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Microsoft Angles To Outdo Rivals

But investigation into software giant's trade practices could blunt its competitive edge

WHEN IBM Corporation announced its latest wave of downsizing last week, the news might have arrived at Microsoft Corporation a bit like the Ghost of Christmas Future that visited Ebeneezer Scrooge.

Microsoft, now the brightest star in the computer industry, must hope that it can avoid being dimmed in the 1990s the way IBM was in the decade just past.

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In this industry of revolutions, the leading maker of software has shown a canny ability to position itself in the vanguard - even if it means tenaciously fighting its way up from behind.

"Over the next three to five years, there's probably very little ... that would seriously degrade" Microsoft's position, predicts John Donovan, senior analyst with Workgroup Technologies in Hampton, N.H.

The company, far from resting on its laurels, is spending $150 million a year to upgrade its key product, the operating systems that serve as a foundation on which all other computer software runs.

Ironically, it was IBM itself that vaulted Microsoft into its leadership role, choosing William Gates's fledgling company to provide the operating systems for its personal computers. Now about 100 million personal computers (both IBMs and clones) run Microsoft's DOS operating system.

In a reversal that would have seemed inconceivable when IBM shipped its first PC in 1982, Big Blue's stock-market value is not much bigger than Microsoft's - $29 billion to $23 billion. The Redmond, Wash., company employs 12,000 people to IBM's 300,000.

With revenue pouring in from DOS and Windows (an add-on product that gives users a simpler, graphical environment to work in), what can slow Microsoft down?

The most immediate threat comes from the Federal Trade Commission, the government agency that investigates alleged unfair trade practices.

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According to FTC:Watch, a newsletter, staff lawyers have proposed that the commission seek a court injunction against certain marketing practices. Microsoft gives discounts to computer manufacturers that agree to pay for its operating-system software based on the number of PCs they make, whether or not all the PCs run on DOS. This arrangement discourages companies from installing any other operating system.

Novell Inc., another large software maker, has had little success selling an operating system called DR DOS that competes with Microsoft's MS DOS.

If Microsoft's marketing technique was banned, "it wouldn't have that much affect on the bottom line," says Brent Williams, an analyst with International Data Corporation.

However, a federal court injunction, which would be unusual in a case of this sort, could open the way for affected companies to seek restitution from Microsoft, according to some legal experts.

It is unclear what action, if any, the FTC will take. In an extreme case the commission could split Microsoft in two, with one part for operating systems and the other for applications.

Some software companies charge that Microsoft has an unfair advantage in writing software applications (such as word-processing) for its own operating system.

"It's a fact that we're one company," acknowledges Paul Maritz, senior vice president of Microsoft's operating-systems division. Applications people and systems people have the "opportunity to bump into one another" in the maze-like halls of Microsoft's tree-studded campus. But he says the company goes out of its way to help outside software developers, giving them detailed information as far as two years in advance of its intended delivery date for new operating systems.

The FTC decision is expected early in the new year.

Despite the current concern that Microsoft is becoming too powerful, just as IBM was thought to be a few years ago, "there's a lot more happening in the world than they could ever be able to control," Mr. Donovan says.

In Donovan's view, far from building on its operating-system forte to dominate the applications market, the company will struggle to keep up with the explosive pace of change in the industry. Breaking up the company, he says, "would just be reorganizing chaos."

Although it is true that Microsoft is not the leader in any of the key applications markets, it has used its marketing clout to build increasingly strong positions in important areas of software, including word processing, spreadsheets, and most recently databases and network management.

Donovan and other observers cite several long-term challenges for the company:

* Managing its rapid growth while keeping the entreprenurial character that has helped it prosper.

* Pushing successfully into the fast-growing area of networked computing. The company has been hugely successful with PC software, but has not made significant inroads in the market for linking PCs and more powerful computers together in the workplace. A new high-performance operating system known as Windows NT is designed to reach this goal (see related story).

* Maintaining its edge in PC operating systems.

For now, the last goal appears to be securely in hand. Windows has been selling about a million copies a month, far more than IBM's OS/2 product.

But "there's nothing magical about Windows," Mr. Maritz says. Hence the prodigious effort to keep upgrades coming out so that customers will not be tempted away by competitors.

Maritz says the company aims to create an operating environment in which applications are increasingly internalized, thus taking user-friendliness to a new level. Richard Tong, marketing director for Windows, explains that the next version will allow a more intuitive use, comparable to writing on a notepad to create a chart, rather than negotiating the task using chart-making software.

By continuously innovating, Microsoft hopes to keep a step ahead of rivals. Competitors such as Sun Microsystems envision applications that are easy to transfer from one operating system to another, so that users will not opt for Windows simply because of the wider choice of accompanying software.

IBM is working with Apple Computer on an operating system called Taligent that promises to make it much simpler to write new software. Users could easily create their own applications, for example. This hoped-for revolution will not even begin before the middle of the decade.

Microsoft does not want to get outmanuevered.

"The trick is to carry both users and applications along with you" as the Windows operating system is improved, Maritz says. This means carving a path that is both distinct from competing systems and appealing to customers so that they will be unlikely to switch.

As Microsoft presses forward in operating systems, applications, and numerous cutting-edge areas such as software for interactive television, managing its rapid growth "is not a trivial task," Donovan says. He praises the company's policy of empowering innovative employees.

"Will we always be on top? I don't know," says Nathan Myhrvold, Microsoft's head of advanced technology. "I think we're in a good position and we're going to try as hard as we can."

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