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Microsoft deal: A remedy that pleases few

Part of the problem, say Wharton professors, is the difficulty of finding remedies that are both effective and don't cause injury. And it's a dilemma that's only going to get worse.

For Iowa Attorney General Tom Miller, the real issue in the long-running Microsoft antitrust case is "getting it right."

"Ultimately," said Miller, one of nine state attorneys general who did not sign on to the Nov. 2 settlement between Microsoft and the U.S. Justice Department, "the issue is whether there will be fair competition in a crucial technology sector for years to come. The courts have determined that Microsoft broke the law. And now the issue is whether we will get a remedy that restores and ensures lawful competition. We need to get it right."

That, of course, is easier said than done. Under the controversial Nov. 2 settlement, Microsoft has agreed to give computer makers more freedom to run software on their machines that is made by Microsoft rivals; in addition, Microsoft will share the inner workings of its Windows operating system with other software makers. The agreement was the latest round in the federal government's 11-year investigation into Microsoft's business practices and effectively ends the Justice Department's 3-year-old antitrust case against the company.

The early consensus on the Nov. 2 settlement is that Microsoft came out on top. That also seemed to be the verdict on Wall Street. Immediately after the proposed deal was announced, Microsoft stock jumped $3.69, or 6.3 percent, and lifted share prices in general. The feeling seemed to be that Microsoft's $350 billion business would continue undivided--and relatively unfettered--well into the future.

"Who's the winner?" asked Eric Clemons, professor of operations and information management (OPIM). "Well, it's Bill Gates, as always."

"Will this settlement make a big difference?" asked Ravi Aron, also an OPIM professor. "I doubt it. Does this settlement in any way prevent Microsoft from bundling? It's not clear."

Scott McNealy, archrival of Bill Gates and chairman of Sun Microsystems, said the agreement "signals a retreat by the federal government and a defeat for consumers." Massachusetts Attorney General Tom Reilly, echoing other state attorneys general, called the settlement "fundamentally flawed," pointing to "enormous loopholes" that "may prove to be more harmful than helpful to competition and to consumers."

Microsoft did not respond to an interview request, but Chairman Bill Gates issued a statement after the settlement saying, "While the settlement goes further than we might have wanted, we believe that settling this case now is the right thing to do to help the industry, and the economy, to move forward."

A long and tangled legal trail
Since 1990, when the Federal Trade Commission first started investigating Microsoft's business practices, the company has continued to fight--and win--a series of high-stakes legal battles with trustbusters. Even a consent decree signed in 1993 by Bill Gates that was meant to rein back Microsoft's business tactics failed to achieve that goal.

Then in April 2000, the Justice Department won a strong antitrust court decision against Microsoft that, in essence, found the company guilty of anti-competitive practices. U.S. District Judge Thomas Penfield Jackson specifically cited Microsoft's illegal monopoly in operating systems. Two months later, Jackson ordered the breakup of Microsoft.

In June 2001, the U.S. Court of Appeals in Washington, D.C.--in a ruling that has largely been ignored by the Justice Department in its Nov. 2 settlement--found that Microsoft violated antitrust laws by using its monopoly power to bully computer makers, drive rivals out of business, and quash competition. Specifically, the Court of Appeals found that Microsoft engaged in unlawful exclusionary conduct by prohibiting computer manufacturers from supporting competing "middleware" products on Microsoft's operating system. "Middleware" refers to browsers and other software that run such things as movies and music recordings.

The court also found that Microsoft prohibited consumers and computer manufacturers from removing the software giant's middleware products from the operating system and that the company reached agreements with software developers and third parties to exclude or disadvantage competing middleware products.

But the court also threw out the order to break up Microsoft. It sent the case back to a lower court to determine the appropriate punishment.

Instead, to the dismay of critics who had thought that Microsoft's heavy-handed tactics had finally been dealt a death blow, the Redmond, Wash., behemoth and the Justice Department made a deal. The proposed five-year settlement focuses primarily on giving computer makers more power to offer consumers non-Microsoft products such as rival Internet browsers, Internet service providers and media players.

The settlement also gives software developers increased ability to create rival products by requiring Microsoft to reveal technological secrets about the inner workings of Windows so competitors can ensure that their products will work as well as Microsoft's own.

Experts and critics say, however, that the new restrictions are much weaker than those that were included in a settlement offer proposed last year before Microsoft had been found liable for breaking antitrust laws. In addition, the settlement does not expressly require Microsoft to acknowledge that it committed any antitrust violations.

To complicate the issue and ensure continued legal wrangling for months to come, nine of the 18 states that had joined the government's case have refused to accept the settlement and will file their own proposals this week.

