The economics of Microsoft's kill switch

The economics of Microsoft's kill switch

Summary: Would you sacrifice $10 million in sales to prevent $1 billion in software piracy? How about $100 million?

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Would you sacrifice $10 million in sales to prevent $1 billion in software piracy? How about $100 million? How many customers would you annoy?

Interesting questions with no hard and fast answers. Those are the types of questions Microsoft (the figures above are only there for illustration purposes) has to ponder with its Windows Genuine Advantage and Office Genuine Advantage plans. A behind back-the-envelope calculation illustrates why it makes sense for Microsoft to risk irking techies with its piracy battle.

For the record, there is no magic formula for determining how many customers Microsoft can afford to lose if it really bombs with its efforts to put a kill switch on Vista and Office. I've been checking with as many business professors as I can find to no avail. What we do know: The losses due to software piracy are large. The Business Software Alliance reports that the U.S. lost $6.9 billion to software piracy in 2005.

Now let's assume that Microsoft's losses to piracy are 20%, or $1.38 billion, of that big figure. That's a lot of dough on the other end of scale. To balance that equation Microsoft's kill switch program would have to be such an annoyance that $1.38 billion in sales would walk out the door. That's not likely given the headache required to totally ditch Windows or Office.

Microsoft doesn't disclose its losses due to piracy. It did say this in a regulatory filing Oct. 26:

"We may not be able to protect our intellectual property rights against piracy, infringement of our patents by third parties, or declining legal protection for intellectual property. We defend our intellectual property rights and combat unlicensed copying and use of software and intellectual property rights through a variety of techniques. Preventing unauthorized use or infringement of our rights is difficult. Piracy of our products represents a loss of revenue to us. While this adversely affects U.S. revenue, the impact on revenue from outside the United States is more significant, particularly in countries where laws are less protective of intellectual property rights. Similarly, the absence of harmonized patent laws makes it more difficult to ensure consistent respect for patent rights. Future legal changes could make this even more challenging. Reductions in the legal protection for software intellectual property rights or compliance with additional intellectual property obligations impacting the rights of software developers could both adversely affect revenue."

Bottom line: The losses due to piracy are a little more than a rounding error to Microsoft. Will Microsoft's anti-piracy policy have some well publicized hiccups? You bet. But those hiccups will actually have to cost Microsoft money--equivalent to its software piracy losses--for the software giant to make a change. What would you do to protect your product?

In the meantime, it's unclear what form Microsoft's program will ultimately take. As long as Microsoft has a remediation program for large corporate customers snared in a kill switch snafu the software giant should come out ahead.

Topics: Legal, Microsoft, Piracy, Security, Software

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58 comments
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  • Interesting question

    but i have a few myself

    1 How much of the pirated software are Company use versus home-user

    2 what could be more profitable find and suit business that user pirated software versus the home-user who use pirated version

    3 if microsoft product small or no fee tune down version of its os and office suite to prevent piracy for home-user.

    4 Could this witch hunt hurt MS more that piracy itself ....

    5 could this witch hunt push home-user toward linux or bsd ( please reader if my old mother can set-up linux ANYBODY CAN) period .

    I personally think that its gonna turn again MS all this will turn into bad PR big time .

    Theres nothing that justify this kind of behaviors toward client EVER.
    Quebec-french
  • good points

    I'm not sure I see any black eye from WGA really impacting MSFT's financials. At least not yet.
    Larry Dignan
  • Need for accurate piracy loss numbers

    Larry Dignan quotes the Business Software Alliance number for losses due to Piracy. As the article states, much of this 7 billion dollar number is from outside the US and thus less controllable. Further, some piracy doesn't mean lost sales since many students make scant use of pirated software and couldn't afford it anyway. Also, the BSA has an interest in choosing high end estimates. Thus a low end estimate would be useful in forming a reasonable estimate of how much is really lost and how much Microsoft and US Government resources are worth directing to the problem. Some "shrinkage" occurs in any industry, and the number quoted here, about 1.4 billion for Microsoft is certainly high. It would be significant even at half that number. Yet taking trade association numbers at face value is always fraught with risk.
    jdubow@...
    • Piracy numbers don't add up

      Great article here on the Australian Government investigating these statistics and finding them to be totally bogus:

      http://tinyurl.com/svhx4
      The draft of the institute's intellectual property crime report, sighted by The Australian shows that copyright owners "failed to explain" how they reached financial loss statistics used in lobbying activities and court cases.

      Figures for 2005 from the global Business Software Association showing $361 million a year of lost sales in Australia are "unverified and epistemologically unreliable", the report says.

      Copyright owners often use street-value estimates to calculate losses, but this assumes that every person who bought pirated goods would otherwise have paid for a legitimate item, the report notes.
      tic swayback
      • That's probably the single biggest fallacy.

