It’s no secret that Microsoft isn’t doing too well in the netbook market. There has been a lot of speculation in the blogosphere to the extent of the financial damage. We did the heavy lifting and dug up the real numbers to accurately quantify what’s going on and what it means (hint: developers are getting laid off!).
In this analysis we make the case that the rise of netbooks does not bode well for the company. For the first time, Linux is not only a real threat but is whacking MSFT’s bottom line. Long term, Microsoft’s OS business model is threatened.
This is part 1 of a two part series. This portion will cover the rise of netbooks and Linux market share. The second piece will cover XP’s cannibalization of Vista sales and the more abstract but very real existential threat posed by netbooks. Look for it next week.
1 million: Quanity of Netbooks sold in 2007
14 Million: Quantity of Netbooks sold in 2008
8% - Estimated market share of netbooks in 2009 (UBS)
12% - Estimated market share of netbooks in 2012 (iSupply)
10% - Fall in sales of “Traditional” full-featured computers in Q4 2008
These numbers should convince anyone that Netbooks aren’t merely a fad but a megatrend. For years, experts have espoused the “cheap computing revolution”. It’s finally here, with a twist.
Remember Microeconomics 101? Wasn’t there some “law” where the sales of a good rises as the price falls? Unfortunately, consumers don’t buy two half-priced netbooks instead of one PC. The economy sucks and they’re pocketing the difference.
Instead of expanding the economic pie for everyone, the swarm of netbooks are cannibalizing the sales of full-featured computers. Every company in the PC ecosystem ignores the netbook trend at its peril. This is not good for Microsoft. Specifically because:
90% - Windows marketshare of computer market
70% - Windows marketshare of Netbooks
Source: Microsoft’s Windows chief Bill Veghte
While doing research for this article we saw various figures thrown around. We chose to report the most credible (and probably the most conservative) figures - directly from Microsoft management.
The netbook market is the perfect beachhead to mainstream users for Linux. Most consumers are using the barebone computers for internet, email and office documents. With Firefox and openoffice, Linux’s limited selection of programs is not an issue. Buyers are more cost-sensitive with value products, which maximizes Linux’s price advantage. A $50ish operating system might be insignificant when buying a $1500 desktop but is actually a sizable sum when purchasing a $250 netbook. It is less resource intensive than Windows, making it ideally suited for low powered computers. Microsoft has been forced to use Windows XP, its two year outdated OS, because Vista is too heavy.
If Linux is a guerilla army, waging war on the traditional desktop has been like fighting in the cities. The netbook jungle is where its advantages lie and its dominant competitor’s strengths neutralized. For the first time, the major manufacturers and retailers are producing, stocking and selling computers equipped with Linux.
Therefore it might come as a shock that Microsoft still controls over 2/3 of the Netbook market. But Apple so far does not have a netbook product, so Linux has a respectable 1/3 of the market. One also needs to remember that because of network effects, software by its nature is a very entrenched market. In operating systems, what is going on is unprecedented. Apple, which has been on fire for many years with blockbuster products and is powered by an invincible marketing machine, still only controls 9% of the overall PC market. And for an open-source software comparison, it took Firefox 5 years to obtain a 20% marketshare in browsers.
This is Linux’s first time in the limelight with mainstream consumers. It’s still rough around the edges with technical/easibility issues (which is why your writer is typing this on his Windows XP Netbook). But Linux will only become a more fearsome competitor once the kinks are fixed and consumer awareness grows.
So what’s the effect on the bottom line?
Software is a great business model because selling an additional copy of software doesn’t have a significant cost. Almost all the revenue from each incremental sale goes straight to the bottom line. But the reverse is true as well. The lost revenue from the 4.2 million Netbooks not running Windows evaporated right out of Microsoft’s profit. Microsoft does not reveal the price paid by manufacturers for its old Windows XP, but it’s estimated to be less than $20 by Endpoint Technology Associates.
Some rough back-of-a-napkin calculations:
4.2 million lost sales x $18 price per copy = $75,600,000
Due to deterioating profit margins, Microsoft recently announced a huge layoff of 5,000 jobs. Lets assume that each developer has a total cost (salary, benefits, social security, etc.) of $150,000.
$75,600,000 / $150,000 per employee = ~500 developers.
Developers are the lifeblood of a software company. Microsoft’s ability to deliver innovative products is being stung by Linux in the netbook market. Unless Microsoft 7 is a hit, this trend will accelerate. Unfortunately for MSFT, Windows 7’s is based off of Vista and its cheapest version will limit users to running 3 programs at a time.
Stay in tune for the second part, due next week. In turns out that the cannibalization (damn I love that metaphor!) of Vista sales by XP is having a very real material effect because of XP’s significantly lower price. Also we will discuss the existential threat for an operating system company when operating systems become a commodity…