Business 8th Edition by Marianne Jennings

Exercise 15

S. v Microsoft
253 F.3D 34 (C.A. D.C. 2001)
You Have Performed an Illegal Operation
Facts
Microsoft Corporation, a company based in Washington that does business in all 50 states and around the world, is the leading supplier of operating systems for personal computers (PCs). Although Microsoft licenses its software programs directly to consumers, the largest part of its sales consists of licensing the products to manufacturers of personal computers.
Microsoft was concerned about its strategic position with respect to the Internet and whether it would be able to maintain a dominant market position there similar to the one it enjoyed in software and operating systems.
The United States Justice Department had an ongoing inquiry into the market shares and practices of Microsoft, and 23 state attorneys general were also looking into the company's practices. The concerns of the Justice Department and attorneys general (plaintiffs) include the following:
1. Microsoft's position in the market as a monopolist (90 percent market share for operating systems).
2. Microsoft's barriers to entry for operating systems and Web browsers. Microsoft has refused to sell its software operating system to computer companies that installed the competitive browser, Netscape, which was gaining popularity as Microsoft's Internet Explorer (IE) struggled.
3. Microsoft worked to inhibit the efforts of Netscape with its browser by first trying to acquire Netscape and then working to "cut off [its] air supply" by retarding Sun Corporation's development and implementation of the Java program. When Microsoft altered the portions of Sun's Java program that allowed it to work without Windows, Sun notified Microsoft that such was a violation of its licensing agreement. Microsoft's response was, "Sue us." Sun sued Microsoft one week before the Justice Department brought its suit against Microsoft. Sun's suit then ran parallel with the Justice Department's.
In issuing a three-part opinion, Judge Thomas Penfield Jackson of the district court found that Microsoft had violated the antitrust laws and ordered a remedy of breaking up the company Microsoft appealed the decision.
Judicial Opinion
per curiam
We decide this case against a backdrop of significant debate amongst academics and practitioners over the extent to which "old economy" § 2 monopolization doctrines should apply to firms competing in dynamic technological markets characterized by network effects. In technologically dynamic markets, however, such entrenchment may be temporary, because innovation may alter the field altogether. Rapid technological change leads to markets in which "firms compete through innovation for temporary market dominance, from which they may be displaced by the next wave of product advancements" Microsoft argues that the operating system market is just such a market...
For reasons fully discussed below, we reject Microsoft's monopoly power argument.
II. Monopolization A. Monopoly Power
While merely possessing monopoly power is not itself an antitrust violation, it is a necessary element of a monopolization charge. Because direct proof is only rarely available, courts more typically examine market structure in search of circumstantial evidence of monopoly power.
The District Court considered these structural factors and concluded that Microsoft possesses monopoly power in a relevant market. Defining the market as Intel-compatible PC operating systems, the District Court found that Microsoft has a greater than 95% share. It also found the company's market position protected by a substantial entry barrier.
, Microsoft argues that the District Court incorrectly defined the relevant market. It also claims that there is no
barrier to entry in that market___[W]e uphold the District Court's finding of monopoly power in its entirety.
1. Market Structure a. Market definition
In this case, the District Court defined the market as "the licensing of all Intel-compatible PC operating systems worldwide," finding that there are "currently no products-and. there are not likely to be any in the near future-that a significant percentage of computer users worldwide could substitute for [these operating systems] without incurring substantial costs."
The District Court found that consumers would not switch from Windows to Mac OS in response to a substantial price increase because of the costs of acquiring, the new hardware needed to run Mac OS (an Apple computer and peripherals) and compatible software applications, as well as because of the effort involved in learning the new system and transferring files to its format. The court also found the Apple system less appealing to consumers because it costs considerably more and supports fewer applications.
.... the District Court found that because information appliances fall far short of performing all of the functions of a PC, most consumers will buy them only as a supplement to their PCs.
Operating systems also function as platforms for software applications. They do this by "exposing"-i.e., making available to software developers-routines or protocols that perform certain widely-used functions. These are known as Application Programming Interfaces, or "APIs."
