Remaking Microsoft
Why America's most successful company needed an overhaul

In Corporate America, does it get much better than this? Imagine a 24-year-old company still hotfooting along like some young whippersnapper. Revenues and profits are rising at a 30% clip. Income per employee is an enviable $257,000, vs. an average $17,000 for the Standard & Poor's 500-stock index. And the company has gone on a spending spree, investing in or gobbling up 92 companies in the past five years. Still, it has $22 billion in cash--more than any corporation in the U.S. Oh yeah--it also boasts the highest market cap of the lot, $414 billion.

Then why do the top minds at this amazing performer, Microsoft Corp. (MSFT), think something's wrong? Why are they neck-deep in ripping up the company's structure to create an entity that barely resembles the one that got them to the top? Look no further than Steven A. Ballmer, the new president, who--with nine months and 100 in-depth employee interviews under his belt--has concluded it's time to reinvent Microsoft. He explains: ''We needed to give people a beacon that they could follow when they were having a tough time with prioritization, leadership, where to go, what hills to take.''

Ballmer and his boss, Chairman William H. Gates III, call it ''Vision Version 2,'' a sweeping overhaul of the thinking and structure at Microsoft. As Gates says: ''The Internet has changed everything,'' and now Microsoft must change, too. The company's mantra--a PC on every desk and in every home--has grown moldy. The new rallying cry is giving ''people the power to do anything they want, anywhere they want, and on any device,'' whether it's on a PC or on a Web phone, says Gates. The most surprising part: Now, Microsoft programmers are freer to develop products that don't revolve around Windows software. Says Gates: ''It's a very big deal.''

Indeed, Microsoft already is spinning grand Web plans. In an uncharacteristic move, the software giant jumped into the takeover fray for cable giant MediaOne Group Inc. (UMG) that ended on May 5 with AT&T (T) the victor. The phone giant walked away with the third-largest cable operator, which owns fat pipes that can deliver the Internet at lightning-fast speeds into some 8% of U.S. homes.

But Microsoft may yet get just what it wanted out of its maneuvering for MediaOne: a deal to supply the software to a new generation of cable-TV set-top boxes that promise to usher the Web into living rooms across the U.S. Late on May 5, Microsoft was still in negotiations on a broad partnership agreement with AT&T that called for Microsoft to take a $5 billion-plus stake in the phone company. In return, Microsoft would get a nonexclusive contract to supply set-top software. ''If Microsoft is looking to grow, they have to look at new platforms,'' says analyst Cynthia Brumfield of market researcher Broadband Intelligence. ''The interactive digital box is the most promising new platform there is.''

DOUBLE VISION. Just as bold is another manuever being bandied about on Microsoft's sprawling 26-acre Redmond (Wash.) campus: creating a ''tracking'' stock that would give its Internet properties their full due with investors. Those assets might include Microsoft's popular Web sites such as Expedia, MSNBC, Investor, and any new cable ventures. Not only would Microsoft cash in on the sky-high Internet stock valuations, but the company could protect its cash cow, Windows software business, from any wild Internet swings.

It's an approach that gets at the complex nature of Vision 2--its split personality. On one hand, Gates wants to urge his troops on to new heights developing Windows software for PCs and servers--the core business. But he also wants his programmers to be on the Internet cutting edge, coming up with software and services that may not always be Windows or PC-based. Indeed, the differing software might even wind up competing for customers. The trick for Microsoft will be pressing on both fronts without going to war with itself.

Ballmer's plan is supposed to ward that off. A crucial piece of Vision 2 is a massive makeover of Microsoft into eight new groups that will no longer dance just to the tune of the company's technologists but to customers. Product development, budgets, and sales will revolve around different types of buyers: knowledge workers, for example, or the work-at-home crowd. If customers want software tailored just for the Net, that's what they'll get. If they want Windows with gobs of new features, Microsoft will be happy to accommodate. ''Follow the customer,'' bellows Ballmer. ''That's the No. 1 thing you do if you are at all lost.''

