Henry Blodget offers an interesting analysis of Microsoft’s future business prospects today. He argues that the company is making a colossal mistake in trying to compete for the online consumer applications market, an error in judgment that, he says, dooms its proposed acquisition of Yahoo to be “a disaster.” Microsoft should not be worried about competing with Google and others for free, ad-supported consumer software served up from the cloud, he argues, because the consumer software market is trivial to its business:
In short, the threat to Microsoft from Google et al is not “free software.” Consumer software is going free, but Microsoft doesn’t make much money from consumers.
Rather, argues Blodget, Microsoft should focus wholly on the business market, in particular on shifting to supplying web apps to corporations for a subscription fee as Salesforce.com does and as Google does with its premium edition of Google Apps. For Microsoft, cloud computing is all about “paid desktop licenses giving way to paid web-based licenses.” In the future, “today’s stark differentiation between the ‘Corporate’ and ‘Consumer’ markets doesn’t change. ‘Advertising,’ moreover, has nothing to do with it – except on the Consumer side, which is far less important a market to Microsoft than it is to Google and Yahoo.”
Blodget is right to point out the big differences between supplying consumer applications and supplying business apps. But he’s very much mistaken in dismissing the importance of the consumer market to Microsoft.
For one thing, Blodget is wrong to say that Microsoft “doesn’t make much money from consumers.” The company makes a whole lot of money from consumers. Microsoft’s largest single business unit, in terms of sales, is what it calls, somewhat misleadingly, “Microsoft Business Division,” which is essentially the Microsoft Office business. MBD took in $16.4 billion in sales in fiscal 2007, compared with $14.8 billion for the Windows PC business and $11.2 billion for the “server and tools” business, the other two largest units. Fully 25% of the MBD revenues – about $4 billion – came from sales of Office to consumers. That means that consumer sales of Office alone represent about 8% of the company’s overall revenues (and that doesn’t include the significant revenues from consumer sales of Windows or other consumer software.)
The revenues from consumer sales of Office are not only substantial; they also help provide stability to the division’s, and the company’s, income and earnings. In the past, cyclical weaknesses in the business market have been tempered by strength in the consumer market.
But the importance of the consumer market to Microsoft goes well beyond money. There is no bright line between the use of Office in businesses and the use of Office in homes and schools. People’s use of Office in their personal lives reinforces their use of Office in their professional lives, and vice versa. If people move away from using the Office programs at home and, particularly, at school, and instead adopt free alternatives like Google Apps or Zoho or Adobe’s Buzzword, they also become less likely to require Office when at work. Lose the student, and eventually you may lose the professional worker that the student becomes.
In an article on the rise of web apps in today’s New York Times (in which I’m quoted), Matt Richtel tells a story that is sure to send at least a small chill down Microsoft’s spine:
Kevin Twohy, 20, a mathematics student at U.C.L.A., uses a free service on Facebook to store and share photos, a program called Picnik to edit the images, and Gmail.
For his English class last semester, he wrote a term paper about William Blake using Google’s free word processing software, even though Microsoft Office had come loaded on his personal computer.
The advantage of the Google program, he said, was that it allowed him to keep his information on Google’s servers so that it was accessible at any computer, whether he was working at his fraternity, a coffee shop, a campus computer bank or the library. The experience, he said, has persuaded him not to pay money for software.
“I don’t ever see myself buying a copy of Office,” he said.
Blodget is correct in saying that “cloud computing appears to be a classic disruptive technology.” What he misses is that such disruptions start at the low end of the market – in this case with the individuals, sole proprietors, colleges, and small businesses that find free web apps an attractive alternative to Office and aren’t averse to the ads that go along with those apps.
As Richtel points out, Microsoft has been slashing the price that it charges home users and, in particular, students for Office. Companies don’t cut prices for no reason, and the Office cuts are driven at least in part by Microsoft’s recognition that individuals have new, free options when it comes to word processing, spreadsheets, calendars, and other such popular programs. Microsoft knows it has to keep a grip on the consumer market even as it builds up its capacity to serve business apps from the cloud. To take Blodget’s advice and ignore the consumer market would be, well, a disaster.