From: "Joe Barr" 

http://www.iht.com/articles/96289.html

For Microsoft, market dominance doesn't seem enough

Thomas Fuller/IHT International Herald Tribune Wednesday, May 14, 2003
Discounts for biggest users are aimed at keeping software rivals at bay

BRUSSELS More than 90 percent of the world's personal computers run on
Microsoft software. For Orlando Ayala, that was not enough. . Last summer,
Ayala, then the top sales executive at Microsoft Corp., sent an e-mail
titled "Microsoft Confidential" to senior managers laying out a
strategy to dissuade governments across the globe from choosing cheaper
alternatives to the ubiquitous Windows operating system. . Ayala's e-mail
told executives that if a deal involving governments or large institutions
looked doomed, they were authorized to draw from a special internal fund to
offer software at a steep discount, or free, if necessary. Steve Ballmer,
the Microsoft chief executive, was sent a copy of the e-mail. .
The memo, which focused on system software for desktop computers,
specifically targeted Linux, a still small but emerging competitor.
"Under NO circumstances lose against Linux," Ayala said. . This
memo as well as other e-mails and internal Microsoft documents obtained by
the International Herald Tribune offer a rare glimpse into the inner
workings of a company with so much cash - $43.4 billion, as of December -
that it can aggressively discount its products in a bid to protect its huge
market share amid the wreckage of the technology sector. .
The documents show the muscle that the world's largest software company is
prepared to use to protect its dominance, including a relatively benign
form of corporate spying and discounts to capture "big plays" - a
Microsoft term for deals involving the world's biggest clients. . Yet these
sales tactics also come with risks. The covert intelligence gathering -
including one case where a Microsoft employee attended a Linux trade show
pretending to be a consultant to an elementary school - raises questions
about whether Microsoft has pulled back from the aggressive business
practices that got it into so much trouble with antitrust regulators in the
1990s. .
Perhaps more importantly, certain discounts may run afoul of European
market regulators, who are currently investigating claims that Microsoft
violated antitrust laws. .
Discounting is a normal corporate practice. But under European law,
companies that hold a dominant market position, such as Microsoft, are
prohibited from offering discounts that are designed to block competitors
from the market. .
Microsoft has been concerned with the legality of its discounts in the
past, at one point consulting a London law firm on a specific discount
plan. .
But in an interview Wednesday, the chairman of Microsoft operations in
Europe, Africa and the Middle East, Jean-Philippe Courtois, defended the
use of the special fund described in Ayala's e-mail, saying it was part of
a strategy to be "competitive" and "relevant" in the
market for big government and educational deals. . "Linux is obviously
a key competitor," Courtois said. Rivals use similar tactics, he said.
.
Sun Microsystems Inc., for example, "is giving away StarOffice to
basically governments and schools," he said. The suite of programs
runs on both Windows and Linux systems. .
Courtois also said Microsoft sometimes gave away software to "very low
income countries." He cited a program where Microsoft donated software
in South Africa and helped train teachers to use it. . Ayala's memo says
the discounting fund could be used for "developed and developing
countries" but says an "initial focus" was being put on
Latin America, Africa, the Middle East, India and China. . In his e-mail,
Ayala focused on governments and large institutions. A separate memo
obtained by the IHT shows a discounting program for corporate customers
worldwide. Two days after Ayala sent his memo, Mike Sinneck, head of
Microsoft's services department, sent an e-mail giving details of what he
called Business Investment Funds, established to provide corporate clients
with discounts on the hourly rates charged by Microsoft's consulting
business. .
The memo said nearly $180 million had been allocated for this purpose in
the 2003 financial year, which ends in June; $140 million of that was
earmarked for consulting services for server software, where Microsoft has
a leading market share but still faces lively competition. . Servers are
the powerful computers corporations use to store data, manage Web sites or
perform other network tasks. The software that runs servers is the subject
of one of the two antitrust cases now open against Microsoft in the
European Union. European antitrust laws are generally more strict than
those of the United States. In broad terms, Microsoft is accused of
illegally leveraging its overwhelming dominance in the PC software market
into the server market. . Among the documents obtained by the IHT is an
e-mail from outside legal counsel to Microsoft that offers a precise
interpretation of EU law on the question of discounts, including his view
that short-term discounting would be more likely to escape EU scrutiny. The
lawyer's e-mail advised Microsoft that its discounts should not be
"discriminatory" among clients. The e-mail also said discounts
could not be designed to exclude competitors from the market. .
"Discounts are not per se unlawful," Charles Stark, a former
antitrust official at the U.S. Justice Department and a partner at Wilmer,
Cutler Pickering in Brussels, said in an interview. "It depends on the
market circumstances and how they use them and what their impact is."
. Stark, who has not seen the documents, added: "But pricing behavior
can be viewed differently by a dominant firm than by a nondominant
firm." . Asked whether the discounting program for server software
consulting was legal in Europe, given Microsoft's dominant position,
Courtois, the Microsoft executive, said consulting was a
"break-even" business for the company. .
"We are not a global services company," he said, adding at a
different time: "We need to compete against the big guys."
Courtois cited International Business Machines Corp. and Oracle Corp. as
companies with large consulting businesses, unlike Microsoft, which he said
was a "pure software company." .
Battling the 'open-source' threat The Microsoft documents show a particular
preoccupation among top managers with the so-called open-source movement,
made up of programmers who believe the software that runs computers should
be freely available. The code behind open-source software is available to
the public, allowing companies to customize their programs. This is in
stark contrast to Microsoft, which keeps most of its source code secret -
although governments and some corporations are increasingly allowed to view
the code, but not alter it. . Linux, the biggest open-source threat to
Microsoft, has a tiny share of the market for personal computer software.
