IN THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF COLUMBIA

UNITED STATES OF AMERICA,                                       Plaintiff,                   v. MICROSOFT CORPORATION,                                  Defendant. STATE OF NEW YORK ex rel. Attorney General ELIOT SPITZER, et al.,                                        Plaintiffs,                   v. MICROSOFT CORPORATION,                                  Defendant.

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Civil Action No. 98-1232 (TPJ) REDACTED PUBLIC VERSION Civil Action No. 98-1233 (TPJ)

PLAINTIFFS' JOINT PROPOSED FINDINGS OF FACT                   Joel I. Klein      Assistant Attorney General                   Mark S. Popofsky      Senior Counsel to the Assistant      Attorney General A. Douglas Melamed      Principal Deputy Assistant      Attorney General Rebecca P. Dick      Deputy Director of Civil      Non-Merger Enforcement Jeffrey H. Blattner      Special Counsel for      Information Technology U.S. Department of Justice Antitrust Division 950 Pennsylvania Avenue, N.W. Washington, DC   20530-0001 Christopher S Crook      Chief Phillip R. Malone Steven C. Holtzman Karma M. Giulianelli Michael C. Wilson John F. Cove, Jr. Pauline T. Wan Jeremy D. Feinstein      Attorneys U.S. Department of Justice Antitrust Division 450 Golden Gate Avenue San Francisco, CA 94102 David Boies      Special Trial Counsel Stephen D. Houck Antitrust Bureau New York State Department of Law 120 Broadway Street, Suite 2601 New York, New York 10271 OVERVIEW Plaintiffs' Joint Proposed Findings of Fact, and the evidence on which they are based, demonstrate that Microsoft has engaged in a broad pattern of unlawful conduct with the purpose and effect of thwarting emerging threats to its powerful and well-entrenched operating system monopoly. Most prominent among these was the threat posed by competing Internet browsers, particularly Netscape's Navigator. Non-Microsoft browsers, if widely used, promised to form the center of an emerging middleware platform that could have helped to erode the high applications barrier to entry that protects Microsoft's monopoly. Microsoft acted quickly to squelch this evolving middleware threat to what it sometimes called its "desktop paradise," first by proposing an illegal division of markets, and then by embarking on a predatory campaign to restrict the distribution and usage of Netscape's browser and, in Microsoft's words, to "cut off Netscape's air supply." But Microsoft's broad anticompetitive campaign has not been limited to preempting the browser threat; Microsoft sought to curtail other actual or potential middleware threats to its operating system monopoly, including Sun's Java, Intel's Native Signal Processing, and Apple's QuickTime. Microsoft's actions demonstrate that it believed it could not win simply by competing on the merits. As one of Microsoft's top executives candidly acknowledged: "we were very concerned that if the user saw Netscape Navigator side by side with Internet Explorer . . . we would lose." Microsoft's predatory campaign worked. It succeeded in preserving Microsoft's monopoly power by preventing the successful development of alternative platforms that could have eroded its Windows monopoly and given consumers greater choice. In other words, Microsoft prevented consumers from getting what they wanted so that Microsoft could keep what it had -- a monopoly in operating systems. For a long time now -- and, if Microsoft's actions to maintain its monopoly are not halted, for well into the future -- personal computer consumers are locked into a Microsoft world, one in which a single company essentially controls the configuration of desktop computing. The evidence detailed in these Proposed Findings establishes both the anticompetitive tactics Microsoft employed and the harm to competition and consumers those tactics caused. What can never be fully known, of course, are (i) the innovative products that would have come to market had developers not been deterred by Microsoft's illegal assault on potential competitors; and (ii) the benefits that consumers would have realized if Microsoft's operating systems monopoly had been eroded. Such products and consumer benefits are inevitable wherever market competition flourishes. Monopoly Power Microsoft has monopoly power in the market for operating systems for Intel-compatible personal computers ("PCs"). Microsoft's operating systems account for an overwhelming share -- well over 90% -- of that market and, indeed, of all operating systems for PCs. Microsoft's customers -- computer manufacturers ("OEMs") and the vast majority of PC users -- have no commercially viable alternative to the Windows operating systems. Microsoft is able to, and does, exercise its monopoly power over OEMs and PC consumers in a variety of ways. Microsoft's monopoly power is protected, and has been protected for years, by high barriers to entry into the operating systems market, the most important of which is the applications barrier. The applications barrier to entry exists because applications written to Windows will not run on other operating systems and other operating systems cannot effectively compete against Microsoft unless they