If you look at both Microsoft’s efforts surrounding Azure and its recent announcement of Surface tablets, you can see underneath the death of the model that created the company. However, this model, which had been artificial in the first place, has been dying for years and you could see it in both Apple’s rise and Microsoft’s near-decades-long flat financial performance.
There are reasons for the death of this model, and with it the passing of Microsoft as we knew it, that go back to its artificial nature. But we now need to start seeing Microsoft differently more like an IBM or Oracle and far less like the parts company it started out to be. If we don’t we are likely to make assumptions about Microsoft’s future that will prove increasingly inaccurate.
Microsoft is undergoing a fundamental change that will change it into a fundamentally different company and much of that change is done. What is lagging is our perception of the firm.
In the early days of the computer industry, software and hardware came from the same firm and that firm was IBM. Third-party software companies couldn’t compete even with better products because IBM’s software was free, as it still is in most of the intelligent things we buy.
The Department of Justice decided that this was unfair and forced IBM to break out software from hardware and charge fairly for it. This wrapped IBM with a nasty bureaucracy that contributed significantly to IBM’s fall in the 1980s and made it look to outside resources when it decided to build the IBM PC. Microsoft stepped in and — this is important — was IBM’s software vendor for PCs, but recognizing that it didn’t want to be absorbed by IBM, set the deal so it could sell to others and an empire was born.
But it was a flawed empire created by a government bureaucracy and the problem was power. It simply was too balanced between the software provider and the hardware provider and the result was no one owned the solution. Historically, while Microsoft generally got the blame for crashes and failures, most were the result of bad drivers (graphics drivers mostly), screwy applications the OEMs supplied, or some other issue generally outside of Microsoft’s control.
To make a great product, someone has to own the entire product’s quality and that just wasn’t happening. And, this wasn’t just a Microsoft problem, as you could see the same kinds of things happening with Android tablets.
Where outsourced software does work, and this is in the embedded space, it is really clear the OEM owns the solution and you generally don’t even know where the software came from. This is the same with most components as well.
Doing hardware is like getting pregnant: There is no way to just get a little pregnant (or so I’m told). Microsoft now is in the PC hardware business and it is likely it will eventually buy Nokia or RIM to do phones. But it will also likely expand out of tablets to all-in-ones (the original Surface product is basically a unique all-in-one computer, after all). This fixes the “who owns the solution” problem but it will create two others for the company in the short term. Hardware will reduce its margins and currently it is channel-bound. This initial hardware will only sell through Microsoft direct channels and Microsoft has nowhere near the number of stores Apple does. On the other hand, online buying of products like this can scale vertically and people do buy Apple products online (I know this because that’s how I buy them).
On the first problem, Microsoft has been growing revenue and profit steadily and generally in double digits for the last decade with little or no impact on its valuation. A hot consumer product could cause Microsoft’s stock to approach Apple’s performance and Microsoft’s revenue is so diverse that the initially relatively small impact of tablets would likely be hard to find.
On the second problem, Microsoft desperately needs something to pull people into its stores. I did a store tour a few weeks back and the Microsoft stores were dead while the Apple stores (which are generally right next door in malls) were hopping. I should point out the carrier stores (Verizon, AT&T and Sprint) were also dead as were the remote Best Buy outlets. Having a hot product to get people to walk into the stores is critical and, assuming it can maintain interest in these tablets until they are available, it could fix that problem. Eventually, much like Apple does, I expect these products to move to other retailers. Best Buy and others are likely having a bit of a cow at the moment.
This change isn’t just happening at the client side. Azure is a subscription. Microsoft has created what may be the most easily managed and secure hosting solution on the planet with Azure. It directly addresses the trend of line employees bypassing IT by going to vendors like Google and Amazon by being easier, safer (more secure and compliant), and more IT-friendly than the other offerings. Coupled with services like Office 365, the need for on-premise hardware should decline over time and shift to Azure and other services like it.
But there are two sides to this change. If you look at the tablets alone and don’t either see what is coming in hardware or see the Azure relationship, you won’t see the full change. This is a company shift and, if it is successful and continues, the end result is a model more similar to the cable model where the clients are increasingly tied to services paid for by the month and I would expect future subsidies and cable-like pricing models as this new Microsoft and model emerges.
Ironically, this is the strategy Google appeared to be on with the Chrome OS and Web services. It is interesting that Microsoft will be getting there first with what appears to be a better alternative.
Now there is one final comment. This is a bet-the-company move; if it is properly staffed and funded this will be huge for the company and market, but if it isn't (and Steve Ballmer is famous for underfunding projects), the backlash will cripple the company. This may be Steve’s final chance to show he is worthy of the job he holds and isn’t just in it because of his friendship with Bill Gates. Somehow I think he knows that, so I’m betting he does it right this time.