But Linux was installed with 26 percent of the server hardware sold to
corporations last year, according to International Data Corp., a market
research company. Windows was shipped with about 44 percent of servers,
according to IDC. . The server market is one area where Linux has momentum.
As economic gloom persists in most developed countries, the use of Linux is
being encouraged by many governments, especially in Europe, as a cheaper
and perhaps more secure alternative to Windows software. The French
government, for example, has a Web site that recommends Linux systems for
its departments. .
Ballmer once referred to Linux's licensing as "a cancer that attaches
itself in an intellectual-property sense to everything it touches." .
In the face of this competition, the Microsoft documents show the
significant resources the company devotes to combat Linux, and the
unconventional tactics it sometimes uses. . Chris O'Rourke, a Microsoft
employee, has described attending Linux World, a trade fair in California,
where he "purported to be an independent computer consultant working
with several K12 school districts," according to his e-mail, which was
sent on Aug. 20 last year. K-12 schools include students from ages to 5 to
18. .
"Ha!" O'Rourke wrote in the e-mail to his colleagues, referring
to his assumed identity. "In general, people bought this without
question ... hook, line and sinker." .
O'Rourke said his goal was to glean intelligence about the competition. His
guise, he said, "got folks to open up and talk." O'Rourke did not
respond to a fax and voice-mail message seeking comment. . Another
employee, Todd Brix, said he attended a Linux conference in June 2001 in
San Jose, California, pretending to be an "ambivalent OEM."
Original equipment manufacturers, or OEMs, are companies such as
Hewlett-Packard Co. and Dell Computer Corp. that buy Windows software
licenses. .
Reached at his office Tuesday, Brix said that when attending such a show,
"you don't broadcast that you're a Microsoft person." . "You
don't disguise that fact," he said. "You just don't lead with
your chin." .
The Microsoft documents also show a sophisticated and complex lobbying
program aimed at getting governments on their side. A confidential document
titled "Open Source Software Government: World Wide Initiative"
outlines the company's lobbying objectives. . One aim, the document says,
is to "prevent adoption of procurement policies favoring OSS," or
open-source software. Legislators in several European countries, including
Denmark, France and Germany, have proposed laws that would encourage or
require government offices to adopt open-source software. .
Part of the company's strategy, the Microsoft document says, is to
emphasize to customers the pitfalls of the open-source movement. . The
document says Microsoft employees lobbied ministries in Germany, sought out
favorable coverage in the French press and built "alliances" with
opinion leaders in Denmark. .
But of all the tactics described in these documents, the two discount
programs appear to be the most aggressive - and perhaps most legally
questionable. .
A strategy to 'tip the scales'Ayala sent his memo at 8:17 a.m. on Tuesday,
July 16, 2002. In addition to Ballmer, the recipients included the heads of
major departments - Jim Allchin and Jeff Raikes, both vice presidents -
some of the company's top lawyers and the general managers of Microsoft
operations in Asia, Europe, Africa and the Middle East. . Ayala said in the
memo that in the "difficult economic environment," some
institutions and companies were focusing on cheaper software. . Ayala said,
"it is important that we have a way to address large PC purchases that
involve low-cost/no-cost competitors in the education (and government)
sectors, especially in emerging markets." . The solution, he said, was
to "tip the scales" toward Microsoft in these deals by using the
special fund that he called the "Education and Government Incentive
Program." .
The fund was to be used "only in deals we would lose otherwise,"
Ayala said. .
Ayala gave what he called an "example scenario" of a government
that was advocating using open-source software "in order to keep 'x'
dollars inside the country and save the taxpayers millions of
dollars." . In his example scenario, the government was considering
buying 50,000 PCs installed with locally produced software that cost $5 per
computer. (Microsoft software, by contrast, typically retails for hundreds
of dollars.) .
"In order to compete more effectively against Linux and other
providers on these deals, we can now leverage the Education and Government
incentive [EDGI] program to help tip the scales to MS in the deal,"
Ayala said. . The discounts were "not to exceed" the royalties
that Microsoft received from the makers of the PCs, he said. In other
words, managers could give away the software free, if necessary, but were
not authorized to offer a discount amounting to more than Microsoft was
actually receiving in royalties. .
The "effectiveness" of the fund would be evaluated at three-month
intervals. .
When he wrote the memo, Ayala was the No. 3 executive at Microsoft, in
charge of sales and marketing and responsible for roughly 22,000 of the
company's more than 50,000 employees. . In March, Ayala was transferred to
lead a new division that focuses on small and medium-sized companies. This
new push is one of Microsoft's top priorities, the company has said. Ayala
was not available for comment. . Serving up discounts on consultingAt 9:08
a.m. on July 18, two days after Ayala sent his e-mail, Sinneck sent his
memo. It was sent to a handful of the top managers in Microsoft's
consulting business. . The memo included a table that showed how much
Microsoft had earmarked for discounts on its consulting services in each
market: $65.7 million in the United States, $8.9 million in the
Asia-Pacific region, $13.7 million for Canada and Latin America, $8 million
for Japan, $5.4 million for Germany and $2.8 million for France. In
addition, $22 million was earmarked for other parts of Europe, the Middle
East and Africa. The accompanying table showed that the discounts
specifically targeted consulting services for servers. .
