The untold story of how the Internet forced Bill Gates to reverse course

(Continued from Part 1)

BABY STEPS. In one breakout group, Allard tangled with Russell Siegelman, who was heading Marvel, the code name for what's now the Microsoft Network online service. Allard argued that instead of being proprietary, Marvel should be based on Web standards. Siegelman held his ground--and won. It was a decision that would later cost millions to reverse.

Still, Net progress was made: TCP/IP would be integrated into Win95 and Windows NT, the version of Windows that runs network-server computers. The sales team was told to use the Web to dispense marketing information. The applications group agreed to give Word, the word-processing program, the ability to create Web pages.

Next, Gates jumped deeper into the process by devoting much of his April Think Week--a semiannual retreat--to the Internet. His Apr. 16 memo, ``Internet Strategy and Technical Goals,'' contained the first signs of a growing corporate commitment. ``We want to and will invest resources to be a leader in Internet support,'' wrote Gates.

It was a first step, albeit a measured one. ``I don't think he knew how much to bet yet,'' says Allard. But board member David F. Marquardt did: He recalls that he was ``amazed'' that Microsoft was putting so little into the Net. ``They weren't in Silicon Valley. When you're here, you feel it all around you,'' says Marquardt, a general partner at Technology Venture Investors in Menlo Park, Calif. He broached the subject at the April board meeting that year. Gates's response? ``His view was the Internet was free,'' says Marquardt. ``There's no money to be made there. Why is that an interesting business?''

To an increasingly important group of competitors, it was clear there was a huge opportunity--and if Microsoft didn't pursue it, they might be able to undo the behemoth's software dominance. Sun, Netscape, Oracle Corp., IBM, and others saw their chance to reset the rules on the Net.

So did the Net startups that were multiplying like cells. Yahoo!, Lycos, InfoSeek, PointCast--dozens were rushing into the vacuum where Microsoft wasn't. The most high-profile of these was headed by James H. Clark, who resigned as chairman of the company he founded, Silicon Graphics Inc., and latched on to the Internet opportunity. He had the goose that laid the golden egg: Marc Andreessen, that 23-year-old University of Illinois programmer. Netscape Communications (originally Mosaic Communications) was founded on Apr. 4, 1994, the eve of the Shumway retreat. By October, it was downloading its Navigator browser across the Internet.

In the spring of 1994, the Net was exploding. Millions of PC users were logging on. There were some 21,700 commercial Web sites, up from 9,000 in 1991. Even IBM had a home page, complete with a greeting from Chairman Louis V. Gerstner Jr. So did General Electric, Tupperware, Volvo, and Hyatt Hotels. Time Warner had Pathfinder, which featured electronic versions of its magazines. Increasingly, the Net, not interactive TV, looked like the route to the Info Highway. Grasping that, Sun Microsystems began adapting a software language for interactive TV into what would become Java.

That April, at the spring Comdex trade show, Sinofsky saw BookLink, a browser owned by CMG Information Services. He showed it to Brad A. Silverberg, then head of Microsoft's Win95 business. Execs began negotiating to license the technology. But as the talks dragged on, AOL swooped in and bought BookLink for $30 million in November. Says Silverberg: ``That woke us up. We had to be a lot more aggressive, a lot more lively. Time was ticking faster in this new world.''

During this period, Gates was crafting a strategy for Microsoft in the emerging wired world. But as outlined in his October, 1994, memo, ``Sea Change,'' the approach was to use existing Microsoft products. Other Microsoftians were becoming convinced that the Internet was the way.

One was Benjamin W. Slivka, now 35 and project leader for Internet Explorer, Microsoft's browser. In mid-1994, he and three other programmers were looking into what features to plan for the successor to Win95. He got his Internet hookup and soon knew the answer: On Aug. 15, he sent E-mail to his small band, saying they needed a browser and might even get one ready for Win95. When Netscape's Navigator hit the Net that fall, Slivka checked it out, then grabbed six people and mapped out the browser features for Win95.

To get the work done faster, one of his programmers took a shopping trip--to Spyglass Inc. in Naperville, Ill., a Netscape rival. It was an ironic moment for Spyglass CEO Douglas P. Colbeth. Six months earlier, he had come calling on Microsoft--only to be rebuffed. ``Typically, they said, `We'll build it ourselves,''' says Colbeth. But by late 1994, Netscape was beginning its ascent and Microsoft was eager to deal. It signed a Spyglass license on Dec. 16.

NETWORK NEWS. Still, going into 1995, Microsoft management was focused on Chicago. Originally scheduled for December, 1994, it had been pushed back to mid-1995 and would emerge, finally, as Win95 that August. The company was scrambling to complete Windows NT for the corporate market, too. ``Those were the focus,'' says Gates, ``and the Internet was like an underlying rumble.''

