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April 07, 2005

Giving MCE Away Continued

Thomas Hawk has some insightful criticism of my post yesterday where I suggested Microsoft should give MCE away as a free download. It's well worth reading all of Thomas Hawk's comments, but his main contention is that Microsoft would balk at giving it away. Here's the gist:

With regards to giving the software away, although this would be quite exciting, I don't think that Microsoft would go for it. Microsoft LOVES XP and Office. These are cash cows at the company. Despite what they may say, they HATE IE and WMP. IE and WMP were built out of desperation. These were defensive products primarily designed to help lock down the cash cows that are XP and Office. LOVES and HATE are too harsh of words of course but I'm using them here for sensationalistic effect to make a point.

Gates sees the tv thing as really really big. He's put a lot of his own time and energy into pushing it. If you give it away today you set a precedent where MCE cannot really be a cash cow of the future. If you gave away the application that is MCE people would just load it on to their existing XP operating system PCs. Microsoft doesn't want that. They want to sell you an entire second operating system and get the dough that comes along with that. And if MCE is as big as it is in Gate's head (and this is much bigger than the folks at Jupiter would guess) then giving away the software doesn't make sense to him.

I would not disagree that these insights reflect the mood at Microsoft, but let me defend my suggestion that it would be a sound business move by Microsoft and my reasoning behind it. Let's look at the costs and benefits.

To start, let's look at the opportunity cost of giving it away for free. I can almost guarantee that PC vendors pay a premium for bundling MCE 2005 instead of Windows XP, so if MCE were freely downloadable, MS loses that incremental revenue. Second, assuming that it is used as an enticement for users to upgrade to a future version of the OS which contains the features of MCE, there would be a loss of incremental sales of those users who wouldn't upgrade except for the desire to gain those features.

I concede that there is some loss of revenue, but how much is a real question. I'd say that the large percentage of PC vendors who now bundle MCE 2005 would continue to bundle Windows XP, so we're talking about the incremental difference. As far as the potential loss of people unwilling to upgrade to a new OS because "Windows XP plus MCE" is good enough may add up for early upgraders, but over time, I think these sales would be recouped.

If anything, I can see the argument that more users who wouldn't have upgraded to "New OS with MCE" would be more likely to upgrade to "New OS" since they got hooked on the free MCE. The old meme, supported by the Jupiter Research is that you don't really "get" the value of a DVR until you've actually used one. These users would in effect upgrade their system because they like MCE and want increased performance, better compatibility or stability, or additional MCE features that "New OS" required.

Of course there are other costs associated with MCE like the Programming Guide service that MS is likely licensing from a third party. I honestly don't have a feel for how much this costs MS, but I want to throw it into the mix. There are certainly ways to offset this, including the Tivo/DirecTV approach of limiting the Basic free service of only 3 days advanced programming vs a small monthly or single lifetime fee for premium guide data. As unit volumes go up, I would assume that this licensing fee would go down at least by driving more competition into the market to vy for the MS business.

To understand the benefits of giving away the MCE technology, I think you have to look at the value of owning a significant marketshare of the DVR usage. After you get past the basic features of the DVR such as pausing live television and automatic recording of "Desperate Housewives", what you find is that the DVR is really the user interface for your television, and the value for a company to have some limited control over that is very large. In some ways, the DVR is both web browser and web portal combined for home entertainment. As Google and Yahoo found out that there is money to be made in advertising by giving services away for free, scaling up to a large active customer base opens up many doors.

Thomas points out that Windows Media Player has been downloaded by 90 million users and that many at Microsoft give it short shrift compared to Office. That may or may not be appropriate for WMP which has a limited ability to catch advertising revenue, but MCE has the potential of being the Yahoo or Google of the television experience.

Ignoring the Orwellian features that could be implemented in DVR technology that would be of high value to advertisers, there are plenty of advertising and partnership opportunities. Tivo has had a tough time making money from advertisers but undoubtedly it would be significantly easier for it or others to do as the customer base grows. I have to believe Microsoft, with a large installed DVR base, would be more adept and have more marketing power to effectively sell advertising, particularly if it didn't care about future partnerships with MSOs.

I'm not the only one that believes DVR technology can be given away as a profitable business. Look at the MSOs which will give you both the hardware and software with only a small monthy stipend. I doubt the $5 a month rate MSOs like Comcast charge are covering the costs involved, and yet I doubt they are doing it simply for the benefit of mankind. In the MSO case, there are other factors involved such as retaining existing customers and attracting new ones, but I don't think that tells the whole story. I believe they too want to own the television experience.

I don't doubt Thomas Hawk's overall conclusion that it is an unlikely approach for Microsoft to take. Even if they were amenable to the idea, the anti-trust litigation fatigue may be enough to sink the idea. I would continue to argue however, if you want to change the "MSO wins the DVR war" equation, giving away MCE has the best chance of success for Microsoft.

Posted on April 07, 2005

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Comments

Comcast also charges disgustingly over-inflated cable service rates on TOP of that "small monthly stipend".

If you ask me, Comcast and their ilk are just as bad Ma Bell was back in the day.

The only difference is they have localised monopolies, instead of nationwide.

But anyways, I'd rather spend the $500 or so to build a PVR than give any more money to Comcast than I have to.

Posted by: tsal at April 7, 2005 02:50 PM

Interesting. The proposition that the ultimate hidden advertising value of a DVR vs. WMP certainly merits examination. The ability to target advertize with precision is indeed valuable and more market share to capitilize on more advertising indeed may be one model. Charlie Owen was chatting it up on Ian Dixon's Media Center podcast last week about that very thing, targeted advertising.