Sinneck said that the fund would be used to cover the difference between
the "discounted customer rate and the standard services billing rate
per hour." .
Reached this week, Larry Meadows, marketing manager for Microsoft's
services group at its Redmond, Washington, headquarters, said the fund
could be used "anywhere it needs to be. There's not really a limit to
say that you can use it only in certain geographies. We want to use it
worldwide." .
He said the funds would be used again in the company's next financial year,
which starts in July. .
Learning the letter of the lawIn 1998, Microsoft, which works with several
major law firms in Brussels, sought legal advice on the question of what
kind of discounts are legal under European law. . Microsoft asked Bill
Allan, a lawyer at Linklaters, a London-based firm, about the legality of a
particular discount program covering bulk sales to dealers. Their e-mail
exchange, a copy of which was obtained by the IHT, is significant both
because it shows Microsoft was concerned about discounts and because Allan
set out a broad interpretation on discounts in general. .
Allan said that according to European law, discounts should not be
exclusionary - "liable to exclude competitors or restrict their
expansion," he said. Discounts should also not differentiate
"without objective justification" among customers, Allan said. .
"If the European Commission has to take a formal position in relation
to any case," Allan said, "it states quite dogmatically that
market-dominant companies may only offer long-term discount schemes which
are justified by cost savings or other countervailing benefits." . In
other words, Microsoft would have to show that it could offer discounts
because they generated internal cost savings, rather than because the
discounts were designed to exclude competitors from the market. . The
"likelihood" that the European Commission would actually
challenge a discount, Allan wrote, depended on whether a competitor
actually issued a complaint to the commission. .
Two years later, the commission announced an antitrust investigation
against Microsoft, spurred by a complaint from Sun Microsystems, a
competitor in the server software market. . The complaint did not pertain
to discounts but something known in the computer industry as
interoperability: The European Commission investigated allegations that
Microsoft refused to supply essential information on its Windows operating
systems to competitors. Because Microsoft had "undisputed market
dominance" in operating systems for personal computers, the executive
panel said, competitors in the server market were at a disadvantage because
their servers could not operate properly with networks of PCs running on
Windows. . "All companies that want to do business in the European
Union must play by its antitrust rules," Mario Monti, the commissioner
in charge of competition, said when the investigation was announced.
"I'm determined to act for their rigorous enforcement." . A year
later, the commission accused Microsoft of violating antitrust law by
bundling its Media Player software into its operating system. Both
investigations are ongoing. Sources at the European Commission said a
decision in the cases would not be announced until late this year at the
earliest. .
Microsoft has said on several occasions that it is fully cooperating with
the commission in the antitrust investigations. But Allan's 1998 e-mail
offered clues as to how Microsoft might defend itself if accused of illegal
discounting. .
The European Commission "would regard Microsoft as
market-dominant" in the field of software for personal computers,
Allan said. . "Obviously, should any case be brought, we would contest
that assumption," Allan said. It was a remarkable insight into
Microsoft's possible legal strategy: Despite the widely recognized monopoly
of the Windows operating system, Microsoft would contest the idea that it
is dominant. . Allan seemed to acknowledge the difficulties in making this
claim. He said that "for the purpose of deciding our route
forward," the determination of market dominance was a "realistic
assumption." . International Herald Tribune

< < Back to Start of Article
Discounts for biggest users are aimed at keeping software rivals at bay

BRUSSELS More than 90 percent of the world's personal computers run on
Microsoft software. For Orlando Ayala, that was not enough. . Last summer,
Ayala, then the top sales executive at Microsoft Corp., sent an e-mail
titled "Microsoft Confidential" to senior managers laying out a
strategy to dissuade governments across the globe from choosing cheaper
alternatives to the ubiquitous Windows operating system. . Ayala's e-mail
told executives that if a deal involving governments or large institutions
looked doomed, they were authorized to draw from a special internal fund to
offer software at a steep discount, or free, if necessary. Steve Ballmer,
the Microsoft chief executive, was sent a copy of the e-mail. .
The memo, which focused on system software for desktop computers,
specifically targeted Linux, a still small but emerging competitor.
"Under NO circumstances lose against Linux," Ayala said. . This
memo as well as other e-mails and internal Microsoft documents obtained by
the International Herald Tribune offer a rare glimpse into the inner
workings of a company with so much cash - $43.4 billion, as of December -
that it can aggressively discount its products in a bid to protect its huge
market share amid the wreckage of the technology sector. .
The documents show the muscle that the world's largest software company is
prepared to use to protect its dominance, including a relatively benign
form of corporate spying and discounts to capture "big plays" - a
Microsoft term for deals involving the world's biggest clients. . Yet these
sales tactics also come with risks. The covert intelligence gathering -
including one case where a Microsoft employee attended a Linux trade show
pretending to be a consultant to an elementary school - raises questions
about whether Microsoft has pulled back from the aggressive business
practices that got it into so much trouble with antitrust regulators in the
1990s. .
Perhaps more importantly, certain discounts may run afoul of European
market regulators, who are currently investigating claims that Microsoft
violated antitrust laws. .
Discounting is a normal corporate practice. But under European law,
companies that hold a dominant market position, such as Microsoft, are
prohibited from offering discounts that are designed to block competitors
from the market. .
Microsoft has been concerned with the legality of its discounts in the
past, at one point consulting a London law firm on a specific discount
plan. .
But in an interview Wednesday, the chairman of Microsoft operations in
Europe, Africa and the Middle East, Jean-Philippe Courtois, defended the
use of the special fund described in Ayala's e-mail, saying it was part of
a strategy to be "competitive" and "relevant" in the
market for big government and educational deals. . "Linux is obviously
a key competitor," Courtois said. Rivals use similar tactics, he said.
