Is Microsoft overpriced?

My friend Charlie pointed me to this, a TechTarget.com column whose author makes rather stupid comparisons. He first claimed:

This probably won't be as much of a surprise to you as it was to me, but the price of Microsoft Windows XP Pro and Office licenses exceeds the price of a top-of-the-line PC.

I'm not sure where he buys his computers, or how he gets his Microsoft licenses, but that's absurd. The retail price of the full (not upgrade) version of Windows XP Pro is $299. The full version of Office 2003 Professional is $499. If he can point me to where I can buy a "top-of-the-line PC" for less than $798, I'd be quite interested.

Well, this explains his poor comparison. He's not talking about "top-of-the-line":

Today, I can get an A-brand system with a Celeron, 256 megs of RAM and 40 gigs of disk space for less than $500.

Instead of misleading people, he should have said, "The full retail versions of XP Pro and Office Professional 2003 can be more expensive than a basic computer that comes with XP Home and minimal software."

Just before that, he said something just as inaccurate:

Ten years ago, I'd pay about $2,500 for a clone PC with a 486 CPU, four megs of RAM and half a gig of disk space.

Ten years ago? In the summer of 1995, when Pentiums were new, $2500 could have bought a nice Pentium 100 system with 16 megs of RAM (which was about $50 a meg then) and a 1-gig hard drive. I wonder if this guy really thought his article through, because his memory either fails him or he really doesn't know what he's talking about.

His piece is essentially a rant against the cost of Microsoft software, including a thorough misunderstanding:

That price quote reminded me of another quote, taken from Microsoft CEO Bill Gates' 1998 speech at Valencia Community College. Among other things, he said: "... in the last 20 years alone, the price of computing has come down by a factor of a million .... If this had been the case in the airline industry, today we could buy a 747 for the price of a pizza ... that's really what has happened in computing ... for the next 20 years, there will be no slowing down. The price of computing will again drop by a factor of a million."

Now, I don't know where Mr. Gates generally orders his pizza, but at these prices I wouldn't mind delivering a few to his home! Obviously, his words obviously do not apply to his company's own products.

Clearly he doesn't realize what Bill was talking about. Computing power (whether you benchmark it in terms of megahertz, flops or hardware performance/quality) has gotten cheaper, but certain principles of business explain why a company can't just sell the same technology for perpetuity and keep dropping the price. What will computer manufacturers do, sell original Pentiums for a few pennies, and not recover the cost of manufacturing? The real profit is in the latest and greatest technology, and supply and demand comes into play as well: people want it and are willing to pay.

Microsoft may charge more money today, but there are far more features than before:

Word processors WordPerfect and the first version (3.1) of Microsoft Word for Windows retailed for just over $500, roughly one-fifth of the price of a good PC. On the operating system side, MS-DOS 6 retailed for less than a hundred dollars, but Windows 3.1 went for up to twice that much. A copy of Lotus 123, the major spreadsheet of those days, and the MS-DOS database called dBase cost about $700.

Windows XP Professional will cost you more than half the price of a new computer. Also, the price of Microsoft Office has gone up steadily, while a copy of WordPerfect Office 12 retails for $200, under half the price charged 10 years ago.

He invoked "economics" but doesn't know to account for price inflation that's engineered by Federal Reserve monetary policy. Calculating inflation based on CPI is not true inflation, because inflation is strictly by monetary policy, but the change in prices is a generally good yardstick for our purposes. You would need $1.24 in 2005 to buy what $1 could in 1995, meaning that an accurate price comparison requires adjusting the earlier prices upward by 24%. That means WordPerfect and Word retailed for about $625 in 2005 dollars, Lotus and dBase were running the equivalent of about $868 in 2005 dollars, and spending $2500 on a PC in 1995 is the equivalent of spending about $3100 today.

Moreover, it's patently foolish to compare just the prices of software packages without comparing their capabilities. Love it or hate it, Windows 3.1 had more capabilities than mere DOS (DOS 6.2 had debuted in 1993, and 6.21/6.22 in 1994). Windows may have cost twice the price, and you needed DOS underneath to run it, but its task-switching (it was not true multi-tasking) made a PC more useful to most people than a plain command line. Even a small business would find $200, whether in 1995 or today's dollars, a small investment for a big boost in productivity.

Also, the $199 version of WordPerfect Office 12 is the standard edition. You get the word processor, spreadsheet program and slideshow presenter -- that's it. Office 2003 Standard Edition does run $399, but it has Outlook for e-mail. Notwithstanding its various security flaws over the years, big corporations in particular would pay the extra money for a common e-mail platform (which is not only familiar but has ample administrative labor available). Besides, WordPerfect Office is rather crummy, or at least I find it so. It came preinstalled on one of my PCs (a Hewlett-Packard), and with all its cumbersome features (especially control codes), I far prefer OpenOffice.