can offer PC users a wide array of applications similar, in depth and breadth, to the vast set of applications that exists for Windows. The Middleware Threat In the mid-1990's, Microsoft identified a potential threat to its monopoly: platform level middleware such as Netscape's Navigator browser. Internet browsers run "on top" of operating systems and contain interfaces ("APIs") to which other application programs can be written. Because Internet browsers and other middleware can run on multiple operating systems, they can enable application developers, by writing programs to the APIs on the middleware, to develop programs that are platform neutral -- that is, that can run across a variety of operating systems. By potentially "commoditizing" the underlying operating system, browsers thus offer the potential to erode the applications barrier to entry and, ultimately, Microsoft's operating system monopoly. Netscape's browser posed a particularly serious threat to Microsoft: it was widely adopted by PC users to browse the rapidly emerging World Wide Web, it was cross platform, and it therefore had the potential to become a ubiquitous platform to which other application programs could be written. Another serious threat to Microsoft was the development of Java by Sun Microsystems. Java too can serve as an alternative platform to which developers can write applications that run across different operating systems. The Java and Netscape threats were mutually reinforcing because the Netscape browser was a primary distribution mechanism for Java and because Java applications are especially well-suited to the Internet and to other network-based computing needs and, therefore, complement the browser. Microsoft Quickly Acted to Thwart Potential Middleware Threats to Its Monopoly Microsoft has engaged in a broad pattern of conduct to exclude or eliminate products that Microsoft believed could help erode the applications barrier to entry and thereby threaten its Windows monopoly. Microsoft began its attack on the middleware threat by proposing to Netscape that it agree not to compete and to divide the browser market. Microsoft wanted Netscape to agree not to offer its browser and APIs for use on Windows 95; in return Microsoft would agree not to compete with Netscape on browsers developed for other, niche operating systems. Netscape rejected Microsoft's proposal. Over time, Microsoft made similar efforts to enter into illegal market-division agreements, or took other anticompetitive action, with Intel, Apple, and IBM. Unable to protect its monopoly through illegal agreements not to compete with its rivals, Microsoft engaged in a predatory and anticompetitive campaign effectively to exclude those rivals from the market or, at the least, to impede and weaken them so that they would no longer present serious threats. As part of its campaign, firms such as Compaq that assisted Microsoft in excluding its rivals were rewarded with lower prices and better technical and marketing support for Windows. In contrast, companies such as IBM, Gateway, and Apple that refused to exclude Microsoft's rivals or that distributed competing products were threatened or actually penalized with higher prices and inferior support for Windows or the loss of other, critical Microsoft products. Microsoft Targeted Netscape and Java The most direct and extensive part of Microsoft's illegal campaign was aimed at rival browsers, particularly Netscape's Navigator. Among other things, Microsoft tied its own, separate browser product, Internet Explorer, to its Windows operating systems and required both OEMs and PC users to take Internet Explorer as a condition of obtaining the operating system. Microsoft, like the rest of the industry, recognized that users demand for browsers was separate from demand for operating systems -- that is, users wanted the option of obtaining Windows with no browser or only with a browser other than Internet Explorer. Nevertheless, Microsoft tied the two together, refusing to sell Windows 95 or Windows 98 without Microsoft's browser or to permit OEMs to remove the browser before selling their PCs loaded with Windows. With Windows 98, Microsoft also unnecessarily "welded" the browser to the operating system, so that using another browser would be a "jarring experience," further excluding rival browser suppliers. Microsoft also entered into a variety of other restrictive agreements with OEMs, Internet access providers, and Internet content providers, all of which made it substantially more difficult for Netscape to distribute its browser and raised its costs. None of these agreements served any legitimate business purpose. In addition, Microsoft gave its browser away for free, without any expectation or basis for believing that it could defray the huge development, promotion, and distribution costs associated with Internet Explorer other than by entrenching its operating system monopoly. Similarly, Microsoft engaged in predatory and anticompetitive conduct to impede other platform threats, particularly Java. Among other actions, Microsoft "polluted" Java by developing and distributing its own, non-cross-platform version, induced third parties not to support cross-platform Java and to help