Facing Free Software, Microsoft Looks to Yahoo
By MATT RICHTEL
Published :NYT, February 9, 2008

In the last posting, we talked about a deeper, more profound reason for Microsoft’s attempt to buy Yahoo. Additionally, Cyndi Greenglass questioned how Microsoft (MS) could grow “organically” after this acquisition. Although there is no right or wrong answer, my belief is that the component of this acquisition that focuses on combining Yahoo’s advertising dollar share with MS and reducing costs is a classic M&A growth strategy; at best it is short term and not sustainable. The bigger part from MS’s perspective is using Yahoo’s platform to accomplish the things highlighted below. This, I believe, is a classic “organic growth” strategy where MS is filling a capability gap via acquisition.

I would like to welcome the participants of Kellogg’s executive education class on New Product Development at the Miami campus (very smart considering the wind-chill in Chicago is -15 degrees); I suggest visiting the blog site to catch up. The Kellogg School is considering expanding the audience for our blog which will be great for all of us. We are also considering expanding the topic base as well and welcome any suggestions form our community.

SAN FRANCISCO — Nearly a quarter-century ago, the mantra “information wants to be free” heralded an era in which news, entertainment and personal communications would flow at no charge over the Internet. Now comes a new rallying cry: software wants to be free. Or, as the tech insiders say, it wants to be “zero dollar.”

A growing number of consumers are paying just that — nothing. This is the Internet’s latest phase: people using freely distributed applications, from e-mail and word processing programs to spreadsheets, games and financial management tools. They run on distant, massive and shared data centers (the cloud), and users of the services pay with their attention to ads, not cash.

While such services have been emerging for years, their rapid adoption has been an important but largely overlooked driver of the $44.6 billion hostile bid that Microsoft made to take over Yahoo this week.
That proposed deal would give Microsoft access to Yahoo’s vast news, information, search and advertising network — and the ability to compete more squarely with Google.
But a merger would also allow Microsoft to adapt its empire to compete in a world of low-cost Internet-centered software.

Yahoo’s huge user base could provide the audience and the infrastructure for Microsoft to change how it distributes its products and charges for them.

(filling the capability gap)

“Microsoft makes its money selling licenses to millions and millions of people who install it on individual hard drives,” said Nicholas Carr, a former editor at The Harvard Business Review and author of “The Big Switch,” a book about the transition to what the technology industry calls cloud computing.

“Most of what you need is on the Internet — and it’s free,” he said. “There are early warning signs that the traditional Microsoft programs are losing their grip.”
Certainly, analysts said, Microsoft’s revenue — $51 billion last year, most of it from software — is not yet suffering in any meaningful way.

The company said, to the contrary, that business is booming, and that Microsoft Office, a flagship product, is having a record-breaking year.(this is exactly the time companies should make this type of strategic investment – before you are in crisis)
“Last year was our best year, and this year is better,” said Chris Capossela, a Microsoft vice president with the Office division.

At the same time, though, the company has lowered prices. Last year it began selling its $120 student-teacher edition to mainstream consumers, who had been asked to pay more than $300 for a similar product.

The bulk of the company’s profit comes from selling to corporations, which unlike consumers may be slower to adapt to a system in which proprietary data is not stored in corporate-owned data centers.

Microsoft said that corporate customers prefer using software that they are familiar with and that provides more functions and better security.
But the corporate business, too, is coming under increasing assault from lower-cost Internet competitors, including Microsoft’s archnemesis, Google.

On Thursday, Google took its attack to a new level. It released Google Apps Team Edition — a version of its productivity software that includes word processing, spreadsheet and calendar programs. In a form of guerrilla marketing, the fans of Google Docs can take it into the office, bypassing or perhaps influencing decisions made by corporate executives, who until now have overwhelmingly bought Microsoft software.

Google, while it gives such software free to consumers, charges corporations for a premium edition, though the fee is less than what Microsoft charges for productivity software, analysts said.
The change is coming not from corporations but on the computers of a growing base of individuals who increasingly expect their software to be free — and for it to be processed and managed over the Internet. ………
……… “If Microsoft had to start over today, it wouldn’t even think about charging money for its software,” said Yun Kim, an industry analyst with Pacific Growth Equities. “Nobody in their right mind is developing a business in the consumer market to charge” for software.
Mr. Kim said that he expected Microsoft at some point to introduce a free ad-supported version of Office for consumers, though the company insists that it has no such intention.
Mr. Kim, however, expects that Microsoft’s corporate business is more entrenched and resilient, and less susceptible to the influences of free or ad-supported cloud computing. (this could be a powerful segmentation strategy for MS)……..

.......But the relative quality of Microsoft’s software continues to attract customers, argued J. P. Gownder, an industry analyst with Forrester Research. He said that Microsoft has an opportunity to develop a hybrid version of its software that combines the convenience of cloud computing with the security of processing on the desktop, thus helping it maintain and further its empire. (powerful advantage for MS vs. even Google)

“This is the predominant reason why Microsoft has gone after Yahoo,” Mr. Gownder said. “The ad revenue is a nice short-term achievement, but in the long run it is much more about delivering apps over the Web.”