Judge Rules That Microsoft Violated U.S. Antitrust Laws


A federal judge ruled Monday that Microsoft Corp. wielded its monopoly power over
operating systems for personal computers in violation of federal antitrust laws.

U.S. District Judge Thomas Penfield Jackson found that Microsoft maintained its
monopoly in operating-systems software by anticompetitive means and attempted to
monopolize the Web-browser market by unlawfully "tying" its Internet Explorer Web
browser to its Windows operating-system software. Judge Jackson also found that
Microsoft could be liable under state anticompetition laws.

"Microsoft's anticompetitive actions trammeled the competitive process through
which the computer-software industry generally stimulates innovation and conduces
to the optimum benefit of consumers," Judge Jackson wrote in a 43-page ruling.

The ruling did have one bright point for Microsoft: The judge concluded that the
facts in the case don't support the government's allegation that Microsoft's
marketing arrangements with other companies "constituted unlawful, exclusive
dealing" under federal antitrust law.

In all, the judge accepted 23 of 26 arguments brought forth by the 19 states that
joined the federal government in the case.

Ahead of the ruling, shares of Microsoft tumbled, falling $15.375, or 14%, to
$90.875 in 4 p.m. trading Monday on the Nasdaq Stock Market. In late trading
following the ruling, its shares were flat at $90.875, according to Reuters's
Instinet unit.

"We are very pleased with the court's ruling," said Assistant Attorney General
Joel I. Klein. "The decision will benefit consumers and stimulate competition and
innovation in the high-tech industry."

A Microsoft official said that the ruling was "not unexpected" and the company
would seek an expedited appeal as soon as possible.

"While we did everything we could to settle this case, and will continue to look
for new opportunities to resolve it without further litigation, we believe we
have a strong case on appeal," Microsoft Chairman Bill Gates said in a prepared
statement.

Bracing for an Appeal

The decision sets the stage for a year or more of further litigation between the
U.S. government and the software giant. But the "findings of law" only address
the extent to which Microsoft violated antitrust laws; the remedies or penalties
for such violations will be spelled out in subsequent proceedings and aren't be
expected for at least a month -- and the wait could be a lot longer.

In the interim, Judge Jackson may consider imposing some form of temporary
relief.

The judge will have the advantage of seeing the various proposals considered in
settlement talks in Chicago, but isn't bound by any of them. Justice and state
representatives, meanwhile, said over the weekend that they are open to all
possible remedies, presumably including the most severe of all changes to the
company: a Microsoft breakup. To date, the judge has not given any indication of
his position on remedies.

Microsoft said its appeal will stress a June 1998 appeals-court ruling that
stands as the government's most significant defeat in the case so far. Judge
Jackson had barred Microsoft from tying its browser and operating-system software
under an existing consent decree, but the appeals court overturned that, ruling
that there is no illegal tying if a combination of software provides a "plausible
benefit" to consumers.

"We believe we have strong grounds for an appeal based on this ruling," said Bill
Neukom, Microsoft's executive vice president for law and corporate affairs. "As
the appeals court already has ruled, it is a mistake for government regulators or
the courts to try to design high-technology products. Government regulation of
software product design would surely slow innovation and harm consumers."

Judge Jackson acknowledged in Monday's opinion that he may be "arguably at
variance" with the appeals court, adding that "whether the decisions are indeed
inconsistent is not for this court to say."

But clearly, the judge tried to make his case in his ruling, devoting 10 pages of
the document to the "tying" issue. Judge Jackson outlined how Supreme Court
precedent backed a finding of tying, arguing that the appeals-court ruling
appears to relate primarily "to a single provision of a consent decree."

Judge Jackson wrote that a "not insubstantial" amount of commerce was foreclosed
to competitors as a result of Microsoft's decision to bundle Internet Explorer
with Windows. The practice caused the use of Netscape Navigator "to drop
substantially" from 1995 to 1998, causing a "severe drop in revenues from lost
advertisers, Web traffic and purchase of server products," the judge wrote.

Those losses, along with Microsoft's refusal to offer Internet Explorer
separately from Windows, meet the Supreme Court's tests for tying, Judge Jackson
wrote.

The Time Factor

The findings of law mark the second step of a three-part process -- the first of
which came in November, when Judge Jackson issued "findings of fact" that
overwhelmingly affirmed the view of Microsoft's behavior held by the government,
finding that the company is a monopoly that abused its power and hurt
competition.

The stage was set for Monday's ruling over the weekend, when settlement talks
between the two sides collapsed. On Saturday, Judge Richard Posner of the U.S.
Court of Appeals in Chicago said he had abandoned mediation efforts after finding
that the government and Microsoft were still too far apart.

Both sides said Sunday that they were leaving the door open for further
settlement talks after Judge Jackson's ruling, but didn't hold out much hope for
them.

