Microsoft eyes ads as consumers close wallets

Software giant gets only about $2 for each copy of Works on new PCs, and there is no money in Money, CNET has learned.

Although Office and Windows continue to produce vast revenue and profits for Microsoft, some of the company's other well-known consumer titles are generating only a trickle of business.

According to internal documents seen by CNET, Microsoft gets only about $2 for each copy of Works that is bundled on new computers. The standard version of Money isn't even a break-even proposition, and the company has had to heavily discount its OneNote application in order to get computer makers to include it.

Microsoft predicts that things won't improve from here, either.

"The outlook for the packaged consumer retail software market is poor," MSN workers said in an internal strategy paper seen by CNET "The size of the market is shrinking, and consumers appear less willing than ever to buy software applications off the shelf."

In the paper, Microsoft said that worldwide sales of full packaged software--which includes Works, the Encarta encyclopedia, digital imaging software and Money--dropped by 7 percent in fiscal year 2004. In addition, the company said it was seeing similar trends for fiscal 2005.

The tepid forecast, combined with concerns that others might offer free versions anyway, is prompting Microsoft to take a hard look at selling free, ad-supported versions of many of its consumer titles, like Works. And, in some cases, the numbers may well add up.

Calculating that the average person keeps their copy of its entry-level productivity suite Works--a kind of "Office lite" for consumers--for about three years, Microsoft reasoned that it wouldn't take a lot of ad revenue to justify moving the product to an ad-driven model.

"That means that if ad revenues exceed 67 cents per year, we could actually give Works away and still make more money," two Microsoft researchers and one person from MSN stated in a paper presented to Chairman Bill Gates at a Thinkweek brainstorming session earlier this year.

Microsoft is not alone in seeing its consumer business trail overall software spending. IDC estimates that consumers worldwide spent $4 billion on software last year, and that total is pegged to reach $4.7 billion by 2009--a compound growth rate of just more than 3 percent.

By contrast, global packaged software revenue is much larger--$91 billion in 2004--and projected to grow to a healthy $120 billion by 2009.

Software revenue chart

Consumers just aren't seeing enough value in what's inside most software boxes, IDC analyst Albert Pang said. With programs like Excel and Word, Pang said, most people just use a fraction of the features and aren't willing to shell out big bucks.

"Only professionals are willing to pay the full retail price for the software," Pang said. "Somehow, somewhere, a better strategy needs to be developed to expand the market," Pang said.

Members not wanted
The MSN strategy paper argues that subscriptions are not the way to go, pointing to the success of Google's ad-supported Gmail. If Google's Web mail service is successful, Microsoft estimates the annual revenue per subscriber could top $20 per user, leaving "no room left at all for mass market consumer subscription services."

Instead, the paper points to nontargeted advertising as the way to go to pay for basic, low-cost services.

"High-cost services (many of which are currently paid) will be funded by an exchange of user information that will allow better targeted advertisements," the Microsoft paper contends.

The software giant has confirmed that both papers are genuine, but has declined to comment further. A Microsoft source noted that both papers represent internal brainstorming around new business models and that no decisions have been made.

In the MSN-drafted paper, Microsoft points to controversial adware maker Claria, noting that Claria claims ad rates six to 20 times those of traditional Web advertising because of its ability to target to a user's activity. Microsoft was said to be in talks to buy Claria earlier this year, though no deal was announced.

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