MSN surprises with $2 fee hike

SEATTLE, Wash. -- Huh?

That was the collective reaction among the press, pundits and security analysts here Thursday when Microsoft Corp. (Nasdaq:MSFT) announced -- almost in passing -- that it would raise its monthly Internet access service fees for new MSN customers by $2 to $21.95.

Reason for the surprise: There had been speculation that Microsoft would actually announce lower rates -- if not free access -- during Thursday's sweeping briefing on its emerging new MSN strategy.

Not to mention that it came on the same day Earthlink (Nasdaq:ELNK) and Mindspring (Nasdaq:MSPG) announced a merger that would vault their combined selves past MSN in terms of customers and the economies of scale -- a move that could actually led to more price competition among Internet service providers, not less. (See: Consumers win in big ISP merger.)

"That was a complete surprise," said Lise Buyer, a securities analyst with Credit Suisse of Boston.

So why did Microsoft make the decision?

Ballmer explains
During a question and answer session at the conclusion of the day, Microsoft President Steve Ballmer explained the company's rationale, declaring that MSN was actually getting more aggressive on pricing, despite the $2 fee hike.

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According to Ballmer, Microsoft is charging just $7 a month for new customers -- taking into account the $400 subsidy it offers to customers to sign up to MSN through a variety of partners, including PC makers such as Acer, discount retailers such as Costco and Staples and even some e-commerce sites such as MyShopping.com.

"Experts out in the field tell us that it's better to offer a $400 rebate than it is to actually charge $7 a month," Ballmer said.

Ballmer went on to say that MSN economics right now are generating no gross margins. "I would say that's as aggressive as you can get -- no gross margin," he said. "And we know our competition likes gross margins," making a reference to MSN rival America Online Inc. (NYSE:AOL).

What's more, Microsoft execs stressed that the money would be reinvested in the MSN -- all as part of the company's stated intention to make it one of the best values on the Internet.

Ballmer also made it clear during a presentation in the briefing that Microsoft was willing to spend significant amounts to acquire customers for MSN. "We will put an impressive amount of money -- even for us -- into marketing and customer acquisition," he said.

Analysts reacted skeptically to the move, however, saying the pricing move may have yielded the initiative to America Online Inc., which is MSN's chief rival in the space.

Said analyst Buyer: "If you're big guy like AOL, you're really happy right now."

Ballmer: MSN is key
Meanwhile, Ballmer repeatedly hammered home how important Microsoft considers MSN to its larger strategy of delivering software and services.

'We'll keep coming and coming and coming. Whatever it takes we will keep on coming. We will spend a lot of money' -- Steve Ballmer

"There is a new 'it' we need to focus on," Ballmer said. "That 'it' is the notion of software as services. Make no mistake, we are committed from a technology and marketing standpoint 100 percent to this."

In acknowledging the company's prior missteps in the Internet space, Ballmer issued a demarche that paralleled the December 1995 declaration by CEO Bill Gates that Microsoft had turned "hard core" on the Internet. Up until Gates went "hard core," the software giant had been slow to recognize the potential of the Internet, losing the initiative to upstart Netscape Communications Corp.

Although Microsoft has operated MSN for years it has struggled to find a formula that will take it to the top. The service remains a distant challenger to AOL and Yahoo! (Nasdaq:YHOO).

But Ballmer said Microsoft was willing to dig deep into its pockets and pay whatever price was needed.

"Nobody should be confused. We'll keep coming and coming and coming. Whatever it takes we will keep on coming. We will spend a lot of money," he said. "We will put an impressive amount of money -- even for us -- into marketing and customer acquisition in this pace, because I think the MSN service is really coming together. Now is the time for us to really turn up the dial."

Ballmer made it clear that MSN was a keystone to Microsoft's newly evolving corporate strategy to view software as a service, available anytime, anyplace, anywhere. "It is the first place we get to pioneer our new platforms," he said. "It is the first place we get to pioneer this change in what we see as software as a service."

Ballmer thinks that service will outgrow packaged software as a business. "It is critical to us. So you can expect to see a lot of," he paused to consider the appropriate word, "energy from us -- it is central to the whole way we need" orient the company.

Search, shopping, communication
During a three-hour demonstration Thursday morning, Microsoft executives detailed company plans for developments in three key areas of its new Everyday Web strategy -- search, shopping and communication.

Search: As part of its new technology-based Web strategy, MSN will immediately roll out a new version of its search engine.

Brad Chase, vice president of Microsoft's consumer and commerce group, said that it will use existing directory and text based search capabilities provided by its partnerships with LookSmart and AltaVista and combine that with newly developed backend software technology enabling better relevancy ranking, intelligent word stemming and auto-correction of common misspellings. International versions of the new search engine will be rolled out in the coming months.

Shopping: A revamp of MSN's shopping area aims to streamline the online shopping experience by creating a space where customers are able to search, compare and make purchases in one stop.

"This is the way people want to shop. They want to search, they want to compare, and then they want to buy," Chase said, after noting that Microsoft research shows that, currently, two-thirds of online shopping carts are abandoned before a final purchase is made.

Beginning in November users searching for items on MSN search will be directed to a shop-and-compare option that allows them to gather information and make a purchase without leaving the site by utilizing technology from Compare.net and Microsoft's Passport tool.

A prototype of a new service, dubbed "market monitor," was also unveiled. The service would monitor prices both online and offline and automatically notify users when a deal is found. No date has been set for the market monitor launch.

Communication: The ability to communicate anytime, anywhere, on any device is the key component of Microsoft's plans for its e-mail instant messaging offerings.

During a demonstration of a prototype of MSN Messenger integrated into Outlook Express, Microsoft Director of Consumer and Commerce, Yusuf Mehdi, showed how users will be able to instantly determine whether the person they need to contact is online.

Messages can be sent and replied to through instant messaging or e-mail, whichever is easier. Although the two services can be cobbled together by hand today, Microsoft is not ready to announce a date for their formal integration.

Web publishing for dummies
Additional prototype demonstrations focused on the need for easier Web publishing tools.

Chase said MSN wants to make the Web "your personal place to collaborate'" by improving users' abilities to create their own Web communities. As part of their Everyday Web efforts, MSN plans to introduce wizziwig editing capabilities on its personal Web sites, similar to the editing tools in Word or Excel. Pages can be created, edited and published in real time. Like its plans for the integration of instant messaging and e-mail, no date has been set for the community tools.