So what is really behind the statements made by Messrs. Brad Smith and Horacio Gutierrez in an interview published in a May 14 Fortune article? Did Microsoft just go into the insurance business? Let me see if I can give you a different perspective on what happened earlier this week.
On Sunday May 13, 2007 in an interview with Fortune magazine senior editor, Microsoft's General Councel and licensing chief disclosed that free and open-source software (FOSS or FLOSS) violates 235 of Microsoft's patents. While Brad Smith, Microsoft's senior vice president and General Councel did not disclose which specific patents, he listed the number of violations by category.
In making these statements, did Microsoft openly declare that its traditional software business licensing model is in serious trouble? Thousands of businesses use open-source software. In fact, a significant number of Fortune 1000 companies use open-source. Businesses worldwide have embraced the cost benefits and virtual development cycles. Moreover, a number of companies like IBM, Sony, Novell, NEC, Oracle, and others have set up the Open Invention Network. Did Microsoft just undermine its own brand equity by pitting itself against businesses, business partners, and the development community? We have seen this kind of strategy backfire elsewhere.
According to the article, Microsoft's strategy is not to sue the thousands of violators. Microsoft simply wants a piece of the pie. According to Brad Smith, Microsoft has created a licensing mechanism and is seeking royalties or some form of cross-licensing. Sure sounds complicated. This explains why a number of notable companies like IBM, NEC, Samsung, and even private groups have been amassing an arsenal of patents. Nevertheless, the statements made have the free open-source software (FOSS) user community, Fortune 500 companies, CIOs, and developers wondering if Microsoft has any legitimate grounds.
CHASING DOWN MILLIONS
Can Microsoft really chase down millions of alleged violators? Linus Torvalds, lead developer of the Linux kernel, ponders if Microsoft's attempt to create FUD (fear, uncertainty, and doubt) is part of some new marketing campaign. Does the draft version of GPLv3 pose so much of threat to Microsoft that it has to rush out and blackmail a few more companies like Novell, Xerox, Fujitsu, and Samsung into other convoluted settlement agreements? What's really behind Microsoft's strategy and what are some of the things you should consider?
You cannot put millions of raindrops back into the storm cloud once they have fallen. According to the latest U.S. census report, there are approximately 26 million business enterprises in the U.S. alone. The majority are small business owners. Each constitutes a potential open-source application. Going after millions of businesses worldwide and trying to litigate each case through the judicial system would be futile. Some things you just cannot reverse. The open-source genie is out of the bottle. At this juncture, I don't believe Microsoft is looking to obtain a cease and decease order as to every municipality, government agency, university, Fortune 500 company, ISP, small business, Microsoft customer, and Microsoft business partner. I think such letters and efforts might be best directed at a handful of prominent distribution channels. Not that I am recommending this.
WHAT ARE OTHERS SAYING?
I see a number of counter statements by the Linux Foundation, LinuxInsider, Linus Torvalds, OpenOffice, and technology media sources. However, most of them seem to either dismiss the claim outright or challenge Microsoft with their own violations. Few of the editorials I have seen thus far try to put the pieces together. Does Microsoft have any legal basis?
SITUATION
I thought I would look at the issue from a broader business perspective. After studying the issue in the context of overall industry, my sense is that Microsoft is trying to make the best out of a bad situation. Fundamentally, the venue (Fortune) and the way Microsoft made these claims, leads me to believe that Microsoft is using the FUD factor to milk more indemnification agreements before the cash cow products move over to the dogs side of the BCG matrix. At a tactical level, the statements will stall FOSS deployments and provide a lever for negotiating patent exchanges. There is no doubt who the Fortune target audience is. Usually these venues are for creating some kind of PR or marketing event. Why would Microsoft's top lawyer go to Fortune for an interview and not file with the courts.
It appears Microsoft is trying to create an atmosphere of confusion and doubt to set the stage for some other objective. I think Microsoft just launched a new product. So, what's this new product? Business insurance. That's right. Microsoft just became an insurance company by selling indemnity. Perhaps Bill Gates is learning a few lessons from Berkshire Hathaway's Warren Buffet. Warren certainly knows a few things about risk management vehicles. In 2006, 46% of Berkshire Hathaway's pre tax earnings came from various insurance entities it owns. The most notable is GEICO. Maybe during those card games, Bill discovered how lucrative risk management vehicles could be.
WHAT'S MICROSOFT TRYING TO SELL US?
I think we can logically narrow down Microsoft's real intent through some process of elimination.
Microsoft just declared its transitional open-source and business strategy – buy a chit to play.
Microsoft has a "smoking gun" and all violators who use Linux servers and other FOSS have to pony up.
Microsoft would like to milk the cash cow one last time before the legacy proprietary software licensing business model dries up.
Microsoft is getting into indemnity insurance by launching a new product called coupons.
STATE OF INDUSTRY
My own disclaimer: I am not an advocate for any organization, industry, company, or investment group. I am also not bashing Microsoft for some ulterior motive. As a technology business consultant, I am presenting some information, which is readily available online.
Software piracy continues to grow. According to a May 15 report, worldwide software piracy rate holds steady at 35%. According to BSA, 35% of software installed on all personal computers in 2006 was obtained illegally. That was a $40 billion loss to software piracy globally. In other words, for every two dollars of legal software sold, one dollar was obtained illegally. The Linux kernel has undermined and eroded the proprietary software licensing business model. David A. Wheeler has some great papers about who is using open-source and why more business should consider FOSS. Many of those nascent open-source projects like Red Hat and Google have turned into formidable service business models and publicly traded companies.
All of the myths about Linux's reliability, scalability, security, support, and ongoing development have been shattered.
