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Net Gains and Losses

Microsoft gets real

October 15, 2005

MICROSOFT HAS PACIFIED the last of its well-financed opponents, settling the antitrust claims brought by RealNetworks in 2003 for $761 million. The deal shows how much the software market has shifted, prodding the Big Bad Wolf from Redmond to form alliances with erstwhile antagonists in the face of new threats. In this case, the threats come from Apple Computer and Google.

Part of the motivation was Microsoft's newfound zeal for settling antitrust and patent lawsuits. The company has spent more than $5 billion in recent years on settlements, boosting the coffers of Sun Microsystems, IBM, Time Warner and Novell, among others. In Real's case, though, another motivator was the changing competitive landscape. Microsoft may still hold an unhealthy share of the market for computer operating systems, but in online entertainment or Internet search engines, it's an also-ran.

Apple's iTunes Music Store is the king of the online music business, selling more than 50 million songs each month for 99 cents per track or about $10 per album. And now Apple is expanding into other forms of online entertainment, offering a new version of its portable iPod music players that can play video.

Apple relies on its own software and hardware, and its iTunes store and iPods have proved far more popular than Microsoft-powered players and services. One of those services is Real's Rhapsody, which relies on Microsoft's digital music format and anti-piracy technology. Rhapsody offers access to a large library of songs that can be played at any time but not saved permanently, as they can with Apple's iTunes. That's a tougher sell than Apple's store, particularly when Microsoft-powered devices don't work as well with Rhapsody as iPods work with iTunes. The settlement will supposedly remedy that, while also giving Real a significant marketing boost.

The deal also includes some intriguing new efforts. In particular, it calls for Rhapsody to be integrated into Microsoft's MSN search engine and instant-messaging software. People who search for a song will be able not only to find information about the track and the band but also hear it for free. That's something Google -- a far more popular search engine than MSN -- has yet to offer. But that type of marriage between search engine and music service is widely viewed as a killer application of the future.

Microsoft's dominance of the market for computer operating systems remains a potential threat to consumers and other software companies. But Apple and Google have shown that Microsoft's advantages don't necessarily apply in new technology markets. The Real deal shows Microsoft in an unaccustomed posture: having to innovate to catch up.

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