My suspicion is though still that Microsoft is all about selling Office and operating systems. The problem with giving MCE away is people would then have no incentive to buy a new operating system. If they gave it away and it worked on XP, people would just turn their second PC that they already have at home into a MCE machine with the free software. No, Microsoft wants to sell you an additional operating system. It's all about selling you one more version of XP than you already have.

Microsoft doesn't want you to simply take your current PC where you've already bought the operating system and add MCE. They want you to buy a second copy.

You are right about the cable companies. Their subsidization is defensive. The reason why the subsidized model works for the cable company is that they are already getting $80 a month from you on a continuing basis. This revenue stream is huge. They damn well better do whatever it takes to keep you. The low monthly pricing is purely defensive. Same with satellite. Microsoft on the other hand has no huge monthly revenue stream to subsidize the software. Cable and satellite operators fear nothing more than churn. Churn costs them money as they do subsidize equipment and service. It was recently suggested that one of the main reasons why Comcast struck the deal with TiVo was because they saw that DirecTV TiVo users had lower churn than standard DVR or non TiVo DirecTV customers. Cable operators are all about protecting that valuable subscription in the same way as Microsoft is all about protecting their Office and operating system franchise.

You are right though Will. The unknown is the future value and power of owning the customer eyeballs. And in the same way that clicks count for Google and Yahoo! and most of the internet properties, certainly there is a value to any company of owning your living room. Flickr gave everything away and Yahoo! still ponied up and paid for them. Given enough users and even without revenue the potential for some future way to monetize those eyeballs is always worth something. This is the same reason why AskJeeves bought Bloglines. Bloglines has no ads, makes no money, but has a boatload of users and there is also huge research value (as there would be with monitoring tv viewing habits) towards knowing what certain people subscribe to by RSS.

I just don't think that Microsoft is willing to give up the business model of selling operating systems that they know and love for the prospect of doing something really huge. The old a bird in the hand cliche and all. And plus they can still do those same type of target advertising with their customers who pay -- Microsoft actually thinks that they are going to get 20 million of these people by 2008. JupiterResearch of course would disagree.

In some ways it's disappointing because it would be really exciting and the growth would be phenomonal. But unless Microsoft really truly believed that they could make more money doing it this way (and certainly one could make a case that advertising, research and the future unknown monetization value are compelling) I'd be surprised to ever see it.

Some start up on the other hand with nothing to lose and venture money to burn of course might feel differently.

Great work and very insightful analysis on your part.

Tom

Posted by: Thomas Hawk at April 7, 2005 09:02 PM

A few comments... I actually kind of disagree with Tom on this issue. MCE 2005 is not really a new OS (although it is marketed as such); it's really just a dressed up version of WMP running on stadard XP installation (plus the somewhat non-standard tuner and sound card drivers). They have no problem giving away WMP, so the only reason why they should hesitate with MCE (at least on a financial level) is the monthly fees paid back to the IPG service (in this case TMS). Well, we've looked at TMS, and the short of it is, this guide data is actually pretty cheap (sub a penny per subscriber per month in many situations.) While this is an ongoing expenditure for MS, they could literally add $20 or something to the cost of the OS and recoup much of this ongoing annuity. (Or they could just buy someone like TitanTV and be done with it.) Or they could just offset these costs with a basic advertisement that sat within the IPG somewhere if they're really concerned about MCE breaking even.

Anyway, so as to Tom's point of MS trying to make cash on every application, I'm not sure that's entirely true. MS has a habit of giving away a lot of products to try to cement market dominance and leverage their core OS (IE, Messenger, WMP, etc..). The trouble is that in order to monetize the free MCE installations, they would have to rely upon advertising and content sales through the network. This tends to put them in direct competiton with the MSOs to which they're trying to sell Foundation (and other IPTV products). I think that probably has as much to do with the MCE price premium as anything.

Posted by: Alex Rowland at April 8, 2005 04:10 PM

I think your Blog just ate my post.

Posted by: Alex Rowland at April 8, 2005 04:14 PM

I hope it didn't eat your latest comment, Alex. Your first comment was really insightful.

I think it all comes down to what MS thinks it can achieve with partnerships. It seems like MSOs eye Microsoft with suspicion and if you add in the WebTV years where bundling seemed like a no brainer, they've had a harder time than Tivo finding the right relationship with MSOs.

The other side of the equation is how much they really feel they can penetrate the DVR space by giving away MCE. I think there is a legitimate argument that a PC based DVR is more complex and instable than a standalone unit, and that market penetration wouldn't be great even if they did give it away. If you hitch your horse to that argument though, I don't see how you think MCE would sell more OS upgrades.

Another thought on my "giving MCE away might sell more upgrades of new OS" argument might be adding support for HDTV only in "new OS". If "New OS" was the only path to MCE-based HDTV, that would be a big incentive for users of "free MCE" to upgrade, without diminishing the feature set of "free MCE" such that it wasn't worth the effort to setup and use.

Posted by: Will at April 9, 2005 10:00 AM

If you think of MCE as a PVR replacement, then you're right. But I don't think that's how MS sees MCE. MCE is the server on the LAN (Apache of the home network), not the client. XBox is the client (read: PVR killer.) But then again, I also don't think this is a smart strategy. The home network of the next decade will be completely decentralized.

And I don't think WebTV failed due to suspicion about MS. WebTV failed because it sucked.

Posted by: Alex Rowland at April 10, 2005 12:03 AM

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