This is, without doubt, one of my favourite stories ever. And look, I'll be doing a good few episodes on Gates and Microsoft, but why I decided to start off with this one is because it's a fantastic standalone story. You have Bill Gates and Microsoft, in the mid-90s at the height of their power, and then along comes Marc Andreessen and Netscape, who develop a browser that really launches the World Wide Web. And this is an existential threat to Microsoft. They try to bully Netscape into a deal, but Netscape fight back, and this sets in motion an antitrust case that brings out Gates' arrogance, petulance and fear, and it leads to a judgement where Microsoft is ordered to split in two. This is a cracking story, enjoy.
While this story starts in 1993, I want to give a little context as to where Microsoft was at this point. The company made its fortune after creating an operating system for IBM's first PC in 1981. But Gates cleverly inserted a clause into the contract allowing IBM to use the software for a flat fee, while Microsoft retained full ownership and could sell it to anyone else.
IBM mistakenly believed the real money was in the hardware, not the operating system. So when other manufacturers began producing clones of IBM's PC, they all turned to Microsoft for MS-DOS. And, as we discussed in the Steve Ballmer episode, Microsoft then tied manufacturers into its per-processor licensing agreements, whereby they paid Microsoft for every PC they built, whether it ran MS-DOS or not. The net effect was that almost every manufacturer simply pre-installed Microsoft on every machine.
So by 1993, Windows was running on around 90% of the world's PCs. Within two years, Bill Gates would become the richest man on the planet with a fortune of $12.9 billion, and Microsoft would become the world's most valuable company.
However, Microsoft's strategy of packing more and more features into Windows, while appearing to benefit consumers, was also a way of abusing its monopoly power by stifling competition and innovation.
For example, imagine you're a software company with a brilliant new application. Because Windows dominated the market, your software had to work with Microsoft's operating system, meaning you first had to open discussions with Microsoft. But that left you in a very vulnerable position. More often than not, if Microsoft liked your product, it would either invest in your company and eventually absorb it, or simply build its own competing version and bundle it into Windows.
Microsoft back then kind of reminds me of the Borg in Star Trek. They would assimilate other technologies, and if companies refused to play ball, then, as the Borg would say, "Resistance is futile."
Because if you tried to resist, if you wanted to go it alone and approach the PC manufacturers directly and ask them to preload your software (remember, this was pre-internet, software had to be distributed physically, or ideally it would be preloaded by the PC manufacturers), then Microsoft would play hardball and either threaten the PC manufacturers with less favourable conditions, or even threaten to pull their Windows licence.
Their power was so complete that, apparently, once a year senior figures from Microsoft gave a presentation to the top venture capitalists where they laid out their plans and projects for the upcoming year, and some of these projects might never even materialise, and the VCs then knew to avoid funding any startups that had products or applications that would clash with Microsoft.
So the origins of this story start in 1993 at the National Center for Supercomputing Applications at the University of Illinois. Marc Andreessen, who I have covered on a separate episode from about a year ago, was an undergraduate, and together with a small crew of fellow students and developers, built the first user-friendly, free web browser: Mosaic.
Now, an early adopter of Mosaic was a Silicon Valley figure called James Clark, the founder of Silicon Graphics, who had recently quit his company, sold his shares for tens of millions, and was looking for his next venture. He got talking to Andreessen and agreed to invest $5 million to transform Mosaic into an even more user-friendly commercial product, which they named Netscape, launched in 1994.
It was an instant hit. Sleek, fast and reliable, and it quickly became the browser of choice, kickstarting the dot-com boom.
In 1995, Netscape went public. Demand was so high that trading had to be delayed for two hours. It was the hottest IPO in history, the company was valued at $3 billion, and Clark's $5 million investment was now worth over $600 million.
Now, while all of this was going on, Microsoft was late to the party. At a conference in 1994, Gates is quoted as saying: "I see little commercial potential for the internet for the next 10 years."
