Microsoft ruled a monopoly / Court finds firm abused its power

http://www.sfgate.com/news/article/Microsoft-Ruled-a-Monopoly-Court-finds-firm-2899336.php

Microsoft ruled a monopoly / Court finds firm abused its power

Summary of main article

In a stunning setback for Bill Gates software empire, the judge in the Microsoft antitrust trial ruled yesterday that the software giant is a monopoly that wielded its power to stifle competition. Federal law generally bans companies from maintaining monopoly power through illegal business practices, but not from achieving success by selling popular products or making shrewd business decisions. A defiant Gates, appearing at a news conference in Seattle, defended his company's business practices. "Microsoft competes vigorously and fairly," the firm founder and chairman said. However the judge in the antitrust trial wrote that Microsoft has demonstrated that it will use its prodigious market power and immense profits to harm any firm that insists on pursuing initiatives that could intensify competition against one of Microsoft's core products," He continued: "Microsoft enjoys so much power in the market that it could charge higher prices for its Windows software, and some innovations that would truly benefit consumers never occur for the sole reason that they do not coincide with Microsoft's self-interest."

Founded by Bill Gates and Paul Allen on April 4, 1975, Microsoft is the world’s largest software maker measured by revenues. It is also one of the world's most valuable companies. Microsoft has captured 90 percent of the personal computer operating system market with Windows and 73 percent of the Web browser market with Internet Explorer. Does this mean that Microsoft is being run as a monopoly (or, at least, a near-monopoly)? Let’s have a closer look at things.

In the year 2000, Microsoft was found guilty of violating the Sherman Act by taking several unlawful actions designed to maintain its monopoly of operating systems for personal computers. A lower court ordered that Microsoft be split into two competing firms. However, the court of appeals upheld the lower-court finding of abusive monopoly but rescinded the breakup of Microsoft. Instead of the structural remedy, the eventual outcome was a behavioral remedy in which Microsoft was prohibited from engaging in a set of specific anti competitive business practices.

Some major issues that are brought up in the antitrust case are:

        (a)    Monopoly

        (b)   High barriers to entry

        (c)    Lack of alternatives

        (d)   Threat to partners

        (e)    Monopoly through pricing

        (f)    Monopoly through technology

  

      According to the case study of Microsoft, which can be seen in this link, http://www.scribd.com/doc/26240599/Case-Study-of-Microsoft, even though the Department of Justice (DOJ) alleged that Microsoft has exerted monopoly power in the market, the end result of the case is that Microsoft has been ruled as not guilty of being a monopoly. A monopoly is a market with firm that produces a good or service for which no close substitute exists and that it is protected by a barrier that prevents other firms from selling that good or service. Next issue that arises in the court case is high barrier to entry. Microsoft is said to currently have approximately 70000 software applications in the market. Therefore it is difficult for another company to enter the market easily. Moreover, lack of alternatives can be seen where software developers produce software that is compatible only in windows and that windows has the largest market share. In addition, threat to partners is also one the issue discussed in the case. For example, several companies’ transacted business with Microsoft and Microsoft practices intimidation and threatening because these companies claimed that Microsoft forced them to close their software developments that are competing with Microsoft applications. For monopoly through pricing, the Department of justice claimed that Microsoft has set low prices for their products in the market. The reason to this could actually be due to the economies of scale, where Microsoft gain more output for a given input by using large machines to produce their products. Lastly, it’s monopoly through technology. Microsoft is believed to have exerts monopoly practices by using the latest technology and software to improve their products in order to nick ahead of their rivals in the computer software market. This can be explain in terms of economies of scope, where when Microsoft increases the range of products being produced, the cost of producing each one reduces. This enables them to produce more goods or products at a much lower cost (cost of production).

Monopoly arises for two key reasons, which are no close substitute and barrier to entry. If a good has a close substitute, even though only one firm produces it, that firm effectively faces competition from the producers of the substitute. A monopoly sells a good or service that has no good substitute. For example, software developers produce software that is compatible only in windows enabling only Microsoft’s products to be sold in the market. Meanwhile a constraint that protects a firm from potential competitors is called a barrier to entry. There are three types of barriers to entry, which are natural, ownership and legal. A natural barrier to entry creates a natural monopoly where a market in which economies of scale enables one firm to supply the entire market at the lowest possible cost. An ownership barrier to entry occurs if one firm owns a significant portion of a key resource, in this case, Microsoft controls the software market and has thus far captured almost 90 percent of the personal computer operating system market with Windows while a legal barrier entry creates a legal monopoly: a market in which competition and entry are restricted by the granting of a public franchise, government license, patent, or copyright.

A major difference between monopoly and perfect competition are that monopoly is the price maker (controls the total quantity supplied and thus has considerable control over price), while perfect competition is the price taker (no control over price). In doing so, the monopoly faces a market constraint: To sell a larger quantity, the monopoly must set a lower price. There are two monopoly situations that create two pricing strategies: (a) single price and (b) price discrimination. A single-price monopoly is a firm that must sell each unit of its output for the same price to all its customers. Other price-setting strategy of a monopoly firm is price discrimination. When a firm practices price discrimination, it sells different units of a good or service for different prices. For instance, Microsoft sells its Windows and Office software at different prices to different buyers. Microsoft gave OEMs (Original Equipment Manufacturer) an incentive to distribute Microsoft products with every computer sold. They gave the best prices for Windows to those OEMs that also sold or distributed Microsoft’s other products.

All the issues and characteristic mentioned above are showing that Microsoft is practicing some business strategies that are of a monopoly. Next, let’s take a look at some other characteristics which are actually pointing that Microsoft is not a monopoly.

Microsoft faces a great deal of competition, from existing firms and from potential new entrants to the market. For instance, Microsoft faces competition from existing operating systems that run on Intel-compatible hardware such as OS/2, BeOS, Linux, UnixWare, Solaris, and so on. Microsoft also faces competition from operating systems running on other hardware, such as the Macintosh (Apple) and proprietary hardware from other firms. Furthermore, Microsoft actually prices Windows at a cheaper price because of several types of substitution available in the market, such as Apple’s Macintosh. In addition, the elasticity of demand for Windows is similar to that of many narrowly defined brands for which there are many substitutes. Therefore, it appears that Microsoft sets its prices as if it believes that it faces the kind of highly elastic demand curve that characterizes firms that produce products for which there are many readily available substitutes. And even though Microsoft charges low prices for Windows, it has steadily improved the quality of its operating system not because it is benevolent but because of vigorous competition that has forced Microsoft to behave this way. Microsoft has also faced plenty of competition since it released its first operating system in 1981, and it continues to face competition till today. Following all these characteristics, Microsoft is still not being a natural or pure monopoly in the market.

Therefore, some characteristics of Microsoft, in terms of the strategies they adopt for their business activities leads to a monopoly while some of it doesn't. For example, Microsoft practices a natural monopoly's characteristic when they sell their software products to the suppliers for different prices whereas they doesn't practice a natural monopoly's characteristic when they charges relatively low prices for Windows and faces plenty of competition in the market with companies such as Apple and IBM. In a nutshell, I believe that Microsoft is not a monopoly. The reason is because (1) they haven't captured full control of personal computer operating system market (90% only). (2) They face plenty of competitions in the market with companies like IBM and Apple. (3) They charges relatively low prices for Windows.