Arriving late to the internet revolution, Microsoft seems more interested in blocking the competition rather than building a long term business.  The software giant has already spent months paying people to use its search engine rather than convince them its a better product. But more payoffs are on the way.

Microsoft is paying or offering free software to developing countries to use its products rather than free alternatives like Linux (though Microsoft denies specific examples).  Microsoft is discovering the high price it charges for Windows and Office are pushing poor countries toward free and cheap alternatives. Instead of realizing the long term implications, Microsoft is hoping to lock in these customers with big payoffs now hoping they’ll pay in the future (even though they still won’t be able to afford Microsoft’s prices).  This is not a new business model, but it’s a nice way to blow millions of dollars (don’t need that research and development money anyway).

Further, to stave off Google’s free cell phone operating system, Android, Microsoft is looking to payoff cellular providers to use its expensive alternative. Steven Ballmer showed (once again) how disconnected he is from the realities of the software world when he said about Google’s Android “I don’t really understand their strategy. Maybe somebody else does.” I do: Google’s investing in a long term strategy, increasing the value of Google search and other Google products. It’s a way to make more money (even if that money is not from Android licenses).

The truth is Microsoft is still relevant and obviously has a place in the market.  The Xbox brand, with all its foibles, is a refreshing example of Microsoft’s innovation and willingness to take risks.  Even Xbox has relied on massive payoffs to game developers to push its way into the market – but that’s not a bad thing when it’s part of a long-term strategy. Microsoft wants Xbox to be profitable on its own merits, something that’s harder to say about Windows and its other products.

Even Microsoft’s branding strategy failed because of a lack of a long term plan – one that the company had faith in.  After three commercials, Microsoft pulls its controversial Seinfeld ads because bloggers didn’t like them.  But they were talking about them! People watched them over and over again to try to understand them.  But that understand would have come later on.  Instead, the new “I’m a PC” commercials reveal Microsoft’s lack of faith in their own branding and instead let their adversary, Apple, dictate the conversation (just ask McCain how well “change” worked for him).

I’m still an avid Microsoft customer (I’m writing this post on Live Writer).  But the company needs to realign itself with the new technology realities.  Branding, reminding customers how much we’ve trusted MIcrosoft all these years (even though they were fun to hate), shows they can still be relevant in our lives, for business and fun.  Paying off customers, buying also badly run companies (Yahoo), and criticizing successful competitors you don’t understand are not recipes for success.  Long term planning and real investment are.

Last week Google announced a $125 million settlement with book publishers to allow the search engine to copy out of print books and make snippets available with options to buy. The settlement avoids a lawsuit brought by the Author’s Guild and Association of American Publishers.

While many are praising the decision, I’m hesitant for several reasons. While it’s excellent to make thousands of out-of-print books available for research, the many restrictions, cost questions, and lack of legal precedent make this a lost opportunity for so much more.

Harvard University criticized the program for these reasons, going to far as to back out of the deal already in place before the settlement.  The university pointed out libraries, who would pay an unspecified price for full access, would be restricted to one terminal with access to the books and many copies would be missing pictures. Downloading would still not be allowed.

Second, Michael Masnick points out Google had previously stated it wanted these lawsuits to make better laws, using its massive war chest to fight lawsuits others couldn’t afford to. By paying off book publishers, Google not only lets go of an opportunity to stand up for fair use, but also opens itself up to other companies looking for an easy pay off. Viacom, in the middle of a $1 billion lawsuit with Google, used this settlement to claim Google learn its lesson in relation to honoring copyrights. Google’s made similar concessions, like paying off the Associated Press just to link to its stories, leading other news organizations to want their cut.

I’ve already found the limitations of Google Book Search reasons not to use it. Google is certainly trying to make the search mroe valuable for users, using an opt-out program to make sure orphan works can be accessed so this is better than nothing. But once again, book publishers are ignoring the value Google is adding to their books, books that are out-of-print and wouldn’t find an audience without Google’s scanning and searching.  Google is adding value publishers should want and be seeking out. But because of these restrictions (and cost), fewer people will be able to find these books and thus fewer people will be likely to pay.

A paper written by Haim Mendelson from Stanford Graduate School of Business and Deishin Lee from Harvard Business School guides students and businesses on how to fight open source business models and technology.