However, within a year he'd changed his mind, and after one of his now-famous Think Week retreats, where he goes to a small cabin by himself to read and reflect (what a privilege to be able to do that), Gates produced the now-famous "The Internet Tidal Wave" memo, where he wrote that the internet is "crucial to every part of our business." And of course the browser was the gateway to the internet, so Gates had two very good reasons for wanting to control the browser market.
First, Microsoft believed that whoever controlled the browser could one day take a cut from all of the online commerce that might follow. Of course, that's not how the internet ultimately evolved, but in the mid-1990s nobody knew what the winning model would be. As Microsoft's CTO put it, the company's goal was to get "a vig", a cut or a fee, from every internet transaction that used Microsoft's browser. "A vig"? Talk about a nerd trying to sound all gangster.
But the second reason Gates wanted complete control of the browser market was even more important. He believed that if developers began writing software that ran inside a browser rather than directly on Windows, then the browser, not Windows, would become the platform. And if that happened, Microsoft's operating-system monopoly could become irrelevant.
Microsoft had begun developing its own browser, Internet Explorer, in 1994. But by mid-1995, with Netscape already controlling more than 80% of the browser market, Microsoft's own browser was nowhere near competitive. And so, in June 1995, two months before Netscape's IPO, the two companies met for what would become the pivotal meeting that ignited the browser war and the antitrust case that followed.
According to the Netscape team, Microsoft proposed a "special relationship." It would buy a 15-20% stake in Netscape. In return, Netscape would agree not to compete with Microsoft on Windows 95, which would have been 90% of the PC market. And the message Netscape got from that meeting was clear, and pretty similar to every deal that Microsoft offered competitors: agree, or face Microsoft's full competitive force.
Netscape rejected Microsoft's offer, first for business reasons. As Jim Clark was quoted: "I can't think of one company that collaborated with Microsoft and became a significant company."
But they also rejected it for ethical, or I suppose legal, reasons, because, as Jim Barksdale, Netscape's CEO, said, it was "such an explicit proposal to divide markets" that he had never encountered in his years in business. Because competitors aren't allowed to carve up markets between themselves, that's a textbook antitrust violation.
But not only did Netscape reject Microsoft, after the Netscape IPO two months later, Andreessen had become the new poster boy for the tech sector, appearing on the covers of all the major business and tech publications, and he used his platform to taunt Microsoft, predicting the end of their dominance.
Now, goading Microsoft publicly probably wasn't one of Andreessen's smartest moves, because it only made Gates and Microsoft even more determined to crush Netscape. Microsoft poured huge resources into improving Internet Explorer and made one crucial strategic decision: instead of selling it as a separate product, which they had initially done, they would now bundle it free with Windows.
And this is important because, only months earlier, Microsoft had signed a decree with the U.S. government designed to stop it from using its Windows monopoly to crush competitors by tying other Microsoft products to its operating system.
And then Microsoft upped their bully-boy tactics even more by threatening to revoke the Windows licence from the PC manufacturers if they put Netscape on their computers. And you see, because 90% of consumers and businesses used Windows, most people wouldn't buy a PC unless it came with Windows, so the threat was very significant.
Now, some people might be thinking, "That's just good business, you use every advantage you have." Fair enough, I'm all on board with leveraging whatever you have to win, as long as it's ethical and legal. But companies with monopolies are treated differently, and for good reason.
A monopoly isn't illegal in itself. The issue is how you use or abuse it. And Microsoft was abusing it by proposing to carve up the browser market with Netscape, a classic example of attempted market allocation, and then threatening to withhold Windows from PC manufacturers unless they dropped Netscape, a clear abuse of its monopoly power. On top of that, as mentioned, by bundling Internet Explorer into Windows, Microsoft was totally disregarding the decree it had only recently signed with the government.
And so Netscape put together a 220-page document that outlined why they believed Microsoft was abusing its position, and gave it to the Department of Justice.
Now, the Department of Justice didn't immediately act. One reason was due to its failed 13-year antitrust case against IBM, which ended in 1982 without a victory and left the DOJ wary of taking on another technology giant.