Every operating system has different APIs. Ultimately, if developers could write applications relying exclusively on APIs exposed by middleware, their applications would run on any operating system on which the middleware was also present. Netscape Navigator and Java-both at issue in this case-are middleware products written for multiple operating systems.
Microsoft argues that, because middleware could usurp the operating system's platform function and might eventually take over other operating system functions (for instance, by controlling peripherals), the District Court erred in excluding Navigator and Java from the relevant market. The District Court found, however, that neither Navigator, Java, nor any other middleware product could now, or would soon, expose enough APIs to serve as a platform for popular applications, much less take over all operating system functions.
Considering the possibility of new rivals, the court focused not only on Microsoft's present market share, but also on the structural barrier that protects the company's future position. That barrier-the "applications barrier to entry"-stems from two characteristics of the software market: \l) most consumers prefer operating systems for which a large number of applications have already been written; and (2) most developers prefer to write for operating Systems that already have a substantial consumer base. This "chicken-and-egg" situation ensures that applications will continue to be written for the already dominant Windows, which in turn ensures that consumers will continue to prefer it over other operating systems.
The consumer wants an operating system that runs not only types of applications that he knows he will want to use, but also those types in which he might develop an interest later. The fact that a vastly larger number of applications are written for Windows than for other PC operating systems attracts consumers to Windows, because it reassures them that their interests will be met as long as they use Microsoft's product.
2. Direct Proof
. [W]e turn to Microsoft's alternative argument that it does not behave like a monopolist. Claiming that software competition is uniquely "dynamic" the company suggests a new rule; that monopoly power in the software industry should be proven directly, that is, by examining a company's actual behavior to determine if it reveals the existence of monopoly power.
Even if we were to require direct proof, moreover, Microsoft's behavior may well be sufficient to show the existence of monopoly power. Certainly none of the conduct Microsoft points to-its investment in R D and the relatively low price of Windows-is inconsistent with the possession of such power. The R D expenditures Microsoft points to are not simply for Windows, but for its entire company, which most likely does not possess a monopoly for all of its products. Moreover, because innovation can increase an already dominant market share and further delay the emergence of competition, even monopolists have reason to invest in R D. Microsoft's pricing behavior is similarly equivocal. The company claims only that it never charged the short-term profit-maximizing price for Windows..
More telling, the District Court found that some aspects of Microsoft's behavior are difficult to explain unless Windows is a monopoly product. For instance, the company set the price of Windows without considering rivals' prices, something a firm without a monopoly would have been unable to do. Microsoft's pattern of exclusionary conduct could only be rational "if the firm knew that it possessed monopoly power."
B. Anticompetitive Conduct
The challenge for an antitrust court lies in stating a general rule for distinguishing between exclusionary acts, which reduce social welfare, and competitive acts, which increase it.
1. Licenses Issued to Original Equipment Manufacturers [OEMs]
Microsoft's efforts to gain market share in one market (browsers) served to meet the threat to Microsoft's monopoly in another market (operating systems) by keeping rival browsers from gaining the critical mass of users necessary to attract developer attention away from Windows as the platform for software development.
[T]he District Court condemned the license provisions prohibiting the OEMs from: (1) removing any desktop icons, folders, or "Start" menu entries; (2) altering the initial boot sequence; and (3) otherwise altering the appearance of the Windows desktop.
The District Court concluded that the first license restriction-the prohibition upon the removal of desktop icons, folders, and Start menu entries-thwarts the distribution of a rival browser by preventing OEMs from removing visible means of user access to IE. The OEMs cannot practically install a second browser in addition to IE, the court found, in part because "[p]re-installing more than one product in a given category. can significantly increase an OEM's support costs, for the redundancy can lead to confusion among novice users."