The two professors say being first to market, improving product features, and keeping the product closed are needed to combat the open source market - the way to make money against competitors who sell their products for free.  By keeping the product closed, open source networks can’t use the product to improve their own.

It’s sad to see such misguided lessons coming from two smart people and worse, teachers in a business school.  While it’s fine for commercial companies to compete with open source initiatives, Mendelson and Lee seem to recommend commercial as superior to open source even though several business models show free can be very profitable (e.g. Linux, Mozilla, MySQL, Wordpress).  Their example of a good commercial release, Microsoft Office, ignores how Office didn’t compete with open source upon release and further ignores how Microsoft is adapting to compete now with Open Office, Google Docs, and Zoho (all are free, only Open Office is fully open source).  Microsoft has released new specifications on its format types for anyone to include in software and is considering a subscription-based model for future releases.

Mendelson and Lee’s emphasis on being first to market is always good, no matter your business model, and improving product features is likewise necessity.  The problem commercial software has and will continue to have is open source, or at least open platforms, just offer more for less. Apple’s iPhone, another example of Mendelson and Lee’s, began by refusing developers any access to the system, telling them build for the web browser. A year later developers get to build applications with harsh restrictions, sometimes issued after applications are finished being built.  Google Android is coming out, fully open source and free for phone manufactures, has already attracted sour iPhone developers and has a huge software library waiting for its clientele - the first Android phone is still three weeks away from release.

Closed systems are a dying breed. It’s a slow death.  Trade secrets will always exist and there’s nothing wrong with that. What business students and professors should recognize is the landscape is evolving. Free and open aren’t bad words, but should be embraced by the next generation of business leaders.  Encouraging more of the same closed, walled garden thinking only slows innovation (see Microsoft) while free and open are winning the market and the profits (see Google).

After Google Video and Microsoft’s PlayForSure showed what not to do, Yahoo Music decided it wanted to be an example for what not to do in digital media.  Yahoo announced it will discontinue support for its DRM at the end of September, locking DRMed tracks to a single computer.

Microsoft tried to discontinue its PlayForSure DRM a few months ago, but has agreed to leave it up for a few more years.  Google Video discontinued its DRM, offering refunds for all purchases.  Only after some outcry did Yahoo agree to refund customers or provide DRM-free tracks.

All this ends up being expensive for everyone involved, whether its maintaining servers or refunding every customer you’ve ever had. Soon consumers will realize DRM deprives them of value they expect, like owning the music tracks they paid for.  Of course, consumers can always go to file-sharing networks which are free and DRM-free. That’s the competition, remember.

Shameless plug: I’ll be at the Flow Conference Oct. 9th in Austin, Tex. speaking on a roundtable about music and DRM in case anyone’s in the area.

The judge presiding over the Viacom vs. YouTube case has ruled Google must hand over IP addresses and user names of its users and a list of the videos they watched, whether on YouTube or embedded on other sites (an estimated 12 terabytes).  Viacom is asking for this information to prove YouTube deals the majority in infringing material.

The result of this ruling is a privacy nightmare.  The Electronic Frontier Foundation has argued the judge’s ruing violates, ironically, the Videotape Privacy Protection Act that says the government can’t snoop your rental history (library books are fair game).  Google, however, has argued before that IP addresses aren’t personal data because they aren’t attached to a single person, says Google “in most cases, an IP address without additional information cannot [identify a user].”

Unfortunately, the IP address can get you pretty close.  It identifies the computer and location, including households and laptops.  The result isn’t just embarrassing users who watched far too much Dog on Skateboard videos.  It’s what does Viacom, the RIAA, and MPAA do with this list once its public.  Most of their effort in suing customers was finding the IP addresses.  Now Google’s handing them over on a silver hard drive.

Viacom obviously wants to analyze Google’s data itself, ignoring a study by Vidmeter.com that found copyrighted materials accounting for a fraction of YouTube viewership.  Based on their sample of more than 1.5 billion views of 6,725 videos, 9.23 percent were taken down.  Those remove videos accounted for only 5.93 percent of views.  You can read the full study here.  Viacom itself accounted for 2.37 percent of of views, the highest of for all content owners.  How they monetize that to $1 billion would be magic.