CHOKED ON RED TAPE. And lost is what Microsoft was becoming. While its financials have dazzled investors on the outside, inside there has been a growing discontent. As fast as Microsoft has been moving, it has not been near fast enough for the top brass. In the breakneck Internet era, where more than 10,000 new Web sites appear every day, companies are dishing up new products and strategies faster than a short-order cook. Against this manic backdrop, Microsoft had begun to look sluggish, even bureaucratic.

With 30,000 employees, 183 different products, and at least five layers of management, staffers had begun complaining about the red tape. One midlevel manager quit in March out of frustration with the snail's pace for decision-making. Last year, he suggested adding a feature to HotMail, the company's freebie Internet E-mail service, that would quickly take it's 40 million users to Microsoft's MSN sites. It would have taken about 30 minutes to write the code, he says. Yet, because of the need for consensus, it took 10 meetings and three months to do the job.

Other talent has been taking off, too. For instance, online publishing maven Peter Neupert skipped to startup, browser expert Hadi Partovi left for Tellme Networks Inc., and Product Manager David Rischer left for The brain drain had become so troubling that Microsoft hired A.C. Nielsen to survey former employees to find out why they left. ''The talent drain is one of the real competitive challenges they face,'' says analyst David Readerman of Thomas Weisel Partners.

POWERLESS. Some say Ballmer and Gates contributed to the problem. With decisions large and small being funneled to the top, the pair became a bottleneck. Worse, they undermined the confidence of managers below. Before Vision 2, Ballmer and Gates were involved in every decision--from key features in the upcoming Windows 2000 to reviewing the response records for the company's customer support lines. ''Senior executives didn't feel like they were in control of their own destiny,'' says Chris Williams, vice-president of human resources.

Now, Ballmer and Gates are turning that lumbering corporate culture on its ear. In the new world order, Ballmer's lieutenants are free to run their businesses and spend their budgets as they see fit--just as long as they meet revenue and profit goals. Last month, for example, the leaders of the company's new Consumer & Commerce Group invited Ballmer to a series of advertising budget meetings. He gladly attended the first one, but then quickly bailed out, saying they could handle the matter without him. ''I have to grow from being a leader to being a leader of leaders,'' he says.

Will Vision 2 work? Customers give a thumbs up to the new focus, a move they say is long overdue. And some of the newly elevated managers say they're already charged up. Robbie Bach, head of the Home & Retail Div., says that he ''feels like I am running my own little company.'' In addition to having say-so over developing products, he now, for the first time, controls a sales force.

Microsoft will need all the fervor it can get. The company is facing more challengers than ever before. In operating systems, Linux server software is coming on strong, while older rivals Novell (NOVL) and Apple Computer Inc. (AAPL) have been revitalized. After years of market gains, Windows server software actually lost share, shrinking from 36% to 35% last year, according to International Data Corp. Meanwhile, Linux' share jumped from 7% to 17%.

The company faces a host of E-commerce competitors, too--including the powerful partnership between America Online Inc. (AOL)-Netscape (NSCP) and (SUNW) Sun Microsystems. And IBM is making inroads into the lucrative market for corporate software. To come out blazing, Microsoft needs its chief weapon: Windows 2000, an industrial-strength version of its operating system that is now two years late. ''Microsoft doesn't have a huge single competitor,'' says analyst Richard G. Sherlund of Goldman, Sachs & Co. ''But the collective of competitors right now is more than a distraction.''

Perhaps the biggest threat is the Justice Dept.'s antitrust trial, scheduled to kick off again later this month. So far, Microsoft has bungled its defense and the pressure is on for a good showing in the final days. If Microsoft loses the case, which could easily drag on for two years in appeals court, the government is likely to seek stiff penalties. Legal experts say Microsoft may face limits on its use of exclusive contracts and may be forced to make Windows more accessible to rivals.

WEB LIFE. While Gates insists the suit hasn't affected his workers and has taken just 2% to 3% of his time, others say the rank-and-file are ''shell-shocked.'' ''The government has just torn them apart, but they are also not proud of how the company has defended itself,'' says a former Microsoft exec. ''It's like Microsoft is a deer in the headlights right now.''