Gates had also ordered that Microsoft Network should make its debut with Chicago. The MSN story is loaded with might-have-beens. In December, 1992, when Siegelman started the planning, the Net was hardly a showstopper. The real star was AOL, a Windows-based online service that was gaining members at a rapid clip. So in May, 1993, Gates approved Siegelman's plan for a rival service that would have a big advantage--the software needed to use it would be included in Win95.

In the fall of 1993, the MSN team ramped up to get done in time to come out with Chicago. But, heeding the Net rumblings, Gates agreed to let Rob Glaser, a longtime Microsoft exec who had pioneered the push into multimedia, do an analysis of how the Net affected MSN. His conclusion: Microsoft should ``radically change'' the strategy and make the online service part of the Net.

Then, fate stepped in. In November, 1993, Siegelman, now 34, suffered a brain hemorrhage. He would recover, but his absence prompted the normally relentless Glaser to ease up. He presented his plan to Siegelman's staff, but with the boss away and the team already stressed out, he didn't push hard. ``We just couldn't afford to spend a lot of energy changing our plan,'' says Jeffrey Lill, a former MSN team member. Adds Glaser: ``I felt the stars were not aligning for Microsoft to really understand the Net early.''

Besides, MSN was a high-profile project. Gates unveiled the planned service in a keynote speech at Comdex in November, 1994, and within weeks persuaded Tele-Communications Inc. to pony up $125 million for a 20% stake in MSN. TCI chief John C. Malone had been on the verge of investing that amount in rival AOL. But, says AOL CEO Steven M. Case, ``in the final hour, Gates persuaded him--implored him--not to invest in AOL.'' Three weeks later, Microsoft paid $16.4 million for 15% of UUNet Technologies Inc., which now carries MSN traffic.

Despite MSN, by May, 1995, Gates was sounding the Internet alarm. He issued ``The Internet Tidal Wave,'' a memo that hit on the themes that had been reverberating throughout Silicon Valley. He declared that the Net was the ``most important single development'' since the IBM PC. ``I have gone through several stages of increasing my views of its importance. Now, I assign the Internet the highest level,'' he wrote.

On May 27, Slivka issued his own alarm, titled ``The Web Is the Next Platform.'' He warned that the Web had the potential to supersede Windows. Says Slivka: ``I don't know if I actually believed that would happen. But I wanted to make a point.''

There was a growing sense among Microsoft execs that the Internet opportunity had to be seized--before it slipped to others. On June 1, 40 of them gathered at the Red Lion Inn in Bellevue, Wash., to brainstorm Net strategy. Gates gave a 20-minute talk on the ``Internet Tidal Wave.'' Slivka's scheduled 15-minute talk ended up lasting more than an hour. ``I got some people riled up,'' he says. At one point, Slivka proposed that Microsoft give away some software on the Net, as Netscape was doing. Gates, he recalls, ``called me a communist.''

Executives also went through every Net project that Microsoft had in the works and got their first peek at Java. The reaction? ``Like the early reaction to my memo, it was lukewarm,'' says Allard.

Only after Win95 was shipping in August did Microsoft put full force into the Net. ``In the three or four months before, there were symptoms that this thing was really accelerating,'' says Gates. ``I said, `O.K., once we get Windows 95 shipped, I'm really going to put a lot of thinking into how this affects our strategy. Can we have a strategy where we bet on the Internet and assume it's really going to drive demand for PCs and software? And how would that reshape our strategy?'''

Gates had no time to lose. On Aug. 8, 1995, Netscape seized the spotlight with a spectacular initial public offering--which soared from 28 to 58 the first day and launched a bull market in Internet stocks. Chairman Clark became a paper billionaire 18 months after launching his company. Gates didn't hit that milestone until Microsoft was 12 years old.

Netscape was gaining more than a following on Wall Street. It had Microsoft-like dominance in the Web-browser business and was signing up blue-chip customers who were building Web sites with the Netscape server program. Meanwhile, all of computerdom was getting jazzed about Java, the Sun software that would make it possible to zap programs as well as Web pages over the Net. That scheme threatened to make the Web a place where Windows mattered not at all. On Nov. 16, Goldman, Sachs & Co. removed Microsoft's stock from its ``recommended for purchase'' list because of Internet concerns.

The message was clear: If Microsoft didn't want to be eclipsed in the network-computing era, it was going to have to play on the Internet--and it would have to play by Net rules. It would have to accept the Internet standards--embrace them--and try to hold on to its kingpin position by extending them with Microsoft embellishments.

Microsoft shifted to Internet time, with the bombastic Ballmer beating the tempo. Recalls Gates: ``Ballmer is saying, `Well, where are we?' We're saying, `Well, we have a lot of pieces, but it's not as comprehensive as it should be.' Ballmer is saying, `Make it comprehensive, and have an event. In fact, pick a date, and you'll have it comprehensive by then.'''