[Via Mathew Ingram}

Last week, the Associated Press sent DMCA takedown notices to the Drudge Retort, a user-submitted news aggregator. Drudge Retort featured seven A.P. articles with headlines (often user-generated, not original), less than 100 word quotes, and a link to the original article which, according to the A.P.’s letter, did not fall under fair use.

The use is not fair use simply because the work copied happened to be a news article and that the use is of the headline and the first few sentences only. This is a misunderstanding of the doctrine of “fair use.” AP considers taking the headline and lede of a story without a proper license to be an infringement of its copyrights, and additionally constitutes “hot news” misappropriation.

The blogosphere spent the weekend lambasting the A.P. for overstepping the bounds of copyrights. The A.P.’s VP and Director of Strategy Jim Kennedy answered with a copy and paste job on dozens of blogs (I wonder who owns those comments):

We get concerned, however, when we feel the use is more reproduction than reference, or when others are encouraged to cut and paste. That’s not good for original content creators; nor is it consistent with the link-based culture of the Internet that bloggers have cultivated so well.

To further remedy the backlash, the A.P. announced today a set of guidelines for bloggers in linking to A.P. articles.

The Associated Press has been reliably archaic in evolving to the internet age. The A.P. pressured Google over its News search engine, eventually convincing Google to pay the A.P. for its stories and pictures. Google had no obligation to pay the A.P. and likely led to other newspapers suing Google for their share and encouraging the A.P. to think it can completely control its content.

Today’s New York Times quoted Kennedy recognizing their initial approach to blogs might have been “heavy-handed.” A.P. executives met to revise their strategy which will likely appear in their usage guidelines. Bloggers, just like mainstream news sources (including the A.P.), won’t accept guidelines on how to use content. The A.P. does not get to set special rules on its content, same as the MLB and ABC and any other organization. The point of fair use is that it doesn’t require permission from the copyright holder. The more companies accept these restrictions, the more other organizations will try to expand the power of their copyrights.

A.P.’s recent moves will inspire bloggers to avoid A.P. stories, instead leading traffic to competitors who want free promotion. The result will be a less influential A.P. as other news services embrace internet technology instead of fight it.

BoingBoing reports a secret code in Google Reader. The famous Konami Code used in dozens of Konami (and non-Konami games) since the NES days has made its way into Google Reader. Press Up Up Down Down Left Right Left Right B A will reset your unread items to 30 (like Contra’s 30-extra lives) and decorate your sidebar with a ninja. Reloading the page puts everything back to normal. Researchers are still analyzing the code’s usefulness.

I updated my Twitter status which, through TwitterSync, updated my Facebook status. Facebook, in turn, updated my FriendFeed with that status, but Twitter already updated FriendFeed. Suddenly I realized data portability is closer than we think.

A few weeks ago I wrote about the Info Wars brewing between the social networks on their desire to control our information. MySpace, Facebook, and Google launched their own social networking networking service, allowing users and 3rd-parties to access information inside each walled garden. Facebook quickly blocked Google’s service claiming privacy issues, an attempt to protect its users.

Facebook forgot its API already allows an immense amount of access to user information. Many leading social sites offer APIs, or application programming interfaces, that allow other sites to integrate each other’s systems. Facebook, for all the criticism of its walled garden mentality, is able to import data from many sites and external sites, like FriendFeed, can have data exported. I can’t move all my friends from one site to another…yet. But smaller social networks like Twitter are almost completely functional without ever going to Twitter.com.

The dream is control our content. Now we can just manipulate it. It’s a start. And competition, from new and old and in between social networks will force more open standards that make every site more valuable to users.

The most talked about new web 2.0 sites, from Facebook to Twitter, are facing business model challenges. Scott Karp points out the challenge of print advertising online while Alexander van Elsas goes farther in his post “Advertisement holds web 2.0 in a death grip.”

Web 2.0 has focused on free services - free services that build virally fast and then, hopefully lead to a business model when the venture capitalists get impatient. But banner ads and tier subscriptions aren’t enough.

Advertising, as Karp and van Elsas point out, isn’t useful. Google pioneered ads that use your search terms so they are relevant and unobtrusive, whereas the only thing Facebook can sell me are gay dating sites (Google advertises better ones). The challenge isn’t simply advertising isn’t working, but that you can’t charge people for your services.

