Digital media: Will Microsoft win again?

On the one hand, Microsoft is pushing its proprietary Windows Media technologies and its pending successor, dubbed Corona. On the other, RealNetworks, a longstanding supporter of many digital media formats, is joining Apple Computer and other companies in backing open-standard MPEG-4.

Microsoft faces numerous obstacles in this format war, including major resistance among content owners and distributors--such as cable and wireless providers, which are reluctant to hand over a crucial component of their industries to a single technology provider. Movie studios, record labels and cable providers have an enormous stake in backing standards to ensure compatibility between platforms and devices as well as equitable licensing terms.

The stakes may just make the risks of going it alone worthwhile for Microsoft, however, which sees fertile new markets for Windows well beyond the desktop: media servers, cable set-top boxes, handheld devices and other components of the coming wave of digitally powered home entertainment.

"This whole shift to entertainment services will be key, as well as controlling the servers and the file formats. That's what it's all about," said Jupiter Research analyst Michael Gartenberg.

MPEG-4 is a successor to MPEG-1 and MPEG-2, technologies instrumental for delivering digital broadcast transmissions over cable, satellite and the Web. MPEG-2 also is the video standard adopted by Hollywood for DVDs. In addition, MPEG-4 is seen as a possible successor to MP3, the hugely popular audio format for compressing music digitally.

On the proprietary end, RealNetworks and Microsoft each offer video and audio codecs, or formats for encoding or condensing data. Apple is an important player, too, as the company's QuickTime tools are the most popular for authoring digital content.

In this arena, Microsoft's digital media formats are steadily making headway against rivals. The latest evidence came last week, when Web statistics company Nielsen/NetRatings published a report showing Microsoft and RealNetworks neck and neck in the race for supremacy between their competing, proprietary formats.

The close results are partly the result of aggressive strategies by Microsoft that include bundling more functions within its Windows operating system. That charge, in other contexts, has been at the center of unfair-competition lawsuits against the company in the past.

The Microsoft way
Microsoft has yet to commit to fully supporting MPEG-4, opting instead to push Corona and proprietary digital media technologies delivered only on Windows. The software giant claims its new Corona codecs will deliver better quality video and audio using smaller file sizes than MPEG-4. Technically, its media tools will produce the open-source format, but analysts say the process still requires the use of the company's technology to play content.

"Microsoft is positioning its technology to be the preferred technology over Real and MPEG-4," said IDC analyst Susan Kevorkian. "And they've got the distribution platform to do it, and they're doing it for free through Windows server and client applications. That's a huge advantage."

Microsoft hopes to use its Windows monopoly as a launching point for making its file formats the de facto standard for digital content, which is why the company gives away its authoring and serving tools with Windows 2000 server and its media playback software with Windows XP, Gartenberg said. Companies such as Apple and RealNetworks charge for some of these products.

But both Apple's and RealNetworks' authoring and serving tools are available for multiple operating systems, such as Linux, Unix and Windows. Microsoft's authoring and serving software runs only on Windows.

"It's the typical Microsoft strategy, where they use this almost as a Trojan horse to bring something into play," Gartenberg said. "The more ubiquitous it can make its file formats, the more they think that will drive adoption rates. This is a critical, critical effort for them."

Whoever controls the most popular file formats can harness them for selling server software. This is something Microsoft demonstrated with its Office productivity suite, in which the ubiquity of file formats is considered a major catalyst for driving Windows sales.

"Microsoft's main goal with Windows Media services is to sell as many servers as possible," said Directions on Microsoft analyst Matt Rosoff. "That's why it's only possible to host and stream and create Windows Media Format files on Windows servers."

In addition to server sales, Microsoft is to boost sales for Windows XP Embedded to device manufacturers. Jonathan Usher, director of the Windows Digital Media Division at Microsoft, estimated that more than 30 million devices will support Windows Media formats by the end of the year--everything from handhelds to DVD players.

"Microsoft definitely wants Windows Media supported on as many platforms, burned into as many pieces of silicon as it can get," said Meta Group analyst Steve Kleynhans.

Desperate for a standard
The company may run into trouble convincing manufacturers to help it do so. MPEG-4 also appeals to many companies that make devices using embedded chips, such as cell phones or handhelds--a feature that helped win RealNetworks to the MPEG-4 camp.

