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Ruling puts XP in the cross fire

Bolstered by Thursday's court ruling, Microsoft critics are demanding changes to the Windows XP operating system.

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  Microsoft still in hot water
Mike Pettit, president, ProComp
Microsoft dodged the breakup bullet, but its next big product launch is likely to land in cross fire.

Microsoft's victory special coverage State attorneys general, politicians and other critics pounced on Thursday's ruling to demand stiff remedies to prevent potential antitrust violations on Microsoft's Windows XP operating system, due out Oct. 25. Critics say the company is reverting to old tactics by forcing PC dealers to sell computers with Microsoft's own instant messaging system and other special features instead of those from rivals.

During a conference call Thursday afternoon, attorneys general representing the 19 states that sued Microsoft in 1998 made it clear they wanted the Justice Department to slap the company with harsh remedies to curtail future monopolistic behavior. Although an appeals judge did not agree with the states that Microsoft should be broken up, the essence of the attorneys' general original complaint--that Microsoft illegally maintained its monopoly--was largely upheld.

Richard Blumenthal, Connecticut attorney general, said he hoped the ruling would "change Microsoft's conduct" in the marketplace. He and other attorneys general did not rule out a breakup of the software giant, which controls about 92 percent of operating systems on personal computers worldwide. At the very least, they said, they want the company to reduce plans to bundle popular applications into Windows XP.

New York Attorney General Eliot Spitzer painted the decision as a way to force Microsoft to reduce the scope of Windows XP, the cornerstone of the company's strategy to dominate the Internet and all services offered through it.

He said that if there is a new hearing with respect to remedy issues, it would be relevant to examine how Microsoft expects to position its XP operating system to extend its dominance in other sectors. "Probing Microsoft's behavior and strategy with Windows XP would be important for a judge in terms of understanding the reach of any remedy that is put in place," he said.

The statements accompany mounting complaints from antitrust experts and some tech executives that the Redmond, Wash.-based software giant is still using the type of monopolistic business tactics that sparked the original antitrust case. They say the company's chief sin is still the bundling of features into its operating system.

Instead of the bundled browser that sparked the initial case, critics say the company is now integrating additional functions, such as an instant messaging system and music playback, directly into the OS. Instant messaging is one of the fastest-growing Internet-oriented applications, and Microsoft is scrambling to gain market share from more popular competitors AOL Instant Messenger and ICQ, both owned by AOL Time Warner.

Microsoft also intended to pack XP with Smart Tags, which would have given Microsoft greater control over consumers' Internet use. But executives rescinded that decision Wednesday. The company included its controversial Smart Tags feature in Internet Explorer 6, the Web browser that is bundled with current beta versions of Windows XP.

Spokesman Jim Cullinan said Wednesday that it would be dropped because of "external feedback"--not because of antitrust concerns.

Most controversial is that Microsoft still intends to debut its HailStorm strategy in Windows XP. HailStorm is a collection of services Microsoft hopes to sell, such as keeping track of e-mail contacts and notifying a cell phone when important e-mail arrives. The services are built on top of Microsoft's .Net software and require the company's Passport service for log-in and storage of personal information such as credit card numbers.

Critics say HailStorm is a way for Microsoft to extend its dominance from PCs to wireless devices such as cell phones, handheld computers and wireless pagers. Iowa Attorney General Tom Miller, who is still calling for a breakup of the software giant, said HailStorm is a clear violation of antitrust laws.

"The states believe that recent activities by Microsoft will only strengthen our argument for strong remedies, including a possible breakup," he said. "The company's recent announcements regarding XP and Hailstorm indicate to us that Microsoft may be repeating its efforts to maintain and extend its monopoly even more broadly into the Internet."

The effect of Microsoft's bundling techniques has been broad. Venture capitalists say they no longer fund companies that try to compete in the desktop applications market because Microsoft has a stranglehold on the niche.

"With every release, they roll more and more into the operating system," said Deepak Kamra, general partner at Canaan Partners, a venture firm in Menlo Park, Calif. "Five, six, seven years ago, whole industries were wiped out--start-ups in particular. It's not going to change with Windows XP. Venture capitalists simply aren't funding a lot of companies that are doing desktop products like that, the kind of things Microsoft focuses on. Why would we?"

It's unclear how much weight attorneys general and other critics will have in ultimately deciding on remedies. U.S. Attorney General John Ashcroft did not seem overly enthusiastic about the possibility of breaking up Microsoft in a news conference Thursday.

"We're still working to digest this opinion very thoroughly," he cautioned. "We believe this is a significant victory in terms of the determination made by a unanimous court that Microsoft had engaged in unlawful conduct. But I'm not prepared at this time to indicate what the final outcome to be pursued on the part of the Justice Department is."

Microsoft is also likely to fight valiantly to avoid making significant changes to Windows XP. Microsoft Chairman Bill Gates emphasized Thursday that the company will not reconsider strategies to bundle popular features into its next-generation operating system.

"We're moving ahead with Windows XP as a product that has the features that consumers want," Gates said at a press conference at the company's Redmond headquarters. "There's nothing in today's ruling that changes our plans...including Windows XP."

But he faces a tough fight from the attorneys general. Independent antitrust lawyers say the attorneys have a decent shot at winning--if not a breakup then at least behavioral remedies that require the company to change the XP bundling strategy.

"The attorneys general could get almost everything short of a breakup," said Daniel M. Wall, partner and chair of the antitrust department for San Francisco-based law firm Latham & Watkins. "XP and instant messenger are going to be the first test cases, and it's going to be a big deal. Microsoft, I'm sure, will take the position that it won enough here, such that it doesn't have to give up its right to bundles.

"But there will be some serious debate over that. The attorneys' general chances of winning are pretty good."