Keeping Up With The Googles

Microsoft's next Windows version is hung up, but its cool Web services are flowing freely

The delay of Microsoft Corp.'s (MSFT ) Windows Vista operating system until next year makes the software giant look like a dinosaur stuck in the tar, but that's not the whole picture. Its efforts to match the Googles (GOOG ) of the world with fast online innovations seem to be paying off. In the five months since Microsoft announced its Windows Live strategy, it has released no fewer than 20 new services that are attracting millions of consumers. "They now gain some of that agility that Google has enjoyed," says analyst Van Baker of researcher Gartner Inc. (IT ).

What exactly is Live? It's a set of technologies designed to blend the programs people run on their computers, such as Windows or e-mail, with the things they do out on the Web., for instance, is a next-gen Web portal loaded with services such as Windows Live Expo, where people can search classified ads on the Web and compare notes on bargains with people on their instant messenger buddy lists. Live "makes it feel like the Web isn't a place where you go to. It's linked [to desktop computing].... And it's very personal," says Microsoft Vice-President Blake Irving.

That combination of PC and Web services is already drawing regulatory scrutiny. European Union Competition Commissioner Neelie Kroes wrote to Microsoft Mar. 29, expressing concerns that Vista could limit consumer choice by giving Microsoft's own programs advantages over the alternatives. The letter raises the specter of an EU investigation prior to Vista's launch in Europe. Microsoft's reply: Consumers will continue to be able to choose whatever programs they like.

The Live strategy creates a new business model for Microsoft. For starters, the company is revamping its approach to software development. The core technology inside Windows still may take years to develop and update, but Microsoft is committed to popping out pieces of software -- such as its latest photo editing technology -- as soon as they're ready. Photo editing upgrades would be automatically downloaded from the Web and could be connected to online photo-storage sites that could generate revenue.

The other big shift is in how Microsoft gets paid. Online ads are its new obsession. The company's executives grew up in the world where they sell software by the box, a business that's growing slowly these days. While Microsoft has long relied on advertising to support its MSN Web portal, it's now selling ads more aggressively and in new ways. It has begun placing ads within the Live services. And it's experimenting with homegrown technology that lets users turn down certain types of ads but request more of others. Piper Jaffray Cos. (PJC ) analyst Safa Rashtchy estimates online advertising will top $55 billion globally by 2010, which translates to 27% compounded annual growth.

There are plenty of unanswered questions about the Live strategy, however. Microsoft's ad technology is unproven. It trails both Google and Yahoo! (YHOO ) in Web search, and that may keep advertisers from paying top dollar. What's more, the market for many of Microsoft's new services is untested. So far, the appeal appears limited to Web enthusiasts who write blogs and have multiple e-mail accounts. Rivals are adding mainstream applications such as word processors and spreadsheets, but analysts don't expect Microsoft to offer services that compete with its Office cash cow.

Still, Microsoft had to do something. It's under increasing pressure to keep its traditional PC software relevant even as it sprints into new online markets. Live is off to a solid start, even impressing some of the Web up-and-comers. "Microsoft is starting to get it," marvels Jeff Mellen, executive vice-president of startup YouOS, which just launched a Web site that hosts an array of online services for people to tap into from their home computers or mobile devices. "It's intimidating for a company like ours, but, as somebody who lieks technology, it's good to see."

By Jay Greene, with Steve Hamm in New York

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