That makes Vision 2 all the more crucial. For years, Gates has galvanized his troops by tapping out call-to-arms memos about the competitive threats ahead. When a product is released to rave reviews and soaring sales, Microsoft employees don't meet to celebrate but to do a postmortem on what should have been done better. And top executives have always lit a fire under Microsoft programmers by clearly defining the No. 1 enemy--Novell in 1994, Netscape in 1995 and 1996, and Sun Microsystems in 1997 and 1998. ''Remember,'' says Gates, ''Microsoft has a culture of operating in a sense of 'we'd better get going.'''

Gates is going now. Since Ballmer became president, he has been freed to ponder the future and what whizzy products it will bring. He has also found time to pen a new book, Business @ the Speed of Thought, that lays out how the Internet is transforming corporations. Tops on his list of new consumer technologies: software programs for what he calls a ''Web lifestyle.'' And he has gathered together his best technical minds to figure out the one thing that has stumped the industry for decades: how to make the PC as easy to use as a TV or telephone.

It's long overdue. For years, most of the company's engineers have spent their time adding features to Windows and applications. In spite of spending $3 billion a year on a research and development organization, Microsoft is still a technology follower. It spent two years catching up with Netscape Communications Corp.'s browser lead. And it's still trying to co-opt Sun Microsystem Inc.'s potentially world-changing Java programming language, which offers software programers the opportunity to write their programs once to run on any computer.

Now, Gates is intent on getting ahead of the pack. He has assembled a kitchen cabinet of techno-whizzes, including Windows architect David Cole, audio chieftain Anthony Bay, online whiz Ben Slivka, back-office builder Paul Gross, and E-commerce expert Satya Nadella. After one of his twice-annual ''think weeks'' last fall, Gates authored a memo pointing the way for the company's techies. His twin concepts of ''MegaServer'' and ''WinTone'' are designed to lead Microsoft into the vanguard of Internet computing.

NEPTUNE RISING. MegaServer foresees a time when computer users will be able to keep much of their professional and personal information and programs on large central servers that they access via the Web. That way, anywhere they are in the world, they can quickly get vital information. The idea behind WinTone is to make it simple for people to plug into the MegaServer--just as easy as making a call from a pay phone.

Microsoft is working on products to fulfill Gates's vision. For example, it's planning to meld its Web-based E-mail system, HotMail, with its corporate messaging system, Exchange. This will let road warriors get important messages from anybody's computer. Microsoft also will beef up its Web portal MSN to give corporate users the ability to log into their personal calendars, schedules, and even a mirrored image of their desktop from any location. That process was speeded up by the Apr. 27 purchase of Jump Inc., a maker of an online calendar system.

The other Gates priority is making the PC simpler to use. It's partly a defensive move. A new generation of computing appliances is coming that threatens to render the PC obsolete. IDC expects 12.2 million consumer devices to be sold in 2000--close to the number of consumer PCs sold. Gates wants to make the PC so easy that it attracts the 50% of home buyers that have shunned it so far. ''Its pretty complex,'' says Gates. ''We can make it easy.''

Even more basic improvements are in the works. For the past 18 months, top Microsoft engineers such as Steve Capps and Joe Belfiore have been crafting an overhaul of the Windows user interface. Called Neptune, it will see the light of day as part of a consumer version of Windows 2000 that's due late next year. The idea is to offer computing novices a choice of activities ranging from writing a letter to balancing their checkbook--all laid out in simple icons.

At the same time, another crew of engineers is working on a set of technologies--called Universal Plug-n-Play, which is expected to show up in desktop PCs this year and handhelds next year. The technology will allow consumers to plug their computer into the Net from wherever they are--say, getting baseball stats wirelessly while they're watching a game at Yankee Stadium. At home, the PC can become a central file cabinet for all things digital--from sprinkler systems to home security devices. ''There are some really exciting things that can be done--generating the same kind of excitement we had around Windows 95 and Windows 98,'' says Gates.