fragment the Java platform, and engaged in anticompetitive conduct to impede the distribution of cross-platform Java. Consumers and Competition Have Been Injured Microsoft's predatory campaign has caused significant anticompetitive effects, has injured consumers, and threatens to cause even greater harm in the future. Microsoft's conduct has succeeded in blunting cross-platform middleware threats and thereby maintaining the applications barrier to entry. Microsoft substantially impeded the most effective channels of distribution for both Netscape and Java, raised its rivals' costs, and, ultimately, effectively eliminated Netscape as a platform threat, further entrenching and maintaining Microsoft's operating system monopoly. By hampering and weakening Netscape, Microsoft's predatory conduct has also dangerously threatened monopolization of the market for Internet browsers. Microsoft's entire course of conduct aimed at blunting potential middleware threats has further reinforced the applications barrier to entry by maintaining and expanding Microsoft's ability to influence and control standards in the increasingly important area of network-based computing, and thereby to extend its monopoly power into servers, Internet protocols, and other industry segments. Microsoft's efforts to preempt threats to this control will, in part, inhibit the emergence of other potential paradigm shifts. Microsoft's illegal maintenance of its monopoly has already deprived consumers of the potential benefits of greater choice, more innovation, and lower prices for Windows, and greater innovation in markets related to Windows, that might have resulted from uninhibited operating system competition. The Proposed Findings The Proposed Findings of Fact which follow are substantial, as is the evidence in the record which supports Plaintiffs' claims. The full Table of Contents provides a top-level summary of the proposed findings and the supporting evidence. Background findings and evidence are set forth in Part I. In the body of the Findings, individual proposed findings are preceded by Arabic numerals while the detailed evidence that supports each finding follows it and is designated by small Roman numerals. TABLE OF CONTENTS SUMMARY Background Microsoft Possesses Monopoly Power Over Operating Systems Alternative Platform-Level Technologies, Especially Internet Browsers and Java, Threaten Microsoft's Operating System Monopoly Microsoft Attempted To Enter Market-Division Agreements To Eliminate Platform-Level Software Threatened Microsoft's Operating System Monopoly 133 Microsoft tried to eliminate the browser threat by proposing a naked market-division agreement to Netscape Microsoft's proposal of market-division agreements to eliminate other potentially threatening middleware confirms the anticompetitive character of its course of conduct against the browser Microsoft Engaged In A Predatory Campaign To Crush The Browser Threat To Its Operating System Monopoly After Netscape refused Microsoft's offer to divide the browser market, Microsoft embarked on a predatory campaign to vanquish the browser threat 194 Microsoft tied its Internet Explorer browser to Windows 95 and Windows 98 in order to impede browser rivals such as Netscape, and for no legitimate purpose Microsoft imposed a variety of other anticompetitive restraints on the OEM channel in order to impede rivals such as Netscape Microsoft imposed exclusionary restrictions on OEMs' ability to modify the Windows desktop and start-up sequence Microsoft used its monopoly power to force OEMs into taking actions to hinder products or industry developments that threatened its operating system monopoly Microsoft entered into anticompetitive and exclusionary agreements with OLSs and ISPs Microsoft entered into anticompetitive, exclusionary agreements with Internet Content Providers Microsoft entered into exclusionary agreements with other firms that restricted their ability to promote, support, and distribute non-Microsoft browsers Microsoft set a predatory price for Internet Explorer Microsoft Used Predatory and Anticompetitive Conduct to Impede Other Platform Threats as Well, Thereby Further Entrenching Its Operating System Monopoly Microsoft responded to the threat that Java posed to the applications barrier to entry by engaging in predatory and anticompetitive conduct Microsoft engaged in predatory, anticompetitive conduct to induce Intel to abandon or restrict platform-level software Through its predatory and anticompetitive conduct, Microsoft has maintained its operating system monopoly, dangerously threatened monopolization of the browser market, and inflicted substantial and far-reaching consumer harm Microsoft's campaign to blunt the browser threat further entrenched Microsoft's operating system monopoly Microsoft's anticompetitive conduct created a dangerous probability that Microsoft would monopolize the market for Internet browsers AOL's acquisition of Netscape will not undo the harm to competition caused by Microsoft's predatory and anticompetitive conduct Microsoft's entire course of conduct has caused, and will continue to cause, substantial and far-reaching harm to competition Microsoft's course of conduct has caused, and will