The date was set: Paul A. Maritz, group vice-president for platforms would pull together an elaborate Internet summit for Dec. 7. Microsoft would announce plans for browsers, Web servers, and a new Web-based MSN--and other initiatives. Holed up in the boardroom, Maritz listened for two days as execs streamed through with their plans. Richard Tong, a Microsoft general manager, hit the road, picking the brains of Net consultants. Slivka's group wrote a 14-page memo on how Microsoft could get 30% of the browser market. It suggested getting AOL and CompuServe Inc. to license Microsoft's browser.

TRASH TALK. At 8 p.m. on Dec. 6, Microsoft's top execs gathered at the Seattle Center auditorium for a dress rehearsal. They carefully went through each presentation. Gates even noodled with the language on the slides. (At the same time, executives from Microsoft and Sun were working through the night on a Java licensing agreement.) By midnight, the show was ready--until a PR exec told Gates the presentations were overwhelming. They needed a three-point summary for reporters. An exhausted Gates slumped to the floor, Ballmer next to him. Everyone waited, unsure if Gates was thinking or furious. Finally, he blurted out: ``I just want them to get that we're hard-core about the Internet!''

Glory, glory to the vision,

Though Netscape treats us with derision,

But soon will come the hour

When their stock price starts to sour,

We embrace and we extend!

Since then, there has been no looking back. Microsoft employees tuned in to closed-circuit TV to hear the Internet briefing, got the speeches by E-mail, and later received videotape copies. Gates wanted it perfectly clear what the new marching orders were. He need not have worried, notes Chris Peters, vice-president of the Vermeer Product Unit. ``If the chairman says success is defined as that, you will get a lot of that!''

Today, the Microsoft organization is pumped. ``The thing that really motivates us is paranoia and competition,'' says Maritz. The day after Microsoft's Dec. 7 splash, Netscape CEO James L. Barksdale was asked about the threat Microsoft posed. His joking response: ``God is on our side.'' That was like putting a match to dry kindling. ``It's the kind of stuff that gets people up in a locker room,'' says Silverberg, who now heads Microsoft's Internet division. ``I want to thank Netscape. All this trash talk helped get us motivated.''

Microsoft is using more than school spirit. Within days of the summit, insiders say, it tried to buy Excite. The startup's ``search-engine'' technology, like that of its better-known rival, Yahoo!, would help make MSN a useful gateway to the rest of the Web. Insiders say Microsoft offered $75 million, but Excite turned it down after investment bankers said they could get more by going public. On Apr. 4, Excite went public and is now valued at $84 million. Microsoft's next bid, an estimated $130 million offer for Vermeer Technologies Inc., a startup with scant sales, succeeded. Vermeer's highly regarded FrontPage is used for creating Web pages.

On Feb. 12, Microsoft unveiled a key weapon in its contest with Netscape: the Internet Information Server. Some 90,000 free copies have been downloaded to date. March brought a major coup: From under the nose of Netscape, Microsoft snared a deal to have its Internet Explorer used as the primary Web browser on AOL. In exchange, Microsoft offered a big concession: putting AOL in Win95, ending an exclusive edge for MSN. Microsoft was on its way from Web wannabe to Web contender. Says Intel Corp. CEO Andrew S. Grove: ``That was a masterpiece of pragmatic business attitude.''

In June, Microsoft turned its attention to intranets--corporate networks built on Internet technology. On June 13, it outlined an initiative centered on Windows NT 4.0, due late this summer. It will be crammed with Web features, including FrontPage and a new search program. That's attractive to outfits such as Merrill Lynch & Co. that would prefer one supplier for conventional software and the newer Net applications. It's rolling out a trading system around 25,000 Windows PCs and 1,200 NT servers--with intranet and Internet connections.

Bill Gates is counting on customers such as Merrill Lynch to stand by as his company fills in the remaining holes in its Internet strategy. Microsoft still lags in programs for collaboration and electronic commerce, for instance.

The Net upstarts that goaded Microsoft say it's missing a lot more than a few pieces. They claim what's coming out of Redmond is mainly talk. ``It doesn't take long to write an ad,'' sniffs Sun Microsystems CEO Scott G. McNealy. Gates says Microsoft is delivering what it has promised. But he also concedes his work is not done. ``We're not saying we're out of the woods on this one,'' he says. ``We have more than a year of incredible execution that we have to do.'' That's Internet time, mind you.


JANUARY, 1993 Mosaic, the first Web browser, is introduced.

MAY 11, 1993 Bill Gates approves work on Marvel, an online service later called Microsoft Network.

