Study: Microsoft overcharges for software

Microsoft has collected $10bn (£6.1bn) in consumer overcharges in the past three years thanks to its "monopoly" over the PC operating system market, consumer groups alleged in a study released today.
Written by Will Rodger, Contributor

Microsoft has collected $10bn (£6.1bn) in consumer overcharges in the past three years thanks to its "monopoly" over the PC operating system market, consumer groups alleged in a study released today.

As a result, officials of the Consumer Federation said, the company could face a barrage of class-action suits designed to recoup those charges if courts find Microsoft liable in the landmark antitrust lawsuit underway in Washington.

The study was prepared by the CFA, the Media Access Project and the US Public Interest Research Group. "We think these overcharges should be returned," said Mark Cooper, research director at the CFA. According to Cooper, consumers shell out $35 (£21) to $45 (£27) in inflated prices on each Windows PC, thanks to Microsoft's ability to keep new entrants from competing effectively.

Jamie Love, director of the Consumer Project on Technology, called the alleged overcharges as "tax" on computer users worldwide. Microsoft officials denounced the report, saying they must keep their prices low while continuing to innovate to stave off competition from operating systems such as IBM Corp.'s OS/2, Red Hat's Linux and Sun Microsystems' Solaris.

To reach their conclusions, the three groups relied heavily on two Microsoft internal documents released in the landmark antitrust case last month. One, titled "Microsoft OEM PC Value Analysis," tracked the price of Microsoft's basic Windows operating systems charged to computer makers. Between 1990 and 1996, Microsoft's own analysis showed, the price of the Windows operating system to PC makers skyrocketed from $19.03 (£11.60) per copy to $49.40 (£30.12) or nearly 160 percent.

During that same time period, wholesale PC prices plummeted from $3,500 (£2,134) to $2,000 (£1,219.5) each. As a result, Microsoft operating systems went from accounting for one half of one percent of total system cost to 2.5 percent -- a 400 percent increase in six years. Those data alone suggest Microsoft has overcharged for its products, the CFA's Cooper said. More telling, he said, is the trend of prices of other software over the same period.

The market research firm PC Data Inc., for instance, estimates the cost of the average software package actually declined by 2.8 percent each year from 1996 to 1998. Microsoft operating systems increased an average of 6.5 percent yearly over the same period.

Microsoft Spokesman Mark Murray recently defended the company's price increases by attributing them to improvements in technology. As PC makers have moved from the venerable MS-DOS to successor versions such as Windows 3.1 and Windows 98, he said, they have increasingly received more for their money. But consumer groups say that argument is misleading.

"What Microsoft is trying to do is pass off updates of an operating system as some new product," the CPT's Love said. "Windows 98 is really Windows 95 with a service pack. Part of what Microsoft is doing is reducing the shelf life of the operating system. That's another hidden price increase, since products have a shorter shelf life."

The CFA/CPT/MAP report cited another Microsoft memo from company vice president Joachim Kempin to buttress its argument. Kempin says the company should try to maximise prices for its forthcoming Windows 2000 by raising the price to manufacturers to as much as $100 (£61) a system by 2000. A truly competitive market, the groups conclude, would never let software makers contemplate such price increases; since marginal costs of software packages are minimal, costs should continue to decline, they reason.

The groups also look with suspicion on Microsoft's rate of return on sales: Last year the company's net profit on sales was more than 35 percent vs. 6 percent for the software industry as a whole.

Microsoft Spokesman Tom Pilla dismissed the report's findings. "We believe our market share is due to a product that customers are clamouring for," he said. As a result, it was hardly surprising his company was more profitable than others, he said. Pilla declined to comment on the company's own data showing computer manufacturers in 1996 paid more than twice what they did for operating systems in 1990.

Pilla pointed reporters to the company's own report, "Why does Microsoft charge so little for Windows?" prepared by National Economic Research Associates, a division of William M. Mercer Companies Inc. Through a series of economic calculations -- looking at factors such as price elasticity in the computer market -- the report finds Windows would cost more than 20 times its current price if Microsoft were a "true" monopoly (the study was not posted on www.microsoft.com/presspass as of posting time).

It attributes current pricing to the presence of other companies waiting in the wings to topple Microsoft. For example, the study said Microsoft cannot charge outrageous prices for Windows because that would open the door for a smaller company to create a cheaper OS. "Its most threatening competitors are the unknowns -- rivals that could arise from the vast pools of highly mobile and talented programmers and venture capital eager to back the next software superstar if Microsoft lets its guard down," the study said.

As an example, the study cites Linux as a major threat. In court, Microsoft attorneys have pointed to the alternative OS in an attempt to show that Microsoft doesn't have a stranglehold on the market. Many arguments in the study reflect statements made by company executives, including Bill Gates, in recent months For example, the study said the current version of Microsoft's OS packs a lot more power and features than older versions, for a comparable price.

Regardless of who's right, it's not clear the consumer groups will get their wish from future class action suits. For one thing, federal courts rarely grant indirect purchasers the right to sue for unfair pricing, said Rich Gray, partner in the Silicon Valley law firm Bergeson, Eliopoulos, Grady and Gray. As a result, state courts would likely have to take up any cases filed.

Finally, Gray said, any damages collected could only cover profits gained illegally by Microsoft. If courts found the company had a monopoly but that it was also won fair and square, consumers would gain nothing from a suit.

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