the investment in developing software, advertising, and making copies to sell. This explained his anger at fewer than 10 percent of Altair users in the first year actually buying his product.

  3. If the company never sells enough copies of the software to cover the cost of development, advertising, and packaging (or downloads), the product will lose money. And many Microsoft products have indeed been unprofitable over time. Since 1995, there have been Microsoft Bob, Windows Me, Windows CE, and other products users have likely forgotten, even if purchased.

  4. Only after selling enough copies of the product to cover the cost of development, advertising, and the comparatively minor cost of packaging/delivering the new product could the company begin to actually make money. However, this “break-even point” is where software companies need to be in order to exist; each new copy of the software sold after that point is almost all profit—for example, an extra license for a $99 piece of software on a $3 packaged DVD is $96 in profit (and the company can gather more profit if the product is sold as a download). The marginal revenue far exceeds the marginal cost after selling the first copy of the software.

  Profitable companies create value; in the case of Microsoft, all of the costs are more than sufficiently covered with revenue, although the early days of the firm saw a shortfall on revenue for the Altair BASIC. Value-added items can also be based upon how items are put together—for many users, a box of computer parts plus some software has little value, but the computer manufacturer who puts all of those components together creates value.

  Microsoft followed a path of vertical integration. While the firm did begin with programming languages, there was a progression to operating systems, applications, and utilities. Everything except the physical components of the computer was developed and coordinated by Microsoft—and the company has made physical hardware—but that close integration between all of the software (like Windows 95 and Internet Explorer) did lead to the Microsoft antitrust trial.

  There’s one word Gates and Microsoft never wanted to hear from a government regulator. Actually, there were two: monopoly and antitrust, where the latter is how the government decides to handle monopolies. In the period from late 1997 through 2002, the Sherman Antitrust Act of 1890 would shape almost all media references to Microsoft, despite the release of popular products like Windows 98, Windows 2000, and Windows XP.

  Chapter 6

  MICROSOFT TRIAL

  We’ve done some good work, but all of these products become obsolete so fast…. It will be some finite number of years, and I don’t know the number—before our doom comes.1

  When considering the Microsoft trial with the U.S. Department of Justice (DOJ), one has to be aware that the series of events extended far beyond a single trial. The events that led to the trial started years before, and the repercussions of the trial lasted years afterward. In fact, Microsoft—and Bill Gates—had multiple opportunities to completely avoid a trial, and the actions and words of Gates shaped the perceptions of the public and judge involved in the trial.

  THE FIRST CONSENT DECREE

  Microsoft had been under investigation in the early 1990s, leading the company to agree to a consent decree with the DOJ in 1994. What’s a consent decree? It’s a legally binding document between two different parties—in this case, the DOJ and Microsoft—that states the defendant (Microsoft) will no longer undertake certain actions that the DOJ found to be unacceptable under various competition laws. Consent decrees are a way for the two parties to make an agreement—once approved by a judge—that are intended to stop unwanted behaviors without a trial and usually without admitting that the defendant (in this case Microsoft) had actually engaged in wrongdoing. Effectively, the consent decree is a listing of items that won’t be done in the future to ensure compliance with the law. If a consent decree is violated, the plaintiff (DOJ) could then start a new proceeding against Microsoft. The initial consent decree was not approved by the first judge assigned to the case (U.S. District Court judge Stanley Sporkin), so there was a delay of almost a year before the decree went into effect.“This antitrust thing will blow over,” Mr. Gates said. “We haven’t changed our business practices at all”—attributed to Bill Gates on July 11, 1995, admitted as evidence in later antitrust trial.2

  The first consent decree against Microsoft was approved by U.S. District Court judge Thomas Penfield Jackson on August 21, 1995, running for a period of 6.5 years from that date. As noted in the New York Times, Judge Jackson was ready to bring the judicial review process to a quick end after Microsoft had been investigated for almost five years: “For his part, Judge Jackson made it clear yesterday that he intended to bring the extended period of judicial review to an abrupt close. ‘This hearing will be short and sweet, ladies and gentlemen,’ he said in opening the 20-minute session.”3

  Jackson had been a judge on the U.S. District Court for many years, and had presided over other high-profile cases. He was the judge who presided over the case and sentencing of former Washington, D.C. mayor Marion Barry to prison in a drug case, writing that Barry “has given aid, comfort and encouragement to the drug culture at large, and contributed to the anguish that illegal drugs have inflicted on this city in so many ways for so long.”4 This trait of not accepting misconduct in a no-nonsense manner will reappear, as Microsoft was not done with Judge Jackson’s court.