.
Sun Microsystems Inc., for example, "is giving away StarOffice to
basically governments and schools," he said. The suite of programs
runs on both Windows and Linux systems. .
Courtois also said Microsoft sometimes gave away software to "very low
income countries." He cited a program where Microsoft donated software
in South Africa and helped train teachers to use it. . Ayala's memo says
the discounting fund could be used for "developed and developing
countries" but says an "initial focus" was being put on
Latin America, Africa, the Middle East, India and China. . In his e-mail,
Ayala focused on governments and large institutions. A separate memo
obtained by the IHT shows a discounting program for corporate customers
worldwide. Two days after Ayala sent his memo, Mike Sinneck, head of
Microsoft's services department, sent an e-mail giving details of what he
called Business Investment Funds, established to provide corporate clients
with discounts on the hourly rates charged by Microsoft's consulting
business. .
The memo said nearly $180 million had been allocated for this purpose in
the 2003 financial year, which ends in June; $140 million of that was
earmarked for consulting services for server software, where Microsoft has
a leading market share but still faces lively competition. . Servers are
the powerful computers corporations use to store data, manage Web sites or
perform other network tasks. The software that runs servers is the subject
of one of the two antitrust cases now open against Microsoft in the
European Union. European antitrust laws are generally more strict than
those of the United States. In broad terms, Microsoft is accused of
illegally leveraging its overwhelming dominance in the PC software market
into the server market. . Among the documents obtained by the IHT is an
e-mail from outside legal counsel to Microsoft that offers a precise
interpretation of EU law on the question of discounts, including his view
that short-term discounting would be more likely to escape EU scrutiny. The
lawyer's e-mail advised Microsoft that its discounts should not be
"discriminatory" among clients. The e-mail also said discounts
could not be designed to exclude competitors from the market. .
"Discounts are not per se unlawful," Charles Stark, a former
antitrust official at the U.S. Justice Department and a partner at Wilmer,
Cutler Pickering in Brussels, said in an interview. "It depends on the
market circumstances and how they use them and what their impact is."
. Stark, who has not seen the documents, added: "But pricing behavior
can be viewed differently by a dominant firm than by a nondominant
firm." . Asked whether the discounting program for server software
consulting was legal in Europe, given Microsoft's dominant position,
Courtois, the Microsoft executive, said consulting was a
"break-even" business for the company. .
"We are not a global services company," he said, adding at a
different time: "We need to compete against the big guys."
Courtois cited International Business Machines Corp. and Oracle Corp. as
companies with large consulting businesses, unlike Microsoft, which he said
was a "pure software company." .
Battling the 'open-source' threat The Microsoft documents show a particular
preoccupation among top managers with the so-called open-source movement,
made up of programmers who believe the software that runs computers should
be freely available. The code behind open-source software is available to
the public, allowing companies to customize their programs. This is in
stark contrast to Microsoft, which keeps most of its source code secret -
although governments and some corporations are increasingly allowed to view
the code, but not alter it. . Linux, the biggest open-source threat to
Microsoft, has a tiny share of the market for personal computer software.
But Linux was installed with 26 percent of the server hardware sold to
corporations last year, according to International Data Corp., a market
research company. Windows was shipped with about 44 percent of servers,
according to IDC. . The server market is one area where Linux has momentum.
As economic gloom persists in most developed countries, the use of Linux is
being encouraged by many governments, especially in Europe, as a cheaper
and perhaps more secure alternative to Windows software. The French
government, for example, has a Web site that recommends Linux systems for
its departments. .
Ballmer once referred to Linux's licensing as "a cancer that attaches
itself in an intellectual-property sense to everything it touches." .
In the face of this competition, the Microsoft documents show the
significant resources the company devotes to combat Linux, and the
unconventional tactics it sometimes uses. . Chris O'Rourke, a Microsoft
employee, has described attending Linux World, a trade fair in California,
where he "purported to be an independent computer consultant working
with several K12 school districts," according to his e-mail, which was
sent on Aug. 20 last year. K-12 schools include students from ages to 5 to
18. .
"Ha!" O'Rourke wrote in the e-mail to his colleagues, referring
to his assumed identity. "In general, people bought this without
question ... hook, line and sinker." .
O'Rourke said his goal was to glean intelligence about the competition. His
guise, he said, "got folks to open up and talk." O'Rourke did not
respond to a fax and voice-mail message seeking comment. . Another
employee, Todd Brix, said he attended a Linux conference in June 2001 in
San Jose, California, pretending to be an "ambivalent OEM."
Original equipment manufacturers, or OEMs, are companies such as
Hewlett-Packard Co. and Dell Computer Corp. that buy Windows software
licenses. .
Reached at his office Tuesday, Brix said that when attending such a show,
"you don't broadcast that you're a Microsoft person." . "You
don't disguise that fact," he said. "You just don't lead with
your chin." .
The Microsoft documents also show a sophisticated and complex lobbying
program aimed at getting governments on their side. A confidential document
titled "Open Source Software Government: World Wide Initiative"
outlines the company's lobbying objectives. . One aim, the document says,
is to "prevent adoption of procurement policies favoring OSS," or
open-source software. Legislators in several European countries, including
Denmark, France and Germany, have proposed laws that would encourage or
require government offices to adopt open-source software. .