The other challenge that made the government wary was that, in traditional antitrust cases, when a company has a monopoly, it more often than not abuses it by raising prices and harming the end consumer.
But Microsoft was giving Internet Explorer away for free. The harm wasn't higher prices, it was the stifling of competition and innovation. But proving innovation that never happened is far more difficult than proving consumers paid too much.
However, after increased pressure from Netscape, as well as the fact that individual states were lining up to take their cases against Microsoft, in June 1996, the Department of Justice sent civil investigative demands (CIDs) to Microsoft requesting documents related to the Netscape charges.
And Microsoft's response to this application was pretty extraordinary, and basically blew everything up.
For context, the usual practice when a company gets a CID from the government is that the lawyers for the company would carefully filter what was handed over, and hand over only the documents linked to the specific case, in this case, Netscape.
But Microsoft sent the government a treasure trove of internal emails that went far beyond the dispute with Netscape and that painted a much broader picture of how Microsoft was abusing its power in all areas of its business, and, to quote one of the government lawyers: "You can't be a lawyer and not know these documents are lethal."
So with all of these emails and documents, the government realised they had a much bigger case, and this opened the gates to the huge antitrust case that almost brought down Microsoft.
So the big question here is: why did Microsoft just hand over all of these internal documents and emails without double-checking them first?
So there are lots of answers or reasons, but the first thing we need to understand here is that Bill Gates was the one calling the shots, not the lawyers.
Gates had always been deeply involved in Microsoft's legal strategy. It was his contract negotiations with IBM in 1980 that secured Microsoft's right to sell MS-DOS to other manufacturers, laying the foundation for the company's empire. He was also credited internally with helping win Microsoft's huge copyright battle against Apple, I don't have time to get into that here, but a lawyer for Microsoft involved in that case is quoted as saying: "Gates practically wrote our briefs himself." Even during the 1995 consent decree, Gates was personally rewriting the legal language late into the night.
And in relation to the antitrust case that we're about to get into, a member of Microsoft's legal team is quoted as follows: "The lawyers are not in charge. All the shots are being called by Gates."
Given Gates' central role in all things legal, why, then, did he give the go-ahead for all of the emails and documents to be sent over without any due diligence?
Arrogance played a role. Microsoft didn't believe the government had the expertise or understanding of the software market to pose a threat. Here's a quote from Gates in relation to the DoJ: "These people have no idea who they're dealing with."
Another reason why Gates handed over all of the internal docs and emails: he believed Microsoft wasn't doing anything wrong, because, unbelievably, he rejected the idea that it had a monopoly. When asked why he didn't believe Microsoft was a monopoly, Gates replied: "A monopoly is where you don't have competition. The notion that this is a market without competition is the most ludicrous thing I have ever heard in my life."
Gates was talking about the software industry as a whole. But the government was focusing on the operating systems sector, where Windows controlled around 90% of the market.
Gates could argue all he wanted that Microsoft competed in the software industry, but the fact of the matter is that defendants don't get to define the market in an antitrust case, the government does.
Another possible reason that Gates handed over the emails was that few executives back in 1996 appreciated just how damaging internal emails could be in court. They were seen as informal conversations between colleagues, not legal documents.
And a final, and probably most pertinent, reason as to why Gates allowed the release of all emails and documents was as a result of IBM's long-running antitrust case, which ran from 1969 to 1982. As mentioned earlier, the DoJ eventually dropped the case, but it had a major negative impact on IBM, and Bill Gates had a front-row seat, because Microsoft did a lot of business with IBM during this time.
Gates recalled being in meetings with IBM where lawyers were always present, because they had to have an input into almost every decision, and Gates was determined that Microsoft wouldn't go down that road. As Gates said himself: "The minute we start worrying too much about antitrust, we become IBM."
Gates' view was: the investigation shouldn't change how Microsoft did business. Rather than tying up senior executives in endless document reviews, he chose to hand over the material and keep the company focused on building software.
But that was a huge miscalculation on his part.