Most web services offer a paid option with valuable features. Remember the Milk charges $25 a year just to sync my tasks to my phone. Yahoo Mail wants another $20 to give my email portability. Each service doesn’t cost too much, but add them up, and suddenly the internet got expensive.

Bernard Lunn says social networking “is at a major fork in the road” (leading to web 3.0?) where they have to choose between walled gardened, open APIs, or mix. All the free on the web will need a business model, and every site from social to content providers will find charging customers harder and harder and advertising spread thinner and thinner.

Google’s strength came from reinventing advertising to its strength - search - creating a unique model that let companies and individuals advertise without upfront costs. Amazon and eBay have built retail businesses that couldn’t exist in brick and mortar stores. Most other sites have relied on 7-8 figure buyouts to make money.

Other websites will need to find new business models. Some ideas like market research and statistics, like I discussed for Facebook and other social networks, make excellent use of their large user bases, but will lead to a decrease in value when every social site starts offering this research. Further, with open source and APIs all the rage, regular pageviews will become less reliable as people use services how they want, not how the websites want them to. For example, advertising will work even less for content providers once RSS readers takeover the mainstream.

This is a lot of doomsaying without many solutions. I think sponsorships and product placement has potential, but again, it’s going to be impossible to control users. The best business models thus far have been enterprise level customer service, best seen in companies like Red Hat which provides customized Linux solutions and and MySQL’s Enterprise Unlimited. Companies will pay for customized services and research which individuals have no use for. Less than one percent of MySQL’s customers pay, but that was enough for Sun to pay $1 billion to buy the company.

The focus over the next few years needs to be on developing new and hopefully revolutionary business models that recognize the internet, software, and content want to be free (yes, even music and movies). The old business models required payment, but the future doesn’t have to be constrained by old-fashioned thinking. Think outside the tubes.

Microsoft ruled desktop computers but now can barely get people to visit its website without paying them. Tim O’Reilly effectively sums up Microsoft’s problem:

Microsoft was once motivated by its own Big Hairy Audacious Goal: “a computer on every desk and in every home.” They achieved that goal, and ever since, they’ve drifted. Now their only goal seems to be to stay on top of the heap. They need to stop focusing on eating other people’s lunch and start thinking deeply about what kind of goals might stretch the company once again.

This past month has show Microsoft’s tunnel vision when it comes to the web. The company failed to acquire Yahoo (which was probably a good thing for both companies). Then, Microsoft offered cash back to users of its product search, feebly thinking this would steal customers away from Google. Microsoft ignored the fact that its product search is inferior to Google and didn’t offer enough money to make the step down worth it.

More subtly, Microsoft announced it was ending its book scanning project, leaving the endeavor to Google. Alex Chitu explains:

In other words, the book search engine didn’t make enough money and Microsoft decided it’s better to focus on areas that are more profitable. Instead of improving their search engine with valuable content from books and offering better search results, Microsoft chose to make decisions based on the short-term profits.

But that’s not all. Microsoft also decided to remove several games from its Xbox Live store because people couldn’t find the games they wanted. Apparently, Microsoft’s never been to Amazon.com or it would realize the benefits of the Long Tail and maybe fixed its user interface instead of depriving itself of additional revenue.

This is a lot of mistakes for one company to make. None of these seem like poor ideas over the short term, but they show Microsoft can’t look past its next earning’s report. Google, in comparison, lets its ad service support a research factory of innovation where products are unleashed with the idea for monetizing a distant thought for the future. Google News, Docs, Apps, Notepad, and Reader all have no advertising.

O’Reilly suggests Microsoft needs to define its long term goal, something that doesn’t put it in direct competition with Google, even outsourcing search. I don’t agree Microsoft should give up on search, mostly because I don’t want Google to have a monopoly on search (competition good, remember). But it’s true Google’s already doing well with the “Organize all the world’s information” goal.

Microsoft needs something new, that doesn’t rely on the walled gardens that made it the powerhouse it is. The next stage in computing won’t allow Microsoft to live off overpriced software like Windows and Office; not when free, open-source and online alternatives offer compelling alternatives. Buying Yahoo or Facebook isn’t a strategy unto itself, but needs to be part of a long term goal that recognizes both short term and long term benefits. Microsoft itself needs to change, and that change will happen over the long term.