Part of the company's strategy, the Microsoft document says, is to
emphasize to customers the pitfalls of the open-source movement. . The
document says Microsoft employees lobbied ministries in Germany, sought out
favorable coverage in the French press and built "alliances" with
opinion leaders in Denmark. .
But of all the tactics described in these documents, the two discount
programs appear to be the most aggressive - and perhaps most legally
questionable. .
A strategy to 'tip the scales'Ayala sent his memo at 8:17 a.m. on Tuesday,
July 16, 2002. In addition to Ballmer, the recipients included the heads of
major departments - Jim Allchin and Jeff Raikes, both vice presidents -
some of the company's top lawyers and the general managers of Microsoft
operations in Asia, Europe, Africa and the Middle East. . Ayala said in the
memo that in the "difficult economic environment," some
institutions and companies were focusing on cheaper software. . Ayala said,
"it is important that we have a way to address large PC purchases that
involve low-cost/no-cost competitors in the education (and government)
sectors, especially in emerging markets." . The solution, he said, was
to "tip the scales" toward Microsoft in these deals by using the
special fund that he called the "Education and Government Incentive
Program." .
The fund was to be used "only in deals we would lose otherwise,"
Ayala said. .
Ayala gave what he called an "example scenario" of a government
that was advocating using open-source software "in order to keep 'x'
dollars inside the country and save the taxpayers millions of
dollars." . In his example scenario, the government was considering
buying 50,000 PCs installed with locally produced software that cost $5 per
computer. (Microsoft software, by contrast, typically retails for hundreds
of dollars.) .
"In order to compete more effectively against Linux and other
providers on these deals, we can now leverage the Education and Government
incentive [EDGI] program to help tip the scales to MS in the deal,"
Ayala said. . The discounts were "not to exceed" the royalties
that Microsoft received from the makers of the PCs, he said. In other
words, managers could give away the software free, if necessary, but were
not authorized to offer a discount amounting to more than Microsoft was
actually receiving in royalties. .
The "effectiveness" of the fund would be evaluated at three-month
intervals. .
When he wrote the memo, Ayala was the No. 3 executive at Microsoft, in
charge of sales and marketing and responsible for roughly 22,000 of the
company's more than 50,000 employees. . In March, Ayala was transferred to
lead a new division that focuses on small and medium-sized companies. This
new push is one of Microsoft's top priorities, the company has said. Ayala
was not available for comment. . Serving up discounts on consultingAt 9:08
a.m. on July 18, two days after Ayala sent his e-mail, Sinneck sent his
memo. It was sent to a handful of the top managers in Microsoft's
consulting business. . The memo included a table that showed how much
Microsoft had earmarked for discounts on its consulting services in each
market: $65.7 million in the United States, $8.9 million in the
Asia-Pacific region, $13.7 million for Canada and Latin America, $8 million
for Japan, $5.4 million for Germany and $2.8 million for France. In
addition, $22 million was earmarked for other parts of Europe, the Middle
East and Africa. The accompanying table showed that the discounts
specifically targeted consulting services for servers. .
Sinneck said that the fund would be used to cover the difference between
the "discounted customer rate and the standard services billing rate
per hour." .
Reached this week, Larry Meadows, marketing manager for Microsoft's
services group at its Redmond, Washington, headquarters, said the fund
could be used "anywhere it needs to be. There's not really a limit to
say that you can use it only in certain geographies. We want to use it
worldwide." .
He said the funds would be used again in the company's next financial year,
which starts in July. .
Learning the letter of the lawIn 1998, Microsoft, which works with several
major law firms in Brussels, sought legal advice on the question of what
kind of discounts are legal under European law. . Microsoft asked Bill
Allan, a lawyer at Linklaters, a London-based firm, about the legality of a
particular discount program covering bulk sales to dealers. Their e-mail
exchange, a copy of which was obtained by the IHT, is significant both
because it shows Microsoft was concerned about discounts and because Allan
set out a broad interpretation on discounts in general. .
Allan said that according to European law, discounts should not be
exclusionary - "liable to exclude competitors or restrict their
expansion," he said. Discounts should also not differentiate
"without objective justification" among customers, Allan said. .
"If the European Commission has to take a formal position in relation
to any case," Allan said, "it states quite dogmatically that
market-dominant companies may only offer long-term discount schemes which
are justified by cost savings or other countervailing benefits." . In
other words, Microsoft would have to show that it could offer discounts
because they generated internal cost savings, rather than because the
discounts were designed to exclude competitors from the market. . The
"likelihood" that the European Commission would actually
challenge a discount, Allan wrote, depended on whether a competitor
actually issued a complaint to the commission. .
Two years later, the commission announced an antitrust investigation
against Microsoft, spurred by a complaint from Sun Microsystems, a
competitor in the server software market. . The complaint did not pertain
to discounts but something known in the computer industry as
interoperability: The European Commission investigated allegations that
Microsoft refused to supply essential information on its Windows operating
systems to competitors. Because Microsoft had "undisputed market
dominance" in operating systems for personal computers, the executive
panel said, competitors in the server market were at a disadvantage because
their servers could not operate properly with networks of PCs running on
Windows. . "All companies that want to do business in the European
Union must play by its antitrust rules," Mario Monti, the commissioner
in charge of competition, said when the investigation was announced.
"I'm determined to act for their rigorous enforcement." . A year
later, the commission accused Microsoft of violating antitrust law by
bundling its Media Player software into its operating system. Both
investigations are ongoing. Sources at the European Commission said a
decision in the cases would not be announced until late this year at the
earliest. .