continue to cause, substantial and far-reaching consumer harm TABLE OF CONTENTS I. Background II. Microsoft Possesses Monopoly Power Over Operating Systems Microsoft's monopoly power is established by direct evidence of its existence and exercise Microsoft's monopoly power is also demonstrated by a structural analysis Operating systems for Intel-compatible PCs comprise a relevant market Microsoft possesses a dominant, persistent, and increasing share of the market for operating systems for Intel-compatible PCs Microsoft's dominant market share reflects monopoly power because its position in operating systems is protected by high barriers to entry Definition of barriers to entry The applications barrier to entry protects Microsoft's dominant position in operating systems (1) Microsoft possesses a dominant market share because software developers have powerful incentives to write applications first and foremost to Windows (2) The same factors that reinforce Microsoft's large market share inhibit other operating systems from challenging Windows (3) The persistence of Microsoft's huge market share is itself evidence of high entry barriers (4) The testimony of Apple and IBM illustrates the strength of the applications barrier to entry Other entry barriers reinforce the applications barrier to entry Microsoft's ability to control the price of Windows evidences its monopoly power Microsoft does not consider rival operating systems in pricing Windows 95 or Windows 98 Microsoft raised the prices of obsolete versions of Windows Microsoft increased the Windows 95 price when it released Windows 98 Microsoft used the threat of withholding discounts on Windows 95 to double the price charged IBM for Windows 3.1 following the release of Windows 95 Other aspects of Microsoft's pricing of Windows are consistent with monopoly power Dean Schmalensee's contrary analysis is unreliable Dean Schmalensee's approach to market definition is flawed Dean Schmalensee's opinion that Microsoft lacks monopoly power because of low barriers to entry is flawed Dean Schmalensee is wrong that the applications barrier to entry is low Dean Schmalensee's contention that entry into the microcomputer software industry is easy is a red herring Dean Schmalensee is wrong in arguing that the existence of potential threats to Windows shows that barriers to entry are low Dean Schmalensee's contention that "long term threats" prevent Microsoft from exercising monopoly power today is flawed Dean Schmalensee is wrong that Microsoft's other behavior is inconsistent with monopoly power III. Alternative Platform-Level Technologies, Especially Internet Browsers and Java, Threaten Microsoft's Operating System Monopoly Middleware technologies have the potential to reduce the applications barrier to entry and facilitate operating system competition The widespread use of non-Microsoft Internet browsers threatened to erode the applications barrier to entry and Microsoft's monopoly power The nature of the browser threat Microsoft recognized the threat Internet browsers, in particular Netscape Navigator, posed to its operating system monopoly Cross-Platform Java also presented a middleware threat to Microsoft's operating system monopoly The nature of the Java threat Microsoft recognized the Java threat The threats to Microsoft's monopoly power posed by Internet Browsers and Java are mutually reinforcing, and they could be essential to the emergence of the other platform-level threats to Microsoft's operating system monopoly IV. Microsoft Attempted To Enter Market-Division Agreements To Eliminate Platform-Level Software Threatened Microsoft's Operating System Monopoly Microsoft tried to eliminate the browser threat by proposing a naked market-division agreement to Netscape Microsoft first unsuccessfully sought to purchase or license Netscape's browser software code. When Microsoft recognized the threat that Netscape's browser posed to its monopoly, Microsoft set out to eliminate the threat by seeking Netscape's agreement not to compete and to divide the browser market Microsoft recognized that it could cripple the browser threat by eliminating Netscape as a browser supplier for Windows 95 Microsoft first suggested that Netscape not compete with it in the Windows 95 browser business at a June 2, 1995, meeting At a June 21, 1995, meeting Microsoft expressly proposed a naked market-division agreement to stop Netscape from offering a competing platform Microsoft's after-the-fact assertion that its market division proposal was simply exploring forms of legitimate cooperation is pretextual and contrary to the evidence Microsoft's contention that it was not trying to get Netscape out of the browser business is erroneous and rests on a misleading play on words Rosen's other testimony, both regarding the June 21, 1995, meeting and more generally, is evasive and misleading Microsoft's contention that it engaged in legitimate joint venture discussions with Netscape is contrary to the evidence Acceptance of Microsoft's market-division proposal would have resulted in both the maintenance of Microsoft's monopoly and a Microsoft monopoly in the browser market Microsoft's proposal of market-division agreements to eliminate other potentially threatening