Content creators can use MPEG-4 and its predecessors to condense large digital video or audio files into smaller ones, which is essential to delivering them smoothly over the Web or to tiny devices such as cell phones. MPEG-4, which has better compression bit-rates than MPEG-2, also adds such features as interactivity, e-commerce and digital rights management to audio and video files.

Forthcoming versions of RealNetworks' authoring and serving software will fully support MPEG-4, said Sharon Goldstein, RealNetworks' product manager for the format. The company's mobile server product already supports MPEG-4, which along with its audio and video codecs will be used on Nokia cell phones and some other wireless or portable devices.

Although RealNetworks is moving cautiously on MPEG-4 with its PC software because of licensing issues, the company is backing the new standard whole-heartedly in the wireless market, an arena where Apple also has established an MPEG-4 beachhead.

Standards figure to play a prominent role in this arena, where manufacturers don't have the flexibility to accommodate multiple and fast changing formats.

"You have devices that cannot be upgraded, where things have to be hard-coded in," Goldstein said.

Red flags are being raised over the potential costs associated with implementing MPEG-4 outside of the handheld market, although there are signs that price concerns may prove short lived.

MPEG LA, the group of MPEG-4 patent holders, wants to institute a per-minute charge for streaming that has been met with a cool reception by potential licensees. Apple, for example, has raised a stink over proposed MPEG-4 licensing. The Cupertino, Calif.-based company introduced QuickTime 6, which fully supports MPEG-4, in February. But Apple delayed releasing the new version because of the licensing scuffle. Then, in an unexpected turnabout, Apple earlier this month released a QuickTime 6 Preview, with CEO Steve Jobs suggesting the licensing issue might soon be resolved.

In addition, RealNetworks relies on an MPEG-4 plug-in from start-up Envivio rather than providing its own. But Goldstein said RealNetworks might directly offer the codec depending on final licensing terms.

"We're still trying to decide what we'll do on the PC side," Goldstein said. "It really does depend on the licensing, because of the economics. We have over 270 million players out there. If there's going to be no cap for price per player, that's a very expensive proposition for us."

Microsoft's Real problem
RealNetworks' support for MPEG-4 may be a crucial turning point in its long-running battle with Microsoft, a fight that until now has focused on its proprietary format. Having held out for years, the company now appears more threatened than ever by Microsoft's relentless competition.

Last week's report from Nielsen/NetRatings showed RealMedia in April reached 17 million at-home viewers, compared with Windows Media at 15.1 million and QuickTime at 7.3 million. At work, Windows Media drew about 12.2 million unique viewers, compared with RealMedia at 11.6 million and QuickTime at 5 million.

Nielsen/NetRatings emphasized that the report used a new methodology that removed a large number of files from the mix, making comparisons to previous studies moot. Nevertheless, the new study appeared to show Microsoft in a much stronger position relative to RealNetworks than previously had been believed.

"We're really running about neck and neck with Real in terms of usage; I'm talking about the number of users," Microsoft's Usher said. "Some months we're ahead. Some months they're ahead."

RealNetworks has responded to Microsoft's bundling efforts partly by shifting its strategy from controlling the technology delivery platform to delivering content. RealNetworks has cut exclusive contracts with CNN, Major League Baseball and other content providers for delivering content in RealNetworks' format.

While Microsoft's Windows monopoly is a huge asset, it faces almost certain rebellion from Hollywood studios and record labels fearful of leaving one company in charge of providing a technology as fundamental as digital formats.

"There's going to be a huge battle for the content folks," Jupiter's Gartenberg said. "But the content folks, the big record labels and entertainment companies, are reluctant to get into bed with Microsoft."

Ultimately, however, analysts don't believe RealNetworks can control formats through exclusive contracts long enough to thwart Microsoft's monopoly leverage. Since consumers don't care about the format so much as the viewing experience, many analysts said they believe MPEG-4 is the only possible check on Microsoft's strategy of giving away Windows Media tools and software for free and wooing device manufacturers into supporting its codec.

Gartenberg is not alone, particularly considering the importance of RealNetworks getting behind and staying behind MPEG-4.

"I don't think you can distinguish competing against Real from competing against MPEG," Kevorkian said. "I think it's all the same ball of the wax in the end."