The decision,by European Competition Commissioner Mario Monti on Wednesday, requires Microsoft to offer two versions of its Windows operating system: one with the Media Player audio/video software and one without it.
The ruling is intended to prevent Microsoft from shutting out rivals in the media software market, including RealNetworks and Apple Computer, by bundling its Media Player software with an operating system that is used on more than 90 percent of the world's PCs.
"That's exactly what they are worried about--that precedent. They don't want to have to think about, 'Well can we improve Windows in this way, or will this trample a third party?'" said Matt Rosoff, an analyst at Directions on Microsoft.
The EU has sought to establish a general rule that governs how Microsoft uses Windows to deliver new technologies against competitors. Failure to agree on that common formula led, in part, to the dissolution of settlement talks last week, according to a Microsoft representative.
In a conference call with reporters on Wednesday, Microsoft CEO Steve Ballmer downplayed the impact of the EU decision on Longhorn. "We're not doing anything different than we were yesterday in terms of how we think about new design," Ballmer said. Ballmer, and Microsoft General Counsel Brad Smith, said the company's development efforts already have been influenced by a consent decree in the earlier antitrust case in the U.S.
"We've had lawyers already giving legal advice to our development teams about the future development of Windows," Smith said. "That advice would change if and only if the European Commission is saying that the law in Europe is now different than the law in the United States."
Microsoft, whichin an earlier antitrust case that it had the right to bundle a "ham sandwich" or anything else into Windows, says it should be free to integrate new features as it sees fit and that those features benefit consumers and the industry at large.
Even if the EU's ruling is overturned on appeal, Microsoft won't completely be in the clear. "While Microsoft can and will appeal, its competitors will be ready to wield the preliminary findings against them at each and every opportunity," O'Grady said.
The software giant has made no secret that the next major version of Windows is expected to include new technology for home entertainment, Internet search, instant messaging, mobile technologies and other areas.
The Longhorn release of Windows builds on a strategy CEO"integrated innovation," shaping virtually all Microsoft's product plans for the next several years. "We see and deliver unique customer value because of integration," Ballmer wrote in a corporate strategy memo last summer.
Still in early stages of development, Longhorn is expected to debut circa 2006, with these key technologies integrated into the operating system:
Search: One of Longhorn's most heavily touted features, in development, is its ability to help people find and retrieve information more quickly. The software underlying that feature, code-named WinFS, will allow customers to search the Web, e-mail and desktop applications such as Microsoft Word. More importantly, Microsoft is investing more than $500 million in that could be easily link to Longhorn's desktop search technology. Such a one-two punch could allow the software giant to capitalize on the dominance of Windows, challenging Google and Yahoo.
Storage: Because WinFS includes at least some technology borrowed from Microsoft's SQL Server database, analysts said the move could be interpreted as a bundling of database software with Windows. Given the EU decision, that could be enough for competitors to claim that the move is anticompetitive.
Audio and video: Microsoft is working on technology that goes beyond simply playing music and videos. New software that Microsoft has already demonstrated will make it easier to store, catalog and retrieve audio and video clips through a more flexible, 3D application that builds on Longhorn's storage capability. Combined with Media Player--either packaged with Longhorn or offered separately--the software could give Microsoft a decisive edge over RealNetworks, Apple and other competitors.
Online music: In addition to competing with rivals over media player software, Microsoft has already announced plans toin the second half of this year. That service could at some point be bundled with Windows. Microsoft has not commented on its plans.
Application development: The server version of Longhorn will go beyond today's Windows Server 2003 software to include a full application server--including transaction management, better integration support and a new release of Microsoft's .Net architecture--built into the operating system. That strategy targets rivals that make standalone application servers and integration software, such as IBM, Sun Microsystems and BEA Systems.
Speech recognition: Microsoft plans to embed speech recognition software into Longhorn. The software will let people vocally control some features of Windows, such as navigating menus and opening documents. IBM and some smaller companies offer speech recognition software for Windows at present.
Security: While most customers will welcome additional security tools in Windows, Microsoft rivals likely will not. Longhorn will introduce Microsoft's Next Generation Secure Computing Base, formerly known as Palladium. The software, among other features, will automatically monitor system and network security threats and take evasive action. That action could duplicate some of the functions contained in antivirus software from Symantec and other security technology companies.
Mobile: Microsoft has already begunto link the company's MapPoint mapping software to cellular phone networks, in order to provide location-based services. Longhorn will accelerate that plan by improving ties to mobile devices through new software, code-named Indigo, that's being built into the new operating system.
Messaging: Longhorn builds on Microsoft's thrust into the real-time communications market, which it kicked offwith a product called Office Real Time Communications Server 2003. Indigo will include real-time messaging services that could give Microsoft an advantage over IBM, Sun and other companies that make corporate instant-messaging software.
Before the ruling, Rosoff said the key for Microsoft will be in the precise wording of the EU's decision. If the ruling is fairly narrow, restricting Microsoft's bundling options in one or two specific areas, he said, it won't dramatically affect future products. Conversely, a broad decision could conceivably be applied to virtually any area of Microsoft's business.
"The devil is in the details," Rosoff said. "The EU has to find a way to regulate the company that will not totally stymie all development for Microsoft."