Microsoft has said on several occasions that it is fully cooperating with
the commission in the antitrust investigations. But Allan's 1998 e-mail
offered clues as to how Microsoft might defend itself if accused of illegal
discounting. .
The European Commission "would regard Microsoft as
market-dominant" in the field of software for personal computers,
Allan said. . "Obviously, should any case be brought, we would contest
that assumption," Allan said. It was a remarkable insight into
Microsoft's possible legal strategy: Despite the widely recognized monopoly
of the Windows operating system, Microsoft would contest the idea that it
is dominant. . Allan seemed to acknowledge the difficulties in making this
claim. He said that "for the purpose of deciding our route
forward," the determination of market dominance was a "realistic
assumption." . International Herald Tribune
Discounts for biggest users are aimed at keeping software rivals at bay

BRUSSELS More than 90 percent of the world's personal computers run on
Microsoft software. For Orlando Ayala, that was not enough. . Last summer,
Ayala, then the top sales executive at Microsoft Corp., sent an e-mail
titled "Microsoft Confidential" to senior managers laying out a
strategy to dissuade governments across the globe from choosing cheaper
alternatives to the ubiquitous Windows operating system. . Ayala's e-mail
told executives that if a deal involving governments or large institutions
looked doomed, they were authorized to draw from a special internal fund to
offer software at a steep discount, or free, if necessary. Steve Ballmer,
the Microsoft chief executive, was sent a copy of the e-mail. .
The memo, which focused on system software for desktop computers,
specifically targeted Linux, a still small but emerging competitor.
"Under NO circumstances lose against Linux," Ayala said. . This
memo as well as other e-mails and internal Microsoft documents obtained by
the International Herald Tribune offer a rare glimpse into the inner
workings of a company with so much cash - $43.4 billion, as of December -
that it can aggressively discount its products in a bid to protect its huge
market share amid the wreckage of the technology sector. .
The documents show the muscle that the world's largest software company is
prepared to use to protect its dominance, including a relatively benign
form of corporate spying and discounts to capture "big plays" - a
Microsoft term for deals involving the world's biggest clients. . Yet these
sales tactics also come with risks. The covert intelligence gathering -
including one case where a Microsoft employee attended a Linux trade show
pretending to be a consultant to an elementary school - raises questions
about whether Microsoft has pulled back from the aggressive business
practices that got it into so much trouble with antitrust regulators in the
1990s. .
Perhaps more importantly, certain discounts may run afoul of European
market regulators, who are currently investigating claims that Microsoft
violated antitrust laws. .
Discounting is a normal corporate practice. But under European law,
companies that hold a dominant market position, such as Microsoft, are
prohibited from offering discounts that are designed to block competitors
from the market. .
Microsoft has been concerned with the legality of its discounts in the
past, at one point consulting a London law firm on a specific discount
plan. .
But in an interview Wednesday, the chairman of Microsoft operations in
Europe, Africa and the Middle East, Jean-Philippe Courtois, defended the
use of the special fund described in Ayala's e-mail, saying it was part of
a strategy to be "competitive" and "relevant" in the
market for big government and educational deals. . "Linux is obviously
a key competitor," Courtois said. Rivals use similar tactics, he said.
.
Sun Microsystems Inc., for example, "is giving away StarOffice to
basically governments and schools," he said. The suite of programs
runs on both Windows and Linux systems. .
Courtois also said Microsoft sometimes gave away software to "very low
income countries." He cited a program where Microsoft donated software
in South Africa and helped train teachers to use it. . Ayala's memo says
the discounting fund could be used for "developed and developing
countries" but says an "initial focus" was being put on
Latin America, Africa, the Middle East, India and China. . In his e-mail,
Ayala focused on governments and large institutions. A separate memo
obtained by the IHT shows a discounting program for corporate customers
worldwide. Two days after Ayala sent his memo, Mike Sinneck, head of
Microsoft's services department, sent an e-mail giving details of what he
called Business Investment Funds, established to provide corporate clients
with discounts on the hourly rates charged by Microsoft's consulting
business. .
The memo said nearly $180 million had been allocated for this purpose in
the 2003 financial year, which ends in June; $140 million of that was
earmarked for consulting services for server software, where Microsoft has
a leading market share but still faces lively competition. . Servers are
the powerful computers corporations use to store data, manage Web sites or
perform other network tasks. The software that runs servers is the subject
of one of the two antitrust cases now open against Microsoft in the
European Union. European antitrust laws are generally more strict than
those of the United States. In broad terms, Microsoft is accused of
illegally leveraging its overwhelming dominance in the PC software market
into the server market. . Among the documents obtained by the IHT is an
e-mail from outside legal counsel to Microsoft that offers a precise
interpretation of EU law on the question of discounts, including his view
that short-term discounting would be more likely to escape EU scrutiny. The
lawyer's e-mail advised Microsoft that its discounts should not be
"discriminatory" among clients. The e-mail also said discounts
could not be designed to exclude competitors from the market. .
"Discounts are not per se unlawful," Charles Stark, a former
antitrust official at the U.S. Justice Department and a partner at Wilmer,
Cutler Pickering in Brussels, said in an interview. "It depends on the
market circumstances and how they use them and what their impact is."
. Stark, who has not seen the documents, added: "But pricing behavior
can be viewed differently by a dominant firm than by a nondominant
firm." . Asked whether the discounting program for server software
consulting was legal in Europe, given Microsoft's dominant position,
Courtois, the Microsoft executive, said consulting was a
"break-even" business for the company. .