87% of businesses today use open-source. The majority of Fortune 500 companies run their business and complex supply chain on open-source.
Many of the internet icons like Google, Amazon, and Salesforce.com all run on open-source.
Many of the up and coming software as a service (SaaS) companies, application service providers (ASP), Web 2.0, social networking sites, and blog utilities run on open-source. Moreover, many of the productivity, communication, and collaboration Microsoft applications we all have running on our PCs are moving towards open-source and browser-based solutions.
Microsoft continues to struggle with capturing a piece of the online ad market and a viable search engine to compete with Google. Microsoft is showing signs that perhaps changing a product oriented culture to an e-business culture and service model might be impossible under the current organizational structure. I am sure a few private equity companies would like to split the company up to create a higher economic value.
According to Wall Street Journal May 15 article, web-based software services will grow to $19.3 billion by 2011 from $6.3 billion last year.
In short, the software industry is mature, continues to consolidate, and evolve towards software as a service (SaaS). At the same time, open-source is providing a catalyst for new business models and innovation.
AT FACE VALUE
If we take Microsoft's comment at face value, it claims it wants to be compensated for use of its intellectual property. It is willing to receive compensation in the form of royalties, coupons, or patent exchange. I'll explain coupons a bit later. The latter, patent exchange, is obviously targeted a handful of multinational conglomerates like Xerox, Samsung, Sony, and others. These companies and private groups have been on a patent buying binge for the last few years. I doubt this option (patent exchange) is relevant for most businesses.
If you plan to or currently use open-source in your business or solutions, you might want to read some of the more notable blog postings about Microsoft's claims. A good starting place is Linux and Open Source Blog.
WHAT ARE THESE COUPONS?
Initially Microsoft went after Novell. However, instead of collecting royalties from Novell, Microsoft "hammered out a clever, complicated – and highly controversial – deal" that netted Novell $420 million for a percentage of Novell Linux sales through 2011. Did Microsoft just buy their way into the FOSS market? The deal with Novell looks more like a channel marketing deal. You might be wondering why Microsoft paid Novell and not the other way around. Microsoft paid Novell $240 million for what it calls coupons for Novell Linux server software. The idea is that Microsoft will peddle these coupons to customers who it turn will push the business through Novell. Wait! If Microsoft was really serious about killing open-source, why is it sponsoring Linux? Confused? Microsoft has always been very good at coordinating multiple partners to achieve something else. I think you get the picture. Did not Microsoft get into trouble once or twice trying to position products through channels and OEM partners in this manner? From the Fortune May 14th article.
SUMMARY
Logic tells me that Microsoft in NOT trying to kill FOSS. Microsoft is just late to the table, and needs some leverage. This claim and event looks more like a new campaign. Controversy is a popular form of marketing. By making these claims, Microsoft is declaring it wants a seat at the table. I do believe Microsoft will seek to cut various deals analogous to the ones made with Novell, Xerox, and Samsung to align channel partners and exchange intellectual property (or liability). I think we're talking about a handful of companies. Microsoft thinks this carrot and stick approach puts them in a better bargaining position with some of these very large multinational companies. As a last resort, Microsoft may elect to go after competitors like OpenOffice or Google. However, I don't think the courts will look favorably upon Microsoft if it selectively indemnifies so-called violators. Over the years, the Supreme Court has adopted more economic principles for determining damages. Simply holding a patent does guarantee you royalties. You have to demonstrate direct market share and profit losses because of the patent infringements.
Ultimately, we really won't know the full ramifications until such time when Microsoft puts out a more specific statement. Without a doubt, Microsoft had added a new layer of confusion and legal consideration to an already complex area. According to Red Hat, it already has language that indemnifies Linux customers. Check with your vendor. I prefer Oracle's straightforward approach – acquire or invest in emerging innovation. My prediction is Microsoft will have to address a number of the constraints I listed earlier through acquisitions starting with aQuantive and Yahoo.
RESOURCES
I have listed some resources if you are new to the topic of free open-source software.
BOOKS
Understanding Open Source & Free Software Licensing, Andrew M. St. Laurent (2004). Published by O'Reilly Media Inc. ISBN 0-596-00581-4
The Business and Economics of LINUX and Open Source, Martin Fink (2003). Prentice Hall, Upper Saddle River, NJ. ISBN 0-13-047677-3
Open Source for The Enterprise, Dan Woods and Gautam Guliani (2005). O'Reilly Media Inc. ISBN 0-596-10119-8
Succeeding With Open Source, Bernard Golden (2005). Addison-Wesley. ISBN 0-321-26853-9
PAPERS
Economic Analysis of The Reasonable Royalty: Simplication and Extension of The Georgia-Pacific Factors, Roy J. Epstein, PhD and Alan J. Marcus, PhD (July 2003). Journal of The Patent and Trademark Office Society 85(7)
Injunctive and Damages Remedies Available In a Patent Infringement Case, Joseph E. Walsh Jr., Esq. and Mark E. Hoffman, CPA (Fall 2000). Patent Law and Litigation Edition, St. Louis Bar Journal, Vol. XLVII, No. 2.
Finding Lost Profits: An Equilibrium Analysis of Patent Infringement Damages, James J. Anton and Dennis A. Yao (August 2003). Duke University Fuqua School of Business and University of Pennsylvania Wharton School.
Why Open Source Software / Free Software (OSS/FS, FLOSS, or FOSS)? Look at the Numbers!, David A. Wheeler (April 16, 2007). http://www.dwheeler.com/oss_fs_why.html
LINKS
As always, I welcome your comments.
Kameran Ahari