middleware confirms the anticompetitive character of its course of conduct against the browser Microsoft similarly attempted to divide markets with Apple Apple's QuickTime multimedia software, like the browser, is platform-level software that Microsoft viewed as a potential threat to its operating system monopoly Just as with Netscape, Microsoft sought to divide markets with Apple in order to eliminate the threat that QuickTime's platform-level components might pose Microsoft's purpose in proposing a division of markets to Apple was to ensure Microsoft's continued control over platform-level interfaces Microsoft retaliated against Apple, just as it did with Netscape, when Apple refused to accept Microsoft's proposal Just as with Netscape, Microsoft's proposal was unrelated to any efficiency-enhancing technology sharing Microsoft also attempted to divide markets with RealNetworks, using the same carrot and stick approach it used with other potential platform rivals V. Microsoft Engaged In A Predatory Campaign To Crush The Browser Threat To Its Operating System Monopoly After Netscape refused Microsoft's offer to divide the browser market, Microsoft embarked on a predatory campaign to eliminate the browser threat Microsoft made obtaining browser share a central corporate objective Microsoft embarked on a predatory and anticompetitive course of conduct designed to gain browser share Microsoft's efforts to pressure Intel to stop developing or supporting platform-level software illustrate Microsoft's predatory intent and tactics In an August 1995 meeting, Microsoft pressured Intel into not resuming platform-level software and not supporting Netscape and Java In subsequent meetings in the Fall of 1995, Microsoft explained to Intel that its strategy would be to kill Netscape and control Internet standards Microsoft tied its Internet Explorer browser to Windows 95 and Windows 98 in order to impede browser rivals such as Netscape and for no legitimate purpose Internet Browsers and Windows operating systems are separate products Browsers and operating systems are universally recognized by industry participants to be separate products (1) An Internet browser supplies web browsing (2) Industry participants view a browser as an application, and not as part of an operating system (3) In its ordinary commercial conduct, Microsoft treats Internet Explorer as a separate product Microsoft promotes Internet Explorer as a product, positions it in competition with other Internet browsers, and tracks its market share relative to those of other browsers Microsoft treated Internet Explorer and Windows separately until the issue arose in litigation (1) Before litigation, Microsoft called Internet Explorer a browser in its ordinary commercial conduct (2) Since litigation began, however, Microsoft has made a concerted effort to change its language in order to aid its legal position The recognition that browsers and operating systems are separate products reflects the marketplace reality that consumers, for a wide variety of reasons, demand operating systems and Internet browsers separately (1) Some consumers demand browsers and operating systems separately because different browsers have different features and it is optimal to obtain a PC containing only the desired browser (2) Some consumers, particularly corporate customers, demand browsers and operating systems separately because they find it optimal to standardize on the same browser across many PCs and across different operating systems (3) Some consumers demand browsers and operating systems separately because they may wish to upgrade one without upgrading the other (4) Some customers demand browsers and operating systems separately because they want no web browsing capability at all (5) OEMs are surrogates for end users; and thus, for the above reasons, they too demand browsers and operating systems separately To satisfy this separate demand, firms -- including Microsoft -- have found it efficient to supply browsers and operating systems separately (1) Internet Explorer and other browsers have been, and continue to be, supplied separately from operating systems (2) Operating system vendors -- at least those which, unlike Microsoft, lack market power -- supply operating systems separately from browsers Some operating system vendors offer consumers the choice of licensing the operating system without a browser Operating system vendors other than Microsoft sometimes bundle one or more browsers with their systems but allow VARs, OEMs, or end users to remove them or not to install them Until recently, Microsoft likewise accommodated this separate demand by enabling users to remove Internet Explorer from Windows Microsoft tied Internet Explorer to Windows in order to impede browser rivals and protect its operating system monopoly Before it decided to blunt the browser threat, Microsoft did not plan to tie its browser to Windows Microsoft changed its plans, and decided to tie its browser to Windows, in order to impede Netscape Microsoft used its operating system monopoly to compel OEMs licensing Windows 95 also to license Internet Explorer 1 and 2 Microsoft next tied Internet Explorer 3 and 4 to Windows 95 (1) Microsoft concluded that