"We are not a global services company," he said, adding at a
different time: "We need to compete against the big guys."
Courtois cited International Business Machines Corp. and Oracle Corp. as
companies with large consulting businesses, unlike Microsoft, which he said
was a "pure software company." .
Battling the 'open-source' threat The Microsoft documents show a particular
preoccupation among top managers with the so-called open-source movement,
made up of programmers who believe the software that runs computers should
be freely available. The code behind open-source software is available to
the public, allowing companies to customize their programs. This is in
stark contrast to Microsoft, which keeps most of its source code secret -
although governments and some corporations are increasingly allowed to view
the code, but not alter it. . Linux, the biggest open-source threat to
Microsoft, has a tiny share of the market for personal computer software.
But Linux was installed with 26 percent of the server hardware sold to
corporations last year, according to International Data Corp., a market
research company. Windows was shipped with about 44 percent of servers,
according to IDC. . The server market is one area where Linux has momentum.
As economic gloom persists in most developed countries, the use of Linux is
being encouraged by many governments, especially in Europe, as a cheaper
and perhaps more secure alternative to Windows software. The French
government, for example, has a Web site that recommends Linux systems for
its departments. .
Ballmer once referred to Linux's licensing as "a cancer that attaches
itself in an intellectual-property sense to everything it touches." .
In the face of this competition, the Microsoft documents show the
significant resources the company devotes to combat Linux, and the
unconventional tactics it sometimes uses. . Chris O'Rourke, a Microsoft
employee, has described attending Linux World, a trade fair in California,
where he "purported to be an independent computer consultant working
with several K12 school districts," according to his e-mail, which was
sent on Aug. 20 last year. K-12 schools include students from ages to 5 to
18. .
"Ha!" O'Rourke wrote in the e-mail to his colleagues, referring
to his assumed identity. "In general, people bought this without
question ... hook, line and sinker." .
O'Rourke said his goal was to glean intelligence about the competition. His
guise, he said, "got folks to open up and talk." O'Rourke did not
respond to a fax and voice-mail message seeking comment. . Another
employee, Todd Brix, said he attended a Linux conference in June 2001 in
San Jose, California, pretending to be an "ambivalent OEM."
Original equipment manufacturers, or OEMs, are companies such as
Hewlett-Packard Co. and Dell Computer Corp. that buy Windows software
licenses. .
Reached at his office Tuesday, Brix said that when attending such a show,
"you don't broadcast that you're a Microsoft person." . "You
don't disguise that fact," he said. "You just don't lead with
your chin." .
The Microsoft documents also show a sophisticated and complex lobbying
program aimed at getting governments on their side. A confidential document
titled "Open Source Software Government: World Wide Initiative"
outlines the company's lobbying objectives. . One aim, the document says,
is to "prevent adoption of procurement policies favoring OSS," or
open-source software. Legislators in several European countries, including
Denmark, France and Germany, have proposed laws that would encourage or
require government offices to adopt open-source software. .
Part of the company's strategy, the Microsoft document says, is to
emphasize to customers the pitfalls of the open-source movement. . The
document says Microsoft employees lobbied ministries in Germany, sought out
favorable coverage in the French press and built "alliances" with
opinion leaders in Denmark. .
But of all the tactics described in these documents, the two discount
programs appear to be the most aggressive - and perhaps most legally
questionable. .
A strategy to 'tip the scales'Ayala sent his memo at 8:17 a.m. on Tuesday,
July 16, 2002. In addition to Ballmer, the recipients included the heads of
major departments - Jim Allchin and Jeff Raikes, both vice presidents -
some of the company's top lawyers and the general managers of Microsoft
operations in Asia, Europe, Africa and the Middle East. . Ayala said in the
memo that in the "difficult economic environment," some
institutions and companies were focusing on cheaper software. . Ayala said,
"it is important that we have a way to address large PC purchases that
involve low-cost/no-cost competitors in the education (and government)
sectors, especially in emerging markets." . The solution, he said, was
to "tip the scales" toward Microsoft in these deals by using the
special fund that he called the "Education and Government Incentive
Program." .
The fund was to be used "only in deals we would lose otherwise,"
Ayala said. .
Ayala gave what he called an "example scenario" of a government
that was advocating using open-source software "in order to keep 'x'
dollars inside the country and save the taxpayers millions of
dollars." . In his example scenario, the government was considering
buying 50,000 PCs installed with locally produced software that cost $5 per
computer. (Microsoft software, by contrast, typically retails for hundreds
of dollars.) .
"In order to compete more effectively against Linux and other
providers on these deals, we can now leverage the Education and Government
incentive [EDGI] program to help tip the scales to MS in the deal,"
Ayala said. . The discounts were "not to exceed" the royalties
that Microsoft received from the makers of the PCs, he said. In other
words, managers could give away the software free, if necessary, but were
not authorized to offer a discount amounting to more than Microsoft was
actually receiving in royalties. .
The "effectiveness" of the fund would be evaluated at three-month
intervals. .
When he wrote the memo, Ayala was the No. 3 executive at Microsoft, in
charge of sales and marketing and responsible for roughly 22,000 of the
company's more than 50,000 employees. . In March, Ayala was transferred to
lead a new division that focuses on small and medium-sized companies. This
new push is one of Microsoft's top priorities, the company has said. Ayala
was not available for comment. . Serving up discounts on consultingAt 9:08
a.m. on July 18, two days after Ayala sent his e-mail, Sinneck sent his
memo. It was sent to a handful of the top managers in Microsoft's
consulting business. . The memo included a table that showed how much
Microsoft had earmarked for discounts on its consulting services in each
market: $65.7 million in the United States, $8.9 million in the
Asia-Pacific region, $13.7 million for Canada and Latin America, $8 million
for Japan, $5.4 million for Germany and $2.8 million for France. In
addition, $22 million was earmarked for other parts of Europe, the Middle
East and Africa. The accompanying table showed that the discounts
specifically targeted consulting services for servers. .