JAN. 25 & FEB. 7, 1994 Two twentysomething Microsoftians, programmer J. Allard and Steven Sinofsky, technical assistant to Gates, send separate memos to managment warning that Microsoft needs to get jazzed about the Internet.

APR. 4, 1994 Netscape Communications Corp. is founded as Mosaic Communications.

APR. 5, 1994 Micro-soft execs hold their first Internet retreat at Shumway Mansion in Kirkland, Wash.

MAY, 1994 Microsoft announces Tiger, a video server for the I-way.

AUG. 15, 1994 Internet evangelist Ben Slivka insists Microsoft develop a browser. The company plans to rush it into Win95.

SEPT. 12, 1994 The first Netscape browser hits the Web.

OCT. 6, 1994 Gates writes a memo called ``Sea Change'' outlining plans for networked computing.

DEC. 16, 1994 Micro-soft licenses Spyglass technology to help it quickly develop a Web browser.

FEBRUARY, 1995 Paul Maritz writes a memo, ``Netscape as Netware,'' referring to the Novell software used to run corporate networks. It's intended to show the troops how Netscape will compete with Microsoft.

MAY 23, 1995 Java makes its official debut at the Sun World conference.

MAY 26, 1995 Gates sounds the charge with a memo called ``The Internet Tidal Wave,'' which signals broad changes ahead.

JUNE 1, 1995 Execs gather at the Red Lion Inn in Bellevue, Wash., for a second Internet retreat. Among the topics: Java.

AUG. 8, 1995 Net-scape goes public. Shares jump from 28 to 75 before closing at 58 the first day.

AUG. 24, 1995 Windows 95 ships, including software for MSN and the Internet Explorer browser.

SEPT. 18, 1995 Netscape introduces Navigator 2.0.

NOV. 6: 1995 Michael Kinsley joins Microsoft to create an online magazine, later called Slate.

NOV. 27, 1995 The big browser war begins as Microsoft ships Internet Explorer 2.0.

DEC. 5, 1995 Net-scape's stock peaks at a stunning 171 (pre-split) just four months after going public.

DEC. 7-8, 1995 Micro-soft, declaring that ``the sleeping giant has awakened,'' unveils its Net plans-including a plan to use Sun's Java-at a gathering for 300 analysts, customers, and reporters. In response, Netscape CEO Jim Barksdale jokes: ``God is on our side.''

FEB. 12, 1996 Micro-soft ships Internet Information Server, a free program for running Web sites. It will also become part of the Windows NT server software.

FEB. 20, 1996 Internet Platform & Tools Div. is created with Brad Silverberg in charge.

MAR. 12, 1996 America Online agrees to license Microsoft's browser. And Microsoft finalizes the Java license deal.

MAR. 25, 1996 Micro-soft Network hits 1 million customers.

APR. 2, 1996 Micro-soft ships Microsoft Exchange Server, which provides electronic messaging, ``groupware'' functions, and secure Net access.

JUNE 13, 1996 Micro-soft maps out its intranet strategy for major customers, promising new products including a search engine and a Web-ized version of Office 97.


Microsoft has been buying up promising Web startups to help it move more quickly onto the Net

JAN. 13, 1995: Takes a stake in UUNET Technologies Inc., an Internet service provider that will provide Internet access for Microsoft Network.

JAN. 16, 1996: Buys Vermeer Technologies Inc., the Cambridge (Mass.) maker of FrontPage, a tool for creating and managing Web documents.

MAR. 12, 1996: Acquires Colusa Software Inc., maker of Omniware, which is used to make object-oriented programming that runs on the Internet.

JUNE 11, 1996: Buys eShop Inc., a leader in Internet commerce software, for under $50 million. eShop's technology will become a key part of Microsoft's Merchant software for electronic retailing.

JUNE 17, 1996: Acquires Electric Gravity Inc. Its Internet Gaming Zone, which features multiplayer games such as chess and bridge, will be linked to the Microsoft Network.


INTERNET EXPLORER: 3.0 A test version of Microsoft's latest Web browser is drawing raves. It ships in mid-August.

WINDOWS NT: 4.0 An update to the ``server'' operating system, due in late summer, will have the Windows interface and free Web software.

``NORMANDY'' NETWORKING SERVER: A program for large-scale networks ships in early 1997.

INTERNET EXPLORER: 4.0 At yearend, the browser will be merged with Windows and NT and will support Sun's Java.

OFFICE 97 WITH WEB LINKS: The popular office suite gets Web-ized in late 1996.

``MERCHANT'' ELECTRONIC COMMERCE SERVER: Microsoft's server entry for setting up online stores on the Web ships at yearend.

By Kathy Rebello By With Amy Cortese in New York and Rob Hof in San Mateo, Calif.


Updated June 14, 1997 by bwwebmaster
Copyright 1996, Bloomberg L.P.
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