  As a firm, Microsoft’s lawyers argued that the consent decree should have been back-dated to when Microsoft had—in fact—been willing to accept the decree as written before Judge Sporkin rejected the agreement. Judge Jackson denied the request, and Microsoft would be back in his courtroom well before the expiration of the consent decree. Lohr wrote prophetically:

  Antitrust experts agree that Microsoft cannot expect to be left alone by the Government, if only because of its size and clout. “The Justice Department has made it pretty clear that Microsoft will remain under scrutiny,” said Charles F. Rule, a partner in Covington & Burling and a former head of the Justice Department’s antitrust division.5

  At the time of the first consent decree, observers believed the most important part was related to preventing Microsoft from charging a “per processor” license fee, where computer manufacturers would have to pay Microsoft, even for computers that did not even have Microsoft’s software:

  In July 1994, Microsoft and the Justice Department reached a settlement. The main effect of the consent decree is to end Microsoft’s practice of “per processor” license agreements in which personal computer makers agree to pay a licensing fee for each computer shipped with a particular model of microprocessor, even for machines not lo
aded with Microsoft’s operating software. Rivals said this practice had chilled the market for competing software.6

  The date of Judge Jackson’s action was August 21, 1995. The consent decree that had been approved but tied up in legal review—after being accepted by Microsoft but rejected by Judge Sporkin—included the following clause:

  E. Microsoft shall not enter into any License Agreement [with an OEM] in which the terms of that agreement are expressly or impliedly conditioned upon:

  (i) the licensing of any other Covered Product, Operating System Software product or other product (provided, however, that this provision in and of itself shall not be construed to prohibit Microsoft from developing integrated products).7

  The Windows 95 operating system came out precisely three days later, on August 24, 1995. And that operating system had something called Internet Explorer, formerly code-named O’Hare, which had been listed in Gates’s The Internet Tidal Wave memo as a product to convince customers to switch from Netscape. Remarkably, there was little concern whether the product as implemented would be an impermissible “Covered Product” or an allowed “Integrated Product” under the consent decree because observers believed this clause was of minor importance at the time, far less important than preventing Microsoft from charging per-processor on computers shipped without Microsoft products.

  COMPETITION IN BETWEEN

  Osterland (1996), in The case against Microsoft, described how industry analysts believed the competitors would attack Microsoft in an way that could not be stopped, and that the market, according to Roxanne Googin, wanted to see Netscape and Java attack Microsoft, although the initial result would be a form of confusion. She contemplated Microsoft and how the firm received recurring revenue, which was licensing products to businesses and making those new innovations described by Bill Gates that led consumers at home to upgrading their products when major new releases came out. “Microsoft might do okay on the Internet, but it’s not their schtick,” says Googin. “It threatens the base upon which their valuation depends, and upon which they get their recurring revenue streams.”8

  OCTOBER 20, 1997

  In two years, the government had decided—after watching Microsoft require licenses for Internet Explorer 3.0 and prepare for Internet Explorer 4—that Internet Explorer just might not be integrated. October 20, 1997, was the day the U.S. government filed a contempt motion against Microsoft for alleged violations of the initial consent decree. And while observers had believed the most important part of the first consent decree was stopping Microsoft from charging vendors for Windows on computers shipped with other operating systems, that belief proved to be untrue.

  Why would adding what was viewed as a web browser to a computer be seen as a major event? In the early days of the Internet era, high-speed Internet was rare. Microsoft, now keenly aware of the potential for the Internet to revolutionize computing, included Microsoft’s Internet Explorer in all new copies of Windows that shipped. At the same time, the company required computer manufacturers (OEM’s, for Original Equipment Manufacturers) to ship their version of Windows with no other web browsers included.

  Today, this would seem to be a fairly easy item to resolve—a user could simply go online and rapidly download an alternative browser and remove Internet Explorer just like any other program. During 1997/1998, this was a little more challenging. With far slower Internet speeds in 1998, the options were instead what could be a lengthy download process or purchasing a copy of an alternative web browser at a store to install at home. In addition, there were no published means of removing Internet Explorer that had been created by Microsoft (although computer scientists had figured out how to do so). Add the allegation that Microsoft altered the Windows operating system to favor the use of Internet Explorer, and the company was sued by the U.S. government and 20 states under the Sherman Antitrust Act of 1890, specifically for chilling competition after violating the consent decree. However, testimony in the trial would show actions by Microsoft that could have reasonably harmed far more firms than Netscape.