Gates wants computing to be much more intuitive for corporations, too. He's pushing the concept of a computing tablet that office workers can tote between meetings--giving them easy access to the latest information and E-mails wherever they roam. He believes a combination of Microsoft's own new ClearType screen-resolution technology with improved handwriting recognition and faster wireless networks will hasten the arrival of such devices. He also has high hopes for technologies that will allow geographically scattered people to collaborate on projects by posting spreadsheets or presentation slides and graphics on Web sites.

While Gates envisions the technology of the future, Ballmer is tending to ''business discipline and performance.'' And few are better at it than the 19-year veteran of Microsoft. Ballmer has had Gates's ear since their college days at Harvard. Since 1980, when Gates wooed Ballmer out of graduate school at Stanford, he has been the company's nuts-and-bolts guy. In 1995, when Microsoft was grappling with the sudden popularity of the Web, it was Ballmer who badgered Gates to set a time to tell the world their Internet plans, even though they hadn't yet jelled. Ditto an E-commerce Day the company held in March, and the Vision 2 shakeup.

Ballmer is doing it again, but this time his goal is customer focus. The first nonengineer manager at Microsoft, he has held nearly every major executive post, including head of sales for the past seven years. His experience there clued him in to how customers think--and how much Microsoft has ignored that. When he became president last August, he immediately sent hundreds of product engineers out to learn from corporate customers. ''I'm going to dial up my focus on delighting customers,'' he said at the time.

That he is keeping his word is no surprise. Ballmer's determination is legend even at a company that has redefined the word ''relentless.'' At the first hint of trouble he leaps into action. Take the time in February, when he got a call from Nancy Faigen, CEO of Beltsville (Md.)-based Web-hosting company Digex Inc. Her message: By ignoring companies like hers, Microsoft was missing out on a big chunk of business. Ballmer immediately dispatched a SWAT team of consultants to Digex to learn about the hosting business. And on Apr. 30, he sent Vice-President Thomas Cole to explain to Faigen what Vision 2 could mean for her. ''That's what I call walking the talk,'' says Faigen.

REINVIGORATION. Given Ballmer's customer bent, it would seem he had planned this realignment from the get-go. But it wasn't until he delved deep into the organization last fall on a morale-checking mission that he understood just how much work needed to be done. In September, he embarked on a series of more than 100 interviews with a cross-section of employees. His goal: To hear what was right about Microsoft--but, more important, to hear what was wrong. ''They were no-holds-barred sessions,'' says Williams of Human Resources.

Two of Ballmer's interviews stood out from the pack. The first was a ''senior guy,'' who wanted more authority and autonomy and less micromanagement. The second was a high-level executive, who did not understand why Microsoft was involved in a wide cross-section of products and efforts that didn't serve the main profit centers--Windows and Office. ''I thought that if these key employees didn't understand the roadmap, then we needed to make sure that everyone understands what we're trying to accomplish,'' says Ballmer.

January sent Ballmer globetrotting for the company's semi-annual business reviews. It was Jan. 14, and Ballmer was in the midst of taking 60 pages of notes from a discussion with one of his European managers when his ideas clicked. We needed to ''reinvigorate the vision,'' he says, that computing power will be on any device, anywhere. And the only way to know which software would be best in this new wired world would be to listen to customers. He sketched out the rough outlines of Vision 2 on a yellow legal pad. Ballmer raced to meet with Gates at his home on the next available weekend. ''I wanted to make sure before I got too excited that we were in synchronization,'' says Ballmer. While the two came at it from different vantages--Ballmer from a business perspective and Gates from technology--the pair agreed.

Now, Microsoft is revving the engine. The new structure divides the company's product development groups into six pieces. There are two groups targeting corporate leaders and knowledge workers. Two others divvy up home-PC buyers and people who buy games at stores. Another focuses on software developers. And the last group is aimed at Web surfers and cybershoppers.

Previously, the product divisions were split along technology lines, one for applications and one for operating systems. The latter, for example, included heavy-duty Windows NT on down to the stripped-down WinCE version for handheld consumer devices. There were no distinctions based on customers, so features were the same for power users and newbies alike. ''We have to some degree been doing technology for technology's sake rather than based on what customers wanted,'' says David Cole, vice-president of the new Consumer Windows group. Now, Cole is eliminating arcane and hard-to-use features from the upcoming consumer version of Windows 2000.