No agreement can take effect without the approval of a federal judge, and it is unknown how U.S. District Court Judge Colleen Kollar-Kotelly might react to the concerns of the nine opposing states. It is also uncertain whether her approval of a settlement would prevent the states, which may seek reimbursement from Microsoft for more than $15 million in legal fees, from proceeding with their own antitrust lawsuit against Microsoft. To approve the proposed Nov. 2 settlement, Kollar-Kotelly would have to find that it was in the public interest. The case is in the middle of a 90-day comment period, at the end of which Kollar-Kotelly will issue her ruling.

No easy remedies
Attorney General Miller is one of many who question whether the settlement hammered out after "days of round-the-clock negotiations really accomplishes what it purports to do?Numerous provisos and exceptions in the settlement may undercut or even swallow up the protections it contains. That's why we are going forward with the remedy phase."

Critics of the settlement acknowledge that there are no easy solutions to the Microsoft dilemma. "It's like they are locking the barn door after all of the horses have gotten out," Aron said. "Microsoft has more than 90 percent of the operating systems market and 90 percent of the office software market. If you stop them now, what are you going to gain? The question then becomes what happens in all of the other (areas) where Microsoft is (doing) very well and where it wants to become the standard, like it has in operating systems. The trick is becoming a monopoly without using anti-competitive practices."

Added Clemons: "If you believe there was no damage, then there shouldn't be a need for a settlement at all. If you agree there was damage, then is the compensation sufficient to make restitution? I happen to be one of those people who believe that there is significant damage. The Department of Justice has established that. I don't see that the amended decision provides any assurance against future abuse. If there was abuse, and I believe there was, then the settlement is wholly inadequate."

"The main problem that has always faced the court, Justice Department and Microsoft," said Dennis Yao, professor of business and public policy and a member of the Federal Trade Commission from 1991 to 1994, "is that there is no suitable remedy that doesn't do more harm than good. The Justice Department doesn't like remedies that are regulation-oriented and that require continued oversight. That's why they were interested so long in a structural remedy and a breakup. But they have given up on that."

To Gerald Faulhaber, professor of business and public policy, a good remedy just doesn't exist. "This was a case with no good remedy in any way," he stated. "It might have very well been the case that Microsoft did bad things. I think a good case can be made that they did. The issue, then, is what to do about it. I don't think there is a good answer."

The settlement does not expressly require Microsoft to acknowledge that it committed any antitrust violations. As far as similarities between this case and the landmark AT&T breakup, Faulhaber said there aren't any. "The AT&T case made some sense as a divestiture decision, but it didn't make sense with Microsoft. This settlement didn't do what it was supposed to do to separate monopoly vs. anti-competitive practices. So what exactly will it do? Where we have gone is to a behavioral, not structural, remedy which says 'don't do these bad things' in an attempt to keep Microsoft from some of its anti-competitive practices. But to be effective with this you almost need a regulator watching it all the time. These conduct and behavioral remedies just aren't enough because Microsoft's track record is that it will always find a way to get around them."

A possible solution--although a drastic one--to the Microsoft monopoly issue was missed years ago, according to Faulhaber. "The only possible thing to have done was to have jumped in early and forced the company to open up its Windows code so everyone could see it. It would have been an aggressive (move). We didn't do it."

Looking at the future, "how do we deal with the New Economy firms like Microsoft in terms of antitrust?" Faulhaber asked. "Are they home free? How do we deal with the New Economy in the long run? There are some very important issues, and we don't know the answers. Working with a standard is important, but if you do then you will have these short-term and long-term monopolies."

Finding new markets to dominate
Another New Economy company involved in this drama is AOL Time Warner, which has been very critical of the Nov. 2 settlement. It "does too little to promote competition and protect consumers, and can too easily be evaded by a determined monopolist like Microsoft," the media giant said.

"Then what do we do with AOL?" Faulhaber asked, noting that AOL is similar to Microsoft in that they both dominate their markets. "We can't deal with firms like these the same way we did with the auto and oil companies. In contrast to autos and oil, these new markets are driven by innovation with big network effects. With AT&T we could simply regulate it. We can't do that here because it hurts innovation."

Five years from now, said marketing professor David Reibstein, what the Microsoft case may have accomplished is to "instill within the company a caution they may not have had previously. Unlike IBM, which in the regulatory environment of the 1970s was very conscious of its actions and made sure to manage its market share to keep it below a certain point, Microsoft was born in the 1980s, which was a Republican decade, under different rules. Because of that, Microsoft didn't develop the kind of consciousness IBM did."