  Bill Gates and Steve Ballmer after the April 2000 ruling of U.S. District Court Judge Thomas Penfield Jackson that Microsoft was an unallowed monopoly. (AP Photo/Microsoft, Jeff Christensen)

  Microsoft’s product was included in Windows for free, at a time when competitors often charged for web browsers. Some of the more condemning statements suggested that Microsoft was intentionally trying to eliminate competitor Netscape—a for-profit firm—by offering a free version that closely mirrored the functions of Netscape Navigator.

  IS INTERNET EXPLORER AN INTEGRATED COMPONENT?

  In the build-up to the DOJ case against Microsoft, Joe Belfiore, group program manager for Windows User Interface, wrote a document “Internet Standards and Operating Systems—Why Integration Makes Sense,” published in 1998. In that document, he explains what the code-name O’Hare really meant in Gates’s Internet Tidal Wave memo.

  From the very outset, Microsoft intended Windows 95 to support the broadest possible range of networks, including the Internet. That is why the development of Windows 95, code-named “Chicago,” included work on a variety of Internet-related technologies, code-named “O’Hare”—a point of departure to distant places from Chicago. These technologies were later referred to by the name “Internet Explorer,” and Internet Explorer 1.0 was an integrated element of the first version of Windows 95 provided to computer manufacturers, 2½ years ago.9

  So “O’Hare” (named after Chicago’s largest airport) became the very first version of Internet Explorer, taking users far away from Chicago (Windows 95) while still in Chicago (Windows 95). Belfiore went on to talk about Internet Explorer as really serving two different roles:

  You may regard “Internet Explorer” as just a web browser application, but that would be quite an inaccurate way to think of it. In fact, “Internet Explorer” describes two things:

  1. A set of platform technologies that any software vendor can use to make their application support Internet standards.

  2. A user-interface that any consumer can use to view web-sites on the Internet or any other internet-standards-based network.

  The first of these two things—the platform technologies—work just like the support for toolbars that Microsoft made a native part of Windows that anyone could use. Instead of requiring every separate software developer to assign a team of people the task of implementing computer code for handling Internet standards, Microsoft has written the code once and made it possible for anyone to use it…. That is a huge efficiency and enables software developers to focus their energies on adding attractive new features to their products rather than focusing on the low-level plumbing required to handle Internet standards.10

  The question that could be asked from this statement would be whether the technology really “can” be used or “must” be used to connect to the Internet. If the answer was that all products, including other products issued by Microsoft, must use those platform technologies to connect to the Internet, a claim that the platform technology was truly an integrated one would be easier to make. If other software vendors had the option of using those technologies and the Windows operating system could connect to the Internet without Internet Explorer, then the product would not be seen as integrated (and thus against the consent decree). The ability to run Windows without Internet Explorer became a major issue in the trial, and Belfiore was called to testify.

  The declaration that setting a standard makes life easier for other programmers likely sounds familiar; Bill Gates had made a quote in 1977 that the industry might have benefitted from a single operating system that everyone else works from. And if this description of Windows Explorer being a web browser plus a platform that companies could use (not required to use) to make their software support the Internet seems to suggest that Internet Explorer was not absolutely essential to run Windows, one might also be correct.

  HEADED TO TRIAL

  As the government’s contempt order w
as winding toward a trial in Judge Jackson’s courtroom, Gates was speaking publicly to defend his firm and the importance of providing access to the Internet. He espoused that the government was claiming that Microsoft’s products were too capable, that successful businesses are often the target of comments from naysayers, and that the Internet cannot be controlled or dominated by any entity (including Microsoft). Gates also suggested that Microsoft had added the capability of connecting to the Internet as a convenience to software developers (as Belfiore similarly claimed):

  Part of the PC dynamic is that instead of asking software developers to duplicate one another’s work, we take anything that’s typical in all those applications and put those features in Windows. So for things like connecting to the Internet, instead of everybody having to do that themselves, we put that in. That’s been the evolution—graphical user interfaces came in, hard-disk support, networking support, now Internet support, including the browser.11

  DETOUR TO THE SENATE JUDICIARY COMMITTEE

  Gates was called to speak before the Senate Judiciary Committee on March 3, 1998. At that time, the suggestion that he was not always forthcoming when questioned about Microsoft’s behavior began to become national news. The Congressional Record detailed a particular exchange between Senator Orrin Hatch (the chairperson of the Senate Judiciary Committee at the time) and Bill Gates, when Hatch followed up an existing ambiguity by asking a version of a yes/no question five times in an attempt to draw an answer from Gates about his firm’s behavior against Netscape.

  Hatch: Mr. Gates, you have been somewhat hard to nail down on a very specific question, and I would appreciate just a yes or no, if you can. Do you put any limitation on content providers that limit them…for advertising or promoting Netscape? Yes or no, if you can.