merely tying Internet Explorer to Windows was not sufficient to defeat Netscape and that, to win the browser war, it must make Windows and Internet Explorer difficult to separate (2) In furtherance of this objective, Microsoft tied Internet Explorer 3 to Windows by commingling the code that supplies web browsing with the code that supplies operating system functions, forcing OEMs to license that product, and refusing to supply an unbundled option Software routines and files need not be developed or distributed together to achieve seamless integration of their functions Although recognizing it could have chosen a different approach, Microsoft made Internet Explorer 3 and Windows difficult to separate and offered only a bundled version to OEMs and end users (3) Microsoft similarly tied Internet Explorer 4 to Windows (4) Microsoft also tied the browser to the operating system by refusing to license OEMs, and refusing to permit OEMs to offer their customers, Windows with Internet Explorer "uninstalled" Microsoft configured Internet Explorer to "uninstall" in response to demand for Windows without Internet Explorer "Uninstalling" Internet Explorer removes the Internet browser product Microsoft used its operating system monopoly to deny OEMs the ability to license or sell Windows with Internet Explorer uninstalled Microsoft also tied Internet Explorer to Windows 98 (1) Microsoft concluded that defeating Netscape required it to tie its browser more tightly to the operating system (2) To accomplish this objective, Microsoft made the browser and the Windows 98 operating system more difficult to separate by, among other things, eliminating the "uninstall" capability and hindering users from making other browsers the default There is no technical or economic justification for Microsoft's tying of Internet Explorer and Windows Microsoft's "welding" of its browser thwarted the substantial demand for Windows without an Internet browser There is no technical justification for Microsoft's value-reducing refusal to meet demand for Windows without web browsing (1) Microsoft easily could have supplied Windows 95 without web browsing (2) Microsoft easily could have supplied Windows 98 without web browsing and enabled OEMs and end users to "uninstall" the browser There is no technical reason for Microsoft not to meet demand for Windows 95 or Windows 98 without web browsing by offering further separation between the browser and the operating system (1) Microsoft easily could supply versions of Windows 95 and Windows 98 without the routines that provide web browsing and still offer users the same alleged benefits of its "integrated" features and design Bundling the browser with the operating system is inefficient for users that do not want the browser Tying the browser to the operating system is not necessary to achieve the benefits sought by users who want both the operating system and the Internet Explorer browser (2) Microsoft's forced licensing of its browser is not necessary to provide OEMs and users with other benefits, such as new file formats and data protocols The post hoc economic justifications Microsoft's witnesses have advanced for tying Internet Explorer to Windows are contrary to the evidence (1) Microsoft's conduct was not plausibly designed or intended to increase demand for Windows (2) Microsoft's tie-in and related restrictions were not reasonably necessary to preserve the integrity of the Windows platform (3) Microsoft's quality-related justifications are pretextual Microsoft's tying of Internet Explorer to Windows has caused significant exclusionary effects and consumer harm Installing a second product in a given software category imposes costs on OEMs (1) Increased technical support costs (2) Additional testing costs (3) Opportunity costs Microsoft's tie-in and associated contractual restrictions raised the costs to OEMs of, and thus deterred OEMs from, preinstalling Netscape and other non-Microsoft browsers Microsoft's conduct similarly raises the costs to end users of employing non-Microsoft browsers (1) It is undesirable for a customer who wants one type of browser to have a different browser pre-loaded on his PC (2) The hard-coding of Internet Explorer makes users less likely to use Netscape with Windows 98 Microsoft's conduct has caused other significant inefficiencies and consumer harm (1) Microsoft's commingling of the browser and operating system reduces system performance (2) Microsoft's commingling of the browser and operating system causes undesirable system complexity, incompatibilities, and security concerns Dean Schmalensee's testimony that Microsoft's conduct did not result in significant competitive and consumer harm is unreliable Microsoft imposed a variety of other anticompetitive restraints on the OEM channel in order to impede rivals such as Netscape Microsoft imposed exclusionary restrictions on OEMs' ability to modify the Windows desktop and start-up sequence Microsoft imposed the "Windows Experience" restrictions in response to, and in order to stop, OEMs' featuring Netscape more prominently than Internet Explorer Microsoft's restrictions significantly increased the costs to OEMs and end users of preinstalling or using non-Microsoft browsers (1