So now the government started to build its case over the next 18 months, and while this was going on, the browser war was effectively over, because between 1996 and 1998 Microsoft continued to launch much-improved versions of Internet Explorer, bundled it into Windows for free, so by 1998 Internet Explorer had captured almost 80% of the market.
And in October 1998, Netscape was sold to AOL for $4.2 billion. The first browser war was over, Microsoft had won, but now they were facing a much tougher and more formidable opponent, because the government not only had a mountain of evidence and huge resources, they also now had probably the best litigator in the USA at that time on their team: David Boies.
Now, David Boies is a more controversial figure today than he once was, largely because of his later work for Harvey Weinstein and Theranos. But back in the late 1990s and early 2000s, he was widely regarded as America's top trial lawyer.
He had a legendary work ethic, combined with a near-photographic memory that allowed him to acquire expertise very quickly, and this was crucial for the Microsoft case, because Boies brushed up on his tech research, and by the time the trial came around, he was more than capable of sparring with Microsoft's senior executives, and in particular with Gates, when it came to the intricacies of software.
Now, as always happens before a case goes to trial, both sides tried to negotiate a settlement.
Steven Ballmer, Microsoft's number two, believed the company should settle. But Gates was in charge, and Gates didn't think Microsoft should settle. In the negotiations, he passionately argued that the software industry was fundamentally different from every other industry, and that traditional antitrust laws simply didn't apply.
What struck Boies and the government lawyers was just how personally Gates was taking the case. On more than one occasion, Gates suggested the government wasn't simply trying to break up Microsoft, it was trying to destroy him personally.
Gates was taking it all too personally, and it's easy to see why. Back then, Gates and Microsoft were inseparable. Microsoft's greatest strengths, its strategic brilliance, ambition and relentless drive, were a reflection of Gates himself. But so too were its weaknesses: arrogance, stubbornness, and, above all, fear. Because according to people who knew him well, Gates lived with a constant fear that Windows could one day be displaced. In one email sent to senior executives at three o'clock in the morning, he wrote: "The internet is taking away our power every day."
Given all of the evidence the government had, Ballmer was right, the sensible business decision was to settle. But Gates had become so successful, so powerful and so revered within Microsoft, that very few people were willing to tell him he was wrong, that he needed to take a step back.
Settlement talks eventually broke down, and David Boies warned Gates and his team: "Once the United States government files suit against you, everything changes. People you thought were your allies turn out to be enemies. Everyone is more willing to question you, to resist you. The whole world changes."
And as we shall see, these were very prophetic words.
The trial began on October 19th, 1998, and, as expected, the government used the unfiltered emails that Microsoft gave them to continually undermine Microsoft's case.
For example, Microsoft insisted that Internet Explorer had always been a part of their operating system since 1994, this was so that they would be compliant with the decree they signed in 1995, which prohibited them from bundling products into Windows, but the government produced several internal emails showing Microsoft's initial intention was to sell Internet Explorer as a separate product and generate revenue from it.
There was an email sent by Hewlett Packard to Microsoft after Microsoft had instructed them to remove Netscape:
"We're very disappointed. From a consumer perspective, it is hurting our industry. If we had another choice of another supplier, based on your actions here, we would take it."
There was an email that was sent by a senior executive at AOL to his colleagues, where he quoted Gates as saying: "How much do we need to pay you to screw Netscape? This is your lucky day."
And exactly as Boies had predicted, the government also managed to get key Silicon Valley insiders, like Bill Campbell, CEO of Intuit, and Scott McNealy, a senior executive with Intel, to testify against Microsoft. They got depositions from computer manufacturers, like this one from Compaq:
"We had a relationship with Netscape and we had been shipping their product for a while. When Microsoft found out about it, they sent a letter to us telling us they would terminate our agreement for doing so."
But perhaps the greatest asset in the government's case turned out to be none other than Bill Gates himself, because, as part of the proceedings, the judge allowed the DoJ, led by Boies, to take a video deposition of Bill Gates before the trial began.
Now, there are 20 hours of video, all available online, but to get a really good idea of how Gates behaved, I recommend that you go to YouTube and search "Bill Gates Microsoft antitrust deposition highlights" and watch the 39-minute video. It's riveting and totally car-crash stuff.