In Monday's news conference, Mr. Klein said the Justice Department is "always
prepared to settle" as long as the remedy deals with Microsoft's anticompetitive
conduct. Any remedy the government would seek would have to have an "enduring
impact."

While Microsoft indicated it was willing to continue seeking a settlement, trial
observers are already turning their attention to the appeals process. Microsoft
may think it's worth it to play out that process rather than accept government
restrictions in a settlement, William Kovacic, a professor of law at George
Washington University who has closely followed the case, said before the ruling
was released.

"It must have been a function of the price that the government was trying to
charge for getting out of the case," Prof. Kovacic said in an interview on CNBC
Monday. "At some point the restrictions on the company's freedom would be so
expansive and limiting that it's simply worth it to play out a process that ...
is going to take another two years ... before there would be some vindication for
them."

There is a chance the U.S. Supreme Court could step in and short-cut the appeals
process under an obscure provision of antitrust law, but Prof. Kovacic said the
high court would be inclined to have the Court of Appeals take a look at the
case.

If the Supreme Court did opt to short-cut the process, it could limit the case to
another 12 months, he said.

Time is a factor in the case. Although a ruling that Microsoft violated antitrust
laws would be another victory for the Justice Department and the states, it would
mean a long wait before the company is forced to change its behavior.

The mismatch between time in the judicial world and time in the high-tech world
is already of concern to those who have watched the antitrust trial unfold. The
roots of the current case go back to the fall of 1997, when the Justice
Department charged that Microsoft violated a 1995 consent decree in an earlier
antitrust battle by forcing personal-computer makers to use its Internet Explorer
Web browser as a condition of offering the dominant Windows operating-system
software on their machines. The government charged that Microsoft was using its
Windows monopoly in an unfair bid to crush Netscape Communications Corp., the
maker of the then-dominant Navigator Web browser. Since then, Internet Explorer
has reduced Navigator's market dominance to a distant memory; Netscape itself is
now a unit of America Online Inc.

The ruling against Microsoft opens the door for a torrent of private litigation
against the company, but it also gives Microsoft time to fortify its hold on
Internet software just as e-commerce is beginning to reshape the economy.

At the same time, however, the government's assault on Microsoft has already
forced the software giant to take a less-aggressive tack in its dealings with
other companies and by all indications has emboldened PC makers and hardware
companies to be more independent of Microsoft.

And Microsoft itself isn't the dominant player in many important technology
businesses these days. While Windows still powers most desktop computers,
Microsoft is scrambling to compete with the likes of AOL in the Internet-services
arena; with nimble companies such as Palm Inc. in the hot market for handheld
electronic devices; and with start-ups such as RealNetworks Inc. for delivering
audio and video over the Web.

Investors Ponder What's Next

Meanwhile, investors are left facing a protracted period of uncertainty.

"Investors will likely need to have a thick skin, given the negative events
likely in the case near-term," Goldman Sachs's Rick Sherlund told clients.
Although he warned of more negative sentiment for the next several months, he
kept the stock on his "recommended for purchase" list.

But Wall Street was uncharacteristically divided on what Microsoft investors
should do now. Several analysts reiterated their "buy" recommendations, telling
investors the appeals process will drag on for some time and they should focus on
the new product cycle. Other analysts, however, expressed worries about more
civil litigation and the impact any antitrust remedies might have on Microsoft's
business, with at least one analyst lowering her rating.

CIBC World Markets analyst Melissa Eisenstat downgraded the stock to "hold" from
"buy" Monday. With the talks dead, Ms. Eisenstat warned that regardless which
remedy is sought, it would "negatively impact the operating model."

Ms. Eisenstat also warned clients that Judge Jackson's ruling on the conclusions
of law would "set off a flood of civil litigations by third parties seeking
monetary damages." Mr. Sherlund, meanwhile, noted that more than 100 such cases
have already been filed.

In a research note, Morgan Stanley Dean Witter analyst Mary Meeker also expressed
some caution. While maintaining her "outperform" rating, she wrote: "We remain a
holder of Microsoft shares, not an aggressive buyer."

But other analysts, while warning of negative news, viewed the stock's slide as a
buying opportunity. Wit SoundView analyst Mark Specker told clients to use any
fall below $100 as a buying opportunity. He maintained his "buy" rating and
12-month price target of $140 a share.

Bear Stearns's Richard Scocozza recommended that investors buy Microsoft shares
based on the strength of its Windows 2000 product cycle, which most analysts said
won't be affected by the trial process.

"Although strong proposed remedies might make for good headlines," wrote Warburg
Dillon Read's Andrew Roskill, "Microsoft believes that it is highly, highly
unlikely that any stay of injunctive relief would be denied." In other words, it
would be able to continue selling its software until the appeals process is
completed.

J.P. Morgan's Bill Epifanio, meanwhile, told long-term investors to "hold on --
the stock should regain strength during the appeals process."

Mr. Epifanio kept his "buy" rating but told investors: "Don't buy yet. Microsoft
shares should remain under pressure for a while."