        And every single purveyor of copyrighted material tries to get us to buy into it. They never take into account how many of those "pirated" copies of their product would never have been bought and paid for if they weren't available for free. You can't count it as money lost if you were never going to make it in the first place!
        Ginevra
        • Opportunity loss does not equal revenue loss

          The estimate of losses to Piracy (because of other alternatives like open office) really amounts to mostly just opportunity loss, not a loss of revenue that you most likely would never make.
          garyd01@...
          • Next - Oops! Yesterday ...

            Balmer is sabre-rattling that ux is co$ting him money, so - of course, blow everyone who is not M$$$$$ out of the water. That'$ hi$ only mean$ of doing bu$$$$$$$ine$$$$$.
            Media-Ted@...
    • Never happen. They don't want real data known...

      NT
      BitTwiddler
  • How close can I get to that fire before...ouch!

    Next time MS talks about Linux cost of ownership, think about the cost of having MS shut off your servers due to a licensing screwup.

    The Edge... there is no honest way to explain it because the only people who really know where it is are the ones who have gone over. Hunter S. Thompson
    CurmudgeonlyTroll
  • Digging themselves a hole?

    Personally, I think the more they make windows a) More difficult to get hold of, b) More difficult to use and c) More difficult to put up with, they're just digging themselves a hole.

    I hate the direction of distrust that MS is taking, and it's lead to be say 'no more' and thus I'm switching to Linux, and I'm not the only one either. I'm convincing my friends to take similar steps, and after reading about what Vista brings, most don't take much convincing. It's getting to the point where Linux is coming as a good alternative now, and seeing as Vista changes the UI, now's a good time to make the change - you're going to change anyway, why not make the right change? You may say that Linux is only a solution for the 'techies', but who do the non-technological people normally go to for advice?

    Plus, as things get more difficult to use, having to jump through more hopes to prove your legality, to prove you're honest, it's becoming a pain and I think that a lot of people are going to find it crossing the line. Windows Genuine Advantage already fails a lot of the time at detecting properly, I doubt Vista'll bring anything different - and each customer annoyed is a potential customer lost.

    Furthermore, as much as they might hate it, the pirate market of windows helps keep windows popular and helps them keep their monopoly. If it becomes so difficult to pirate, it won't encourage the majority of them to buy, most will switch to free alternatives. And more people on free alternatives = more software/games coming out for those operating systems.

    It's also been rumoured that MS is trying to head for a subscription based model in the future - afterall, what more can they add to windows? Eye candy and a few security features were the best they could manage for Vista, without that people won't upgrade. After that, there's very little, so it makes sense to change more to a subscription based model - afterall, people pay per month for MMORPGs, why not OS's? Keep paying if you want your patches and security fixes...

    The result of this in my opinion is MS digging themselves into a hole, but the direction they're heading in, and I used to be a "defender" of MS, I'm not going to be sorry to see it go that way (which hopefully it will)
    Kaleld
    • It Happened to me

      I installed a new motherboard in a friend's
      computer. After booting the system, I got a
      Windows activation notice. When I called
      Microsoft's toll free number to remedy the
      situation, I was asked for the number displayed
      on the machine. After punching in this number,
      the recording told me that activation was a
      no-go. I could never get through to a live
      representative, and I offered to download an
      activation crack. My friend was religious, and
      would not let me use the crack to bypass the
      activation. He also could not afford to
      repurchase Windows. I told him about Linux and
      that it was legal for me to install it on as many
      machines as I wanted.

      His machine now run Linux, and after spending an
      initial week of frustration learning to use it,
      he decided he likes it better than Windows. My
      friend has been teaching another friend how to
      use Linux, and that friend is thinking seriously
      about making the switch. That friend had to do a
      re-install of Windows due to a virus, and he
      spend a long frustrating period of time getting
      his XP re-activated. Microsoft is definitely
      screwing itself in its attempts to eliminate
      "piracy."
      cyberscan
      • Again, who's gonna pirate a sinking $hip?

        The "TIP" is coming and it's approach is hastened by M$ belligerance. M$ is increasingly hard to use; requires far more maintainence than anything to date; and is a joke when comparing the promi$e$ to the actual outcome - how many of you can even remember all the things M$ promi$ed for Vi$ta, but renigged on before even letting it out on the ?-leash? It's hardly an SP-3 by now - especially since the cat'$ outta the bag that SP-2 was actually considered as a new O$, but with the promi$e of Vi$ta/LongHorn, the decision was made to send it out as a $ervice Pack.

        In fact, perhaps we $hould refer to Vi$ta as SP-1 for SP-2??? Makes more $en$e than Balmer'$ late$t drivel, n'est ?e pa$?

        In $hort, Linux is becoming the choice of techies, ergo the choice for their friends and clients, ergo the choice for those who want help and ease of operation; and it's free for most of the things non-techies want (internet, email, and online shopping, plus pornyes, and one doesn't need M$ to do any of those any more.

        When the "TIP" comes and people are convinced that easier is better and free is best, only the die-hard M$$$$ sheeple will be willing to pay, and M$ is really gonna be exxxpen$$$ive then.

        So, in the final analysis, who's gonna want to pirate something that'$ only exxxpen$$ive, yet harder to use; fails because the Mother$hip decrees it should; is wholly - by design and implimentation - unreliable? When you consider it, Balmer may be smarter than his loyal following, he'$ already working on a way to charge for u$e of free Linux! Atta boy, $tevie, get what you can without $pending a dime on quality!
        Media-Ted@...
  • Piracy Figs incorrect

    The piracy figs for lost revenues are incorrect.

    A large part of the people who are running pirated software wouldn't buy it anyway, but not being as strict as they might be on piracy, Microsoft are growing their market share.

    I know a few people who run pirated XP rather than run Linux where they'd be out of their depth.

    And the more people who use MS means the more people have to use MS.
    clarkec321@...
    • The accuracy of the piracy numbers ...

      ... is incredibly hard to determine without knowing how they are arrived at. In the end, MS needs to drive the "pirates for profit" out of business without driving away users "on the margin" (those who can live without Windows) by making MS tools too hard to use in environments with dynamic hardware requirements.
      M Wagner
  • Not all "lossess" due priracy would convert to sales

    It's fine for a back of an envelope equation to assume that 20% of the piracy losses would be for Microsoft products and hence their "losses" will be $1.38 billion but the reality would be much different.

    The BSA Report methodology is based on number of hardware units sold and number of software units sold taking no account of open source software.

    Couple this with the fact that given the choice of paying for new software or having to choose an alternative a proportion of pirates would choose the alternative (such as Open Source or to use older software versions on new hardware).

    When these two factors are included the "losses" are significantly reduced and hence only a proportion of the "losses" have a chance of being converted into sales.

    Lets be generous and reduce the figure by 50% (assuming that Microsoft could release an unpirateable version of their software and taking into account existing open source usage and pirates choosing an alternative). The true loss for Microsoft is closer to $700 Million.

    There are two aspects to loss of sales.
    There is the loss of present sales (users walking because of the additional problems with the piracy protection) and loss of future sales.

    I suggest that the loss of future sales is potenitally worse. If Microsoft were to loose a larger proportion of the student market to alternative software they run the risk that a generation of users would enter the work force unfamiliar with their software.

    We see that Microsoft currently recognises the value of these users with their Academic pricing. Catch their hearts and minds while at school, and they will take that with them into the work force for future sales.

    So the real question is whether the current and future losses would exceed $700 Million given the quality alternatives now available?
    Big Russ
    • Reality

      I suspect the erosion has already begun.
      Working for a large coporation I get to see a number of students who work for us under a student internship program. More and more of them are coming in with Mac/MSOffice skills instead of MSWin/MSOffice skills. Now we are seeing some Linux/Other skill sets.
      rhonin
      • Mac = $tudent$

        From the beginning, Apple has put its products into the schools, knowing they would reap big harvests; and they were right. In my field (publishing) I have seen sooooo much spent on trying to work with kids computer submissions and then make them ready for use in professional situations. It helped that Apple majored in graphics over typesetting, so they had the foot in the door even before IBM/M$ came a-knocking, so - again, they have the upper hand.

        Having said that, I must hasten to point out that I have found little to like about Apple since the II-E, but have been unable to overcome its limitations. It's too obvious to me that M$ is Apple's be$t friend in TomorrowLand. Apple is so unconcerned about their ability to stay in business as a computer that they are now making toys instead of making major pushes into "New Features" for their hardware line.

        The only real shift is going to be felt, as you have pointed out, by those now learning Linux and appreaciating the variety and nuances available with it that is not yet common in Apple.

        To my mind, Apple going Intel and OS-X'ing years ago is the real Royal wedding of the 21st Century. IBM/M$ is dashing headlong into oblivion and - - - really, who cares who wins that race?
        Media-Ted@...
  • Another Cost to Consider

    Micro$oft needs to factor in potential liability for "false" killings of the OS that result in injury or death. If someone suffers more serious harm or even death because a legitimate OS installation suddenly "thinks" its illegitimate and locks the computer up, you know that Micro$oft will be named in any legal actions by the injured party or their families. Micro$oft had also consider the economic aspects of negative publicity over such incidents. Finally, Micro$oft had better think about going after the pirates instead of the average, honest person. It is the pirates who are "costing" Micro$oft in lost sales, not the average, honest person.
    WildcatRay
    • No problem

      [i]Micro$oft needs to factor in potential liability for "false" killings of the OS that result in injury or death. If someone suffers more serious harm or even death because a legitimate OS installation suddenly "thinks" its illegitimate and locks the computer up, you know that Micro$oft will be named in any legal actions by the injured party or their families.[/i]

      Sorry -- the EULA disclaims consequential damages.
      Yagotta B. Kidding
      • liability for "addictive" product?

        the EULA disclaims consequential damages.

        Could someone overcome that by saying MS tries to maintain a
        monopoly and thus "forced" the use of Windows, in analogy to
        cigarette makers intentionally making an addictive product?
        LouS