Microsoft’s 1st fiscal quarter earnings were blow out.  Its profit soared 23 percent to $4.29 billion, or 45 cents per share, from $3.48 billion, or 35 cents per share, during the same period last year, as brisk sales of the new ‘Halo 3′ video game, Windows and Office helped it breeze past Wall Street’s expectations.  Because of this the stock hit 6 years high.  The result, driven by products including Windows Vista and Office 2007, was viewed as evidence that the 32-year-old company still has growth potential. Underneath all this good news, I think, survival of Microsoft itself is at stake.

Let’s start by looking at Microsoft’s Business Strategy.  Its core asset is its Operating System (initially DOS and then all the UI built on top of it).  Using its core asset Microsoft has built a software empire.  The ‘network affect’ created by its near monopoly market share (90%) of its Operating System (OS) has enabled an ecosystem of software solution providers around it.  These value added software application have created the franchise of its OS more valuable.  Microsoft itself builds and sells several add-on applications on top of its operating system.  Microsoft Office is the most important of all the applications that’s built on top of its OS and has become the ‘cash cow’.

Microsoft’s strong ‘economic moat’ has been constantly attacked over the past 8-10 years.  But it has aggressively managed to defend itself.  Now, several disruptive offensive forces are making Microsoft’s moat vulnerable.  First of all, SaaS or On-Demand software delivery model is going to be a formidable challenge to all the software applications written specifically for Microsoft OS.  For example, Google Doc is a tempting alternative to Microsoft Office for the individuals and small organizations.  There are several other open source on-demand applications that are getting ready for the prime time to challenge Office software.  With Microsoft Office software being challenged with a new delivery model, it will no longer  remain the cash cow.  The advances in distributed computing and software security will keep pushing the boundary on SaaS delivery model.  SaaS, with it pay-as-you-use payment model along with mobility access are some of the positive factors that will make even the large organizations investigate its usefulness in their organization.   This is forcing software solution providers to break away from sole Microsoft OS franchise.  Soon, most applications will also be offering with the On-Demand delivery model.

The other disruptive force is Virtualization.  There is a huge demand to ‘maximize’ server utilization, and this is making Virtualization the highest priority for many company’s CIO.  This trend will entice the application vendors to write their own kernels designed to run in virtual environment and knock off Microsoft OS from the server. With more technological innovation, virtualization will make Microsoft OS less relevant.  

The third disruptive force is Demographics.  The ‘iPod’ generation worldwide is more comfortable with Apple product and considers PC as “Dad’s” computer.  The anecdotal evidence point out that majority of students entering university now own Apple computer.  In few years the ‘iPod’ generation that will be joining the work force will be not ‘savvy’ enough to use PCs.  The large organization’s IT department will be forced to provide infrastructure to support Apple Computer to attract new work force.     

Virtualization, Demographic changes and On Demand Delivery model will work in tandem to make Microsoft’s core asset irrelevant.  Its not that Microsoft does not understand the threats but it’s too big and too slow to change and challenge these above mentioned disruptive forces. Does that mean that Microsoft will vanish into thin air some day soon?  Not really, but change is urgently needed at Redmond.

Currently, Microsoft organization looks a lot like IBM of 1970s.  IBM had almost monopoly on the mainframe business and its ‘cash cow’ was add-on hardware services after installation.  With the rapid emergence of PCs (lead by Microsoft), IBM tried several ways to fend off that disruptive force (first with denial, then by building their own OS).  When every thing failed they went through massive restructuring.  IBM evolved from a Mainframe Hardware Vendor into a Software Solution Provider.  IBM of today is vastly different from IBM of 1970s.  I contend that Microsoft will go through some painful metamorphosis similar to that of IBM.  It will be forced to reinvent itself into a new company.  Steve Ballmer is too much of an insider to effectively bring about successful change management.  They need an outsider with new set of eyes and ears.  I personally believe Ray Ozzie will be elevated to a more powerful role to guide Microsoft through these changes.  They may even hire a few executives from outside to bring in some much needed changes.  Microsoft will still be relevant in 2020 but what will be its core competency then, will be interesting to monitor.  The days are numbered for the Microsoft in its current incarnation.   

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