Microsoft Backs Further Away From Selling Software

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Microsoft's chief, Satya Nadella, at the company's headquarters in Redmond, Wash., in January.Credit Elaine Thompson/Associated Press

Microsoft dismantled another piece of its old way of doing business on Wednesday.

As part of a broader announcement of partnerships in China, the company said it would allow existing users of Windows personal computers in the country to upgrade free to Windows 10, its coming operating system. The offer is good not only for people who have paid for legitimate copies of Windows on their machines, but those that have pirated copies of the software.

The near term effect on Microsoft’s sales is likely to be minimal. The overwhelming majority of Windows software in China is pirated. Only 1 out of every 10 copies of Microsoft’s software in the the country is legitimately purchased, the company’s former chief executive, Steve Ballmer, once said. Microsoft has little Windows licensing revenue in China to jeopardize by giving away free upgrades.

But the move echoes a shift at Microsoft and the software industry’s around the world. The days of charging customers for an operating system are slowly coming to an end, piece by piece.

This happened first in mobile, a market in which Microsoft has pitifully small market share and, in a variation of its situation in China, not a lot of revenue to lose. Last year it eliminated its licensing fee on Windows for manufacturers creating devices with screens smaller than 9 inches. Then in January, Microsoft said it would let people running the latest versions of Windows on their computers upgrade free to Windows 10.

The company’s executives have downplayed the impact that these changes will have on its business model, and for the time being they are right. Most of Microsoft’s Windows revenue comes from sale of the software to PC manufacturers who put the software on their new machines, not to consumers who pay for Windows upgrades to existing machines. Corporate customers will stay need to pay Microsoft for long term agreements that keep their software up to date.

How long can these remaining honeypots of Windows revenue last?

Windows PCs are under growing pressure at the low end of the consumer PC market from Chromebooks, cheap laptops running a Google operating system, and tablets. To combat their growth, Microsoft last year was forced to cut its Windows licensing fees for laptops that sell for less than $250, which hurt its financial results. For its most recent fiscal year, which ended last June 30, Microsoft’s revenue from Windows for PCs was $16.9 billion, down from $17.6 billion the prior year.

Al Hilwa, an analyst at IDC, the technology research firm, predicts that corporate customers will continue to pay Microsoft for long-term software agreements that include Windows. Still, he said, “there’s a slippery slope aspect” to the pricing changes happening to Windows in the consumer market.

“Sooner or later, enterprises will say, ‘We don’t want to pay for it,'” he said.

To make up for lost Windows licensing fees, Mr. Hilwa believes Microsoft will increasingly rely on revenue sources. In a nod to Apple, it will emphasize hardware devices that come coupled with software, like its Surface tablets. And in a nod to Google, it will seek to make money from advertising and other services on its devices.

The consumer market, Mr. Hilwa said, has “pretty much voted with its feet that it’s not going to be paying for the operating system.”