Wiping out old, dysfunctional approaches is paramount throughout the company these days. In the past, when Brian Valentine, vice-president of the Business & Enterprise Div., wanted to hire a few people or move them around in his organization, approval went up to the executive committee for discussion. They often spent weeks batting it around in E-mail before making a decision, says Valentine. Now, he just does it. A month ago, for example, he created a ''Customer Love'' group of six people assigned to making sure big customers are happy. ''I'm effectively the president of my business,'' says Valentine.

To be sure, Ballmer and Gates are still calling the shots. The pair must approve goals for profitability, customer satisfaction, and industry leadership for each of the groups. But coming up with the goals is now the job of the new division heads. And once they get the stamp from above, the new managers have been told they need only seek Ballmer and Gates out for advice.

Will it really work that way? Microsoft observers are skeptical, given the long history of Gates and Ballmer exercising tight control. But the troops are hopeful. ''We haven't lived in the system long enough to know,'' says Jon DeVaan, new head of the Consumer & Commerce group. ''But that's the theory.''

They can look to the past, though, to know if the new customer focus will stick. That's the way it has been in Microsoft's sales division since Ballmer took charge there seven years ago. The philosophy has delivered some good results, especially in large corporations. Thomas G. Stemberg, the CEO of Staples Inc., points to an incident last fall when Staples was struggling to get Microsoft Internet technology to handle large volumes of visitors to its Web site. Frustrated, he sent an E-mail to Ballmer, who responded immediately and dispatched a small army of 20 Microsoft field engineers to Staples' headquarters. Within a week, the problem was fixed.

Ballmer's new organization is designed to replicate that level of customer obsession on the product-development side. And thanks to his own ad hoc efforts, it's got a running start--at least with a handful of large customers. Ford Motor Co. Chief Information Officer Bernard Mathaisel reports that when he agreed to buy Microsoft's E-mail products two years ago, he asked the company to make changes assuring its products could handle a network of 165,000 workstations. Ballmer, who headed sales at the time, took the problem straight to the company's product development teams. ''They've delivered on every one of them,'' Mathaisel says.

Now, Microsoft has to learn how to connect better with the tens of thousands of corporate customers who aren't as big as Ford. At clothing retailer Burlington Coat Factory Warehouse Corp., CIO Mike Prince complains that Microsoft has made little effort to reach out to him and get him interested in its server software. ''Microsoft has never really tried to win me over as a customer,'' says Prince. ''Nobody has ever sat down with me to get my mind-share.''

That's just one warning sign of how difficult it will be to turn Vision 2 into reality. There are plenty of other potential pitfalls. Now that the product development groups are more independent, there's the possiblity that they'll start heading off in conflicting directions. What if the idea of renting applications from a Web site catches on? Will the company's Web-site managers advocate that even at the expense of undermining the company's retail sales of Office? ''There are going to be some bumps along the way,'' says David F. Marquardt, a longtime Microsoft board member and venture capitalist with August Capital in Menlo Park, Calif.

Ballmer says bumps are inevitable. But if Microsoft stays focused on customers, it may well end up running as fast as the Net whippersnappers. ''Let's say this is V-2,'' says Ballmer, shortening Vision 2. ''We're gonna tune up. We'll have a V-3 if we need to. We'll have a V-4 if we need to. We're just gonna keep working it and working it and working it.'' Being relentless, it seems, is one thing that isn't changing at Microsoft.

By Michael Moeller in Redmond, Wash., with Steve Hamm and Timothy J. Mullaney in New York

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Remaking Microsoft

COVER IMAGE: Remaking Microsoft

TABLE: Building Microsoft 2.0

``I'm Trying to Let Other People Dive in before I Do''

RESUME: Steven Anthony Ballmer

The Five Facets of Bill Gates's Tech Vision

Q&A with the Visionary-In-Chief

ONLINE ORIGINAL: Why Microsoft Shareholders Should Cheer the AT&T Deal

E-Mail to Business Week Online

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