The second license provision at issue prohibits OEMs from modifying the initial boot sequence-the process that occurs the first time a consumer turns on the computer. Upon learning of OEM practices including boot sequence modification, Microsoft's Chairman, Bill Gates, wrote: "Apparently a lot of OEMs are bundling non-Microsoft browsers and coming up with offerings together with [Internet access providers, IAPs] that get displayed on their machines in a FAR more prominent way than MSN or our Internet browser." Because this prohibition has a substantial effect in protecting Microsoft's market power, and does so through a means other than competition on the merits, it is anticompetitive.
b. Microsoft's justifications for the license restrictions Microsoft argues that the license restrictions are legally justified because, in imposing them, Microsoft is simply "exercising its rights as the holder of valid copyrights." Microsoft's primary copyright argument borders upon the frivolous. The company claims an absolute and unfettered right to use its intellectual property as it wishes: "[I]f intellectual property rights have been lawfully acquired," it says, then "their subsequent exercise cannot give rise to antitrust liability." That is no more correct than the proposition that use of one's personal property, such as a baseball bat, cannot give rise to.tort liability. As the Federal Circuit succinctly stated: "Intellectual property rights do not confer a privilege to violate the antitrust laws.".
3. Agreements with Internet Access Providers The District Court also condemned as exclusionary Microsoft's agreements with various IAPs. The IAPs include both Internet Service Providers, which offer consumers internet access, and Online Services ("OLSs") such as America Online ("AOL"), which offer proprietary content in addition to internet access and other services. The District Court deemed Microsoft's agreements with the IAPs unlawful because: Microsoft licensed [IE] and the [IE] Access Kit to hundreds of IAPs for no charge. Then, Microsoft extended valuable promotional treatment to the ten most important IAPs in exchange for their commitment to promote and distribute [IE] and to exile Navigator from the desktop. Finally, in exchange for efforts to upgrade existing subscribers to client software that came bundled with [IE] instead of Navigator, Microsoft granted rebates-and in some cases made outright payments-to those same IAPs.
Although offering a customer an attractive deal is the hallmark of competition, the Supreme Court has indicated that in very rare circumstances a price may be unlawfully low, or "predatory" The rare case of price predation aside, the antitrust laws do not condemn even a monopolist for offering its product at an attractive price, and we therefore have no warrant to condemn Microsoft for offering either IE or the IEAK [IE Access Kit] free of charge or even at a negative price. Likewise, as we said above, a monopolist does not violate the Sherman Act simply by developing an attractive product.
4. Dealings with Internet Content Providers [ICPs], Independent Software Vendors [ISVs], and Apple Computer
. In dozens of "First Wave" agreements signed between the fall of 1997 and the spring of 1998, Microsoft has promised to give preferential support, in the form of early Windows 98 and Windows NT betas, other technical information, and the right to use certain Microsoft seals of approval, to important ISVs that agree to certain conditions. One of these conditions is that the ISVs use Internet Explorer as the default browsing software for any software they develop with a hypertext-based user interface.
Another condition is that the ISVs use Microsoft's "HTML Help," which is accessible only with Internet Explorer, to implement their applications' help systems.....
[T]he effect of these deals is to "ensure. that many of the most popular Web-centric applications will rely on browsing technologies found only in Windows," and that Microsoft's deals with ISVs therefore "increase [ ] the likelihood that the millions of consumers using [applications designed by ISVs that entered into agreements with Microsoft] wall use Internet Explorer rather than Navigator."
When Microsoft entered into the First Wave agreements, there were 40 million new users of the internet. Because, by keeping rival browsers from gaining widespread distribution (and potentially attracting the attention of developers away from the APIs in Windows), the deals have a substantial effect in preserving Microsoft's monopoly, we hold that plaintiffs have made a prima facie showing that the deals have an anticompetitive effect.
5. Java
Java, a set of technologies developed by Sun Microsystems, is another type of middleware posing a potential threat to Windows' position as the ubiquitous platform for software development. Programs calling upon the Java APIs will run on any machine with a "Java runtime environment," that is, Java class libraries and a JVM [Java Virtual Machine].
