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Companies avoid competition if they can and as much as they can. Publicly, they might praise the virtues of “the market”, but none of them wants to be in a fiercely competitive market. It makes for a tough life. Markets with few competitors are far easier to navigate and generally more rewarding. And it’s plain sailing, if you’re a monopoly.

Or is it?

The Perils of the Monopoly

The great advantage of the monopoly is also its fundamental weakness: It has no competition to impose discipline upon it or to measure itself against. The monopolist’s business model quickly becomes subverted to the overriding goal of preserving the monopoly. Many of the activities that serve to keep a company healthy are not pursued at all.

Costs and rewards are only marginally controlled by external market forces. The price of the product (or service) is not gauged in any way against perceptions of value. Innovation becomes unimportant. Marketing and sales skills atrophy. Arrogance becomes endemic; the belief is that “because we dominate the market we’re are supremely talented in everything we do.” All the weaknesses are viewed as strengths. And thus a monopoly contains the seed of its own destruction.

Microsoft’s (NASDAQ:MSFT) major problems are due to astonishing success. The company did not just overshadow the competition, it stomped it into the ground. It forged a huge economic ecosystem which had considerable momentum, but now Microsoft is in difficulties in almost every area of its operation.

Microsoft’s Mobile Muddle

Put yourself in Microsoft’s position in 2000. It is at the pinnacle of its power. George W Bush has just been elected president and one of his first acts as president is to drop any further antitrust action against Microsoft. Netscape has been smashed, PC revenues are flowing, Microsoft is making gains in the server market, etc., etc.

Where are the opportunities for the new millennium? One is surely the mobile market, where mobile phones need to gains functionality, mobile phones and PDA are gradually converging and hundreds of millions of handsets are being sold every year. The mobile market was one of Microsoft’s primary targets.

Microsoft came to market in April 2000 with the Pocket PC 2000 environment, which grew up to become Windows Mobile. It was a stunted version of Windows CE 3.0 for PDAs and high end mobile phones. Microsoft immediately gained traction in the market on the basis of Windows familiarity.

So fast forward to 2009. Windows Mobile (currently in release 6.1) runs on Pocket PCs, smartphones, portable media devices and embedded computers in some cars. Microsoft sold about 18 million licenses in 2008 which looks like a very respectable figure, given that it’s greater than the number of iPhones that Apple (NASDAQ:AAPL) sold last year.

That seems impressive until you realize that you are comparing apples with mozzarella cheese. As a smartphone OS, Windows Mobile is in decline. Its share of the smartphone market (worldwide) is down from 23% in 2004 to 12% last year. Microsoft licenses Windows Mobile to many of the major mobile phone manufacturers, but its mindshare is in decline. It has been jilted recently, with both Samsung and Sony Ericsson (NYSE:SNE) dropping Windows Mobile for the Symbian OS in their flagship phones. Consequently, Microsoft’s main licensees are HTC, which makes 80% of Windows Mobile smartphones, and LG. But both of these companies also plan to sell Android phones.

Unfortunately for Microsoft, if it wanted to maintain its Windows monopoly, the mobile market was a “must win.”

Apples are Apples, But Mozzarella Is Only Part of the Pizza

In the PC market it was possible for decades to charge a high price for the OS, irrespective of the fact that maintaining and enhancing the OS was not a high cost activity. It was “money for nothing and the chicks for free.” The mobile phone market is entirely different. The OS is only one component of many and the manufacturers won’t pay an extra cent for any components, unless they have to. You can divide the smartphone OSes into 3 groups:

  1. Proprietary OS used only by the owner: the iPhone OS, RIM’s (RIMM) Blackberry OS, Palm WebOS
  2. OSes available at no charge to handset vendors: Symbian OS (owned by Nokia (NYSE:NOK) but available for free), Linux and Google’s (NASDAQ:GOOG) Android.
  3. OSes available at a price: Windows Mobile.

What’s wrong with this picture? Nothing at all, unless you happen to be Microsoft. If you convert Microsoft’s market numbers into revenue, it is small beer. Microsoft charges somewhere between $8 to $15 per phone, according to Strategy Analytics, which means that Microsoft is probably earning no more than about $180 million from the mobile market. Compare that with the billions of dollars or revenue that Apple harvests and you have to wonder why Microsoft is even in this business. As Microsoft’s market share declines the costs of maintaining Windows Mobile may become unsustainable. Microsoft isn’t even in a position to compete with Apple at this point (see How and Why the iPhone Changes The Game.)

The Rearguard Action

Credible rumors have been circulating that Microsoft will introduce a phone-of-its-own this spring. It would surely collapse much of the Windows Mobile market, but there is also upside potential. Microsoft is looking enviously at Apple’s App Store and could build a similar capability to accompany its me-too-phone. Microsoft is unlikely to be successful with this (see The “Bootleg Apple” Strategy and Why It Will Fail) but it has little option but to pursue this course.

Here’s why:

Microsoft would not be fighting to preserve Windows Mobile, it would be fighting to preserve Windows on the PC. Unfortunately, ASUS is expected to introduce a Google Android netbook later this year. Nokia has been threatening to enter the PC market and if it does, most likely it will be a Symbian netbook device. Such devices will most likely run on ARM (NASDAQ:ARMH) chips and may lower the netbook price points even further.

You can look at a netbook in two ways; as a shrunken PC or as an expanded smart phone. From where I’m sitting, it looks very much like an expanded smart phone. As soon as all these other OSes (Symbian, Google Android and OS X) join Linux and Windows in the netbook market, the Windows monopoly is broken. Just as Windows migrated onto the server, so will these OSes migrate up the food chain and onto the desktop.

Microsoft is now fighting a rearguard action.

Disclosure: No positions

Source: Microsoft's Mobile Misfortune