Sinneck said that the fund would be used to cover the difference between
the "discounted customer rate and the standard services billing rate
per hour." .
Reached this week, Larry Meadows, marketing manager for Microsoft's
services group at its Redmond, Washington, headquarters, said the fund
could be used "anywhere it needs to be. There's not really a limit to
say that you can use it only in certain geographies. We want to use it
worldwide." .
He said the funds would be used again in the company's next financial year,
which starts in July. .
Learning the letter of the lawIn 1998, Microsoft, which works with several
major law firms in Brussels, sought legal advice on the question of what
kind of discounts are legal under European law. . Microsoft asked Bill
Allan, a lawyer at Linklaters, a London-based firm, about the legality of a
particular discount program covering bulk sales to dealers. Their e-mail
exchange, a copy of which was obtained by the IHT, is significant both
because it shows Microsoft was concerned about discounts and because Allan
set out a broad interpretation on discounts in general. .
Allan said that according to European law, discounts should not be
exclusionary - "liable to exclude competitors or restrict their
expansion," he said. Discounts should also not differentiate
"without objective justification" among customers, Allan said. .
"If the European Commission has to take a formal position in relation
to any case," Allan said, "it states quite dogmatically that
market-dominant companies may only offer long-term discount schemes which
are justified by cost savings or other countervailing benefits." . In
other words, Microsoft would have to show that it could offer discounts
because they generated internal cost savings, rather than because the
discounts were designed to exclude competitors from the market. . The
"likelihood" that the European Commission would actually
challenge a discount, Allan wrote, depended on whether a competitor
actually issued a complaint to the commission. .
Two years later, the commission announced an antitrust investigation
against Microsoft, spurred by a complaint from Sun Microsystems, a
competitor in the server software market. . The complaint did not pertain
to discounts but something known in the computer industry as
interoperability: The European Commission investigated allegations that
Microsoft refused to supply essential information on its Windows operating
systems to competitors. Because Microsoft had "undisputed market
dominance" in operating systems for personal computers, the executive
panel said, competitors in the server market were at a disadvantage because
their servers could not operate properly with networks of PCs running on
Windows. . "All companies that want to do business in the European
Union must play by its antitrust rules," Mario Monti, the commissioner
in charge of competition, said when the investigation was announced.
"I'm determined to act for their rigorous enforcement." . A year
later, the commission accused Microsoft of violating antitrust law by
bundling its Media Player software into its operating system. Both
investigations are ongoing. Sources at the European Commission said a
decision in the cases would not be announced until late this year at the
earliest. .
Microsoft has said on several occasions that it is fully cooperating with
the commission in the antitrust investigations. But Allan's 1998 e-mail
offered clues as to how Microsoft might defend itself if accused of illegal
discounting. .
The European Commission "would regard Microsoft as
market-dominant" in the field of software for personal computers,
Allan said. . "Obviously, should any case be brought, we would contest
that assumption," Allan said. It was a remarkable insight into
Microsoft's possible legal strategy: Despite the widely recognized monopoly
of the Windows operating system, Microsoft would contest the idea that it
is dominant. . Allan seemed to acknowledge the difficulties in making this
claim. He said that "for the purpose of deciding our route
forward," the determination of market dominance was a "realistic
assumption." . International Herald Tribune
Discounts for biggest users are aimed at keeping software rivals at bay

BRUSSELS More than 90 percent of the world's personal computers run on
Microsoft software. For Orlando Ayala, that was not enough. . Last summer,
Ayala, then the top sales executive at Microsoft Corp., sent an e-mail
titled "Microsoft Confidential" to senior managers laying out a
strategy to dissuade governments across the globe from choosing cheaper
alternatives to the ubiquitous Windows operating system. . Ayala's e-mail
told executives that if a deal involving governments or large institutions
looked doomed, they were authorized to draw from a special internal fund to
offer software at a steep discount, or free, if necessary. Steve Ballmer,
the Microsoft chief executive, was sent a copy of the e-mail. .
The memo, which focused on system software for desktop computers,
specifically targeted Linux, a still small but emerging competitor.
"Under NO circumstances lose against Linux," Ayala said. . This
memo as well as other e-mails and internal Microsoft documents obtained by
the International Herald Tribune offer a rare glimpse into the inner
workings of a company with so much cash - $43.4 billion, as of December -
that it can aggressively discount its products in a bid to protect its huge
market share amid the wreckage of the technology sector. .
The documents show the muscle that the world's largest software company is
prepared to use to protect its dominance, including a relatively benign
form of corporate spying and discounts to capture "big plays" - a
Microsoft term for deals involving the world's biggest clients. . Yet these
sales tactics also come with risks. The covert intelligence gathering -
including one case where a Microsoft employee attended a Linux trade show
pretending to be a consultant to an elementary school - raises questions
about whether Microsoft has pulled back from the aggressive business
practices that got it into so much trouble with antitrust regulators in the
1990s. .
Perhaps more importantly, certain discounts may run afoul of European
market regulators, who are currently investigating claims that Microsoft
violated antitrust laws. .

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