The writer came to a conclusion that probably startled him:

2. The prices of Microsoft products appear totally unrelated to technology, manufacturing and market volume.

Even factoring in local market factors, special offers and inflation, it's obvious to me that Microsoft manipulates and inflates software prices.

Gosh, he means...supply and demand? Microsoft sets the price, which must exceed operational costs for the company to stay solvent, but ultimately the price charged is regardless of the labor and resources put in. So what? People are free to choose if they buy it, like they are with any other product, and they can go with any alternative of their choosing. Microsoft "manipulates and inflates" its prices no more than any other business, whether your local grocer, department store or car dealership. This is basic economics.

...does the price of Microsoft software really reflect the increased performance? Take a good look at Windows 98. Compare it to Windows 95, for example, or Windows XP versus Windows 2000 or even NT. These are, in fact, point releases, maintenance releases in which a number of bugs and shortcomings have been fixed. Largely, the new versions are the same as their predecessors. Most "improvements" have been cosmetic and nothing more. Yet, each upgrade has been presented as a "new" product and has been accompanied by a severe price hike.

I personally liked Windows 2000 best: it seemed to run the most smoothly despite a big installation. XP is regarded as more compatible with games and pre-Windows 2000 software, and perhaps it is, though I myself never had problems with Windows 2000. XP also has a lot of useful additions that I don't really have time to go into tonight. Cosmetically and functionally, it is similar to previous versions, but there's a lot more inside.

Also, considering inflation since 1995, $150 for an XP Home upgrade versus $90 for the Windows 95 upgrade (just under $112 in today's dollars) is far from a "severe price hike."

This discrepancy is further demonstrated by the downright weird differences in price between versions intended for home use and corporate use. Windows XP Pro, for example, is much more expensive than the Home Edition. Yet, these products are essentially the same, except that a few key features have been removed from Home Edition to make it unattractive for corporate use. This practice is nothing new: Microsoft Windows Server NT 4 only differed in a few small details from its desktop twin, yet it was a lot more expensive.

A few years ago, Microsoft changed its existing corporate licensing structures. This change, introduced as Software Assurance, required many businesses to renew and repay for existing licenses in order to be assured of continued support and upgrades. This change, however, did not offer any return on investment that justified the extra costs.

There's more price gouging to come. In the summer of 2005, Microsoft CEO Steve Ballmer told analysts about Microsoft's plan to release new, more expensive versions of Windows and Office. The company will release more Professional Editions of Windows and add Enterprise and Premium versions of Office. What extra features, if any, these versions will offer in order to justify their inflated licensing costs, Ballmer did not clarify.

Microsoft knows that many businesses are willing to pay a very premium price for a few more networking features and other things. And if you don't like the cost for what you receive, you don't have to buy it.

"price gouging" is one of the most economically ignorant accusations. Is Microsoft coercing the businesses? Are the businesses not voluntarily choosing to pay these apparentl exhorbitant prices? If they don't believe they get a good deal for their money, why did they buy any Microsoft products in the first place?

I won't get into the issue of Microsoft software flaws (primarily security vulnerabilities), but I'll say that with a decent firewall, and with being prudent about what web sites I visit, what links I click on and what software I install, I've never been hacked. One time I've been infected by spyware, on an office computer that wasn't secured at all.

A while back I touched on the Total Cost of Ownership argument. More companies are switching to Linux, but many others, especially the biggest corporations, are staying with Microsoft. They've made the rational calculation that the savings are not worth the switch. Remember that rational does not mean the decision is correct, only that it was made in a rational manner, based on available information. A Fortune 500 company may decide to stay with Microsoft, because while it may save money in the long run, it judges that total costs might exceed savings. There might even be a good probability of saving money, but the company could decide it cannot take the risk. Switching operating systems means retraining employees on using the new operating system and software, and possibly getting the IT department trained first so they can provide support. Such a complex migration can disrupt business greatly as everyone gets used to the new and laments losing the old. The migration may not even be possible for companies who are perenially busy and cannot afford downtime, especially for training.

The rest of the article is essentially a rant about the quality and availability of Microsoft software, and Microsoft's "domination" of the industry. If someone or some company really finds Windows and/or Office to be so bad, just like the door is there if you don't like shopping at a store, there's OpenOffice. However, as I pointed out in the above paragraph, "free" software doesn't guarantee a lower cost. This is the beauty of the free market once again: people have the liberty to choose, without being coerced by business or government, bearing all risks and consequences themselves.