Gates is petulant, distant, childish, stubbornly debating the meaning of simple words, claiming not to understand the phrase "market share", his competitors joked that it was the word "share" that threw him.
Gates failed to understand that in a deposition, it's the litigator, in this case Boies, who holds all of the cards. For once Gates wasn't in charge, this unsettled him, and it was also obvious that he just hadn't prepared himself for this type of questioning.
And, crucially, Gates underestimated Boies' tech knowledge, because it's clear from the questioning that Boies had acquired a very good understanding of the software industry.
Most importantly, a lot of what Gates said in the video deposition was contradicted by emails between him and his executives.
For example, in his opening arguments in the trial, Boies played a clip from the deposition where he asked Gates if he was aware of the crucial meeting between Microsoft and Netscape, where Netscape alleged that Microsoft proposed that they illegally divide the market, and where Microsoft also offered to take a stake in Netscape.
Gates' reply from the deposition was: "My only knowledge is the Wall Street Journal article; it surprised me. I was not involved."
Then Boies showed an email that Gates had written just a few weeks before that meeting, where he wrote: "I think there is a very powerful deal of some kind we can do with Netscape.... We could even pay them money as part of the deal, I would really like to see something like this happen!!"
And Boies continued to use the video deposition throughout the trial, significantly undermining Gates and Microsoft's credibility, it was massively damaging.
And there were so many individual instances where Boies just tore through Microsoft executives, exposing contradictions by using their own emails and documents.
So it was no surprise that the court came down hard on Microsoft. In April 2000, the judge ordered the company to be split in two, one business for Windows and another for its software and internet operations, while also imposing a series of restrictions on its conduct.
That breakup was overturned on appeal in 2001, but the appeals court upheld the central finding: Microsoft had abused its monopoly power and engaged in anti-competitive behaviour.
Later that year, Microsoft settled with the U.S. government, agreeing to end restrictive licensing practices with PC manufacturers and to share key Windows technical information with software developers.
Although Microsoft avoided being broken up, the case fundamentally changed the company. It became far more cautious, operating under the constant scrutiny of regulators, the very thing that happened to IBM and that Gates had feared.
As a result of the case, and also due to the internet boom that was going on during this time, many talented executives left Microsoft, and historians still debate whether the antitrust case gave emerging companies like Google and Facebook the breathing room they needed to flourish.
My own take on it, especially having sat through hours of the video depositions, is that Gates, and I mentioned this earlier, took all of this way too personally, and that's one of the main reasons why he made such big mistakes, bad judgement calls, but this was also combined with the fact that he had risen to such a powerful position that, first of all, no one on his side was strong enough or even willing to point out how wrong he was, but more crucially, even if they did, he wouldn't have listened.
And maybe, after the initial verdict was handed down, and on one of his weekly retreats, where he goes off to think, it hit him, he was too invested in Microsoft, there was more to life than fighting the government and everyone else. And so on reflection he just thought, you know what, my time and my energy would be better spent doing other things. Now, this is just supposition on my part, but the whole experience did mark a turning point, because in January 2000 he stepped down as CEO to become Chief Software Architect, and later that year he and Melinda launched the Gates Foundation.
And look, I will definitely be doing loads more episodes on Bill Gates and Microsoft, but I think this story reveals so much about Gates and Microsoft when they were at the absolute height of their power, but it's also about what happens when you get too consumed, so involved that you really can't see the wood from the trees, to the extent that it almost destroyed Gates and Microsoft, and that's why it's such a great business story.
And that brings us to listeners' emails, and this one comes from Christopher, who would love to hear an episode on Alan Sugar, the businessman who has been the face of the UK version of the Apprentice for 20 years now. Fantastic suggestion, Christopher, and I actually didn't have Sugar on my list, so thanks for that, and for listening.
And remember, if you have any comments, any corrections, or any story you'd like me to cover, email me at: info@gbspod.com
All the best, folks.