In May 1995 Netscape agreed with Sun to distribute a copy of the Java runtime environment with every copy of Navigator, and "Navigator quickly became the principal vehicle by which Sun placed copies of its Java runtime environment on the PC systems of Windows users." Microsoft, too, agreed to promote the Java technologies-or so it seemed.
When specifically accused by a PC Week reporter of fragmenting Java standards so as to prevent cross-platform uses, Microsoft denied the accusation and indicated it was only "adding rich platform support" to what remained a cross-platform implementation. An e-mail message internal to Microsoft, written shortly after the conversation with the reporter, shows otherwise:
[O]k , i just did a followup call. [ The reporter] liked that i kept pointing customers to w3c standards [ (commonly observed internet protocols)]. [ but] he accused us of being schizo with this vs. our Java approach , i said he misunderstood [- ] that [ with Java] we are merely trying to add rich platform support to an interlope layer. this plays well. at this point its [sic] not good to create MORE noise around our Win32 Java classes , instead we should just quietly grow if [ (Microsoft's development tools)] share and assume that people will take more advantage of our classes without ever realizing they are building win32-only java apps.
. Microsoft's ultimate objective was to thwart Java's threat to Microsoft's monopoly in the market for operating systems. One Microsoft document, for example, states as a strategic goal: "Kill cross-platform Java by grow[ing] the polluted Java market."
Microsoft's conduct related to its Java developer tools served to protect its monopoly of the operating system in a manner not attributable either to the superiority of the operating system or to the acumen of its makers, and therefore was anticompetitive. Accordingly, we conclude this conduct is exclusionary, in violation of § 2 of the Sherman Act.
d. The threat to Intel
In 1995 Intel was in the process of developing a high-performance, Windows-compatible JVM. Microsoft wanted Intel to abandon that effort because a fast, cross-platform JVM would threaten Microsoft's monopoly in the operating system market. At an August 1995 meeting, Microsoft's Gates told Intel that its "cooperation with Sun £nd Netscape to develop a Java runtime environment. was one of the issues threatening to undermine cooperation between Intel and Microsoft." Three months later, "Microsoft's Paul Maritz told a senior Intel executive that Intel's [adaptation of its multimedia software to comply with] Sun's Java standards was as inimical to Microsoft as Microsoft's support for non-Intel microprocessors would be to Intel."
Intel nonetheless continued to undertake initiatives related to Java. By 1996 "Intel had developed a JVM designed to run well. while complying with Sun's cross-platform standards." In April of that year, Microsoft again urged Intel not to help Sun by distributing Intel's fast, Sun compliant JVM. And Microsoft threatened Intel that if it did not stop aiding Sun on the multimedia front, then Microsoft would refuse to distribute Intel technologies bundled with Windows.
Intel finally capitulated in 1997.
.... Microsoft's "advice" to Intel to stop aiding cross-platform Java was backed by the threat of retaliation, and this conclusion is supported by the evidence cited above. Therefore we affirm the conclusion that Microsoft's threats to Intel were exclusionary, in violation of § 2 of the Sherman Act.
Remedies
The District Court's remedies-phase proceedings are a different matter. It is a cardinal principle of our system of justice that factual disputes must be heard in open court and resolved through trial-like evidentiary proceedings.
Despite plaintiffs' protestations, there can be no serious doubt that the parties disputed a number of facts during the remedies phase...
The reason the court declined to conduct an evidentiary hearing was not because of the absence of disputed facts, but because it believed that those disputes could be resolved only through "actual experience," not further proceedings. But a prediction about future events is not, as a prediction, any less a factual issue. Trial courts are not excused from their obligation to resolve such matters through evidentiary hearings simply because they consider the bedrock procedures of our justice system to be "of little use."
In sum, we vacate the District Court's remedies decree for [failure]. to hold an evidentiary hearing despite the presence of remedies-specific factual disputes.
Affirmed in part, reversed in part, remanded in part. We remand the case to the District Court for reassignment to a different trial judge for further proceedings consistent with this opinion.
What error did the trial judge make with respect to the remedies?