Microsoft and the 'premium mix' dilemma

Microsoft's fiscal 2009 fourth quarter earnings, announced on July 23, were bad. And the Windowsclient unit's piece of the bad news was even worse than many were expecting. What does the future hold for a company that has prided itself on being a "low-cost/high-volume" supplier?
Written by Mary Jo Foley, Senior Contributing Editor

Microsoft's fiscal 2009 fourth quarter earnings, announced on July 23, were bad. And the Windows client unit's piece of the bad news was even worse than many were expecting.

(For the three months ended June 30, Microsoft’s client revenue was $3.1 billion, down from $4.36 billion a year ago, a 29 percent decline.)

For years, Microsoft has prided itself on being the "high-volume/low cost" supplier in the software business. When times are good, the "volume" part of this equation offsets the "low cost." When they aren't -- and more users are deferring software purchases, buying cheap netbooks instead of pricier PCs and making do with what they already own -- Microsoft's algorithm no longer works as well.

As my blogging colleague Larry Dignan noted in his write-up of Microsoft's earnings today, Microsoft is attributing its Windows client unit losses to a number of factors -- its Windows 7 OEM Upgrade program, lower overall PC sales and a lower-than-usual OEM "premium mix." The premium mix here  refers to the number of PCs that Microsoft's partners like Dell, IBM, HP and others are selling preloaded with a lower-end and cheaper version of Windows (like Windows XP or Vista Home Basic) vs. ones they are selling loaded with the more expensive Vista Home Premium, Vista Ultimate, etc.

On the same day Microsoft announced its earnings, analyst firm NPD issued new numbers showing that Apple has cornered the "premium" (a k a expensive) PC market. While this market, which NPD is limiting to PCs costing more than $1,000 bought at retail only, is relatively small, unit-wise, it's not insignifiant, dollar-wise.

Microsoft is basing its Windows marketing campaign right now on being cheaper than Apple. It's clear, right? Windows Vista PCs are largely cheaper than Macs. But Windows XP machines are cheaper than Windows Vista ones. And I'd bet Vista machines are going to be cheaper than most Windows 7 PCs.

I am waiting until this fall to buy a new Windows 7 PC and I bet other consumer and business users are, too. But unlike previous eras, when a new version of Windows meant you needed a PC with more memory, a bigger hard drive, better graphics, etc., Windows 7 PCs aren't going to require bigger and more, Microsoft officials have said. Windows 7 can run on PCs that Vista is too big and slow to work on. So will PC makers still charge more for new PCs even when their specs are similar to what's out there now?

Even if Microsoft does well getting its partners to "upsell" customers so that they buy new Windows 7 machines running cheaper versions of Windows, but pay more money to move up to a more feature-rich (and expensive) version of Windows 7, will that be enough to offset the "netbook effect" that seems to be continuing?

Microsoft's first fiscal 2010 quarter ends in September, before Windows 7 goes on sale at retail. It  could be another rocky one for Windows client, even if users snap up Windows 7 discount offers or buy new Vista PCs that include coupons for free upgrades to Windows 7].

Does Microsoft need to rethink its low-cost/high-volume message and start to chase more of the users who are willing to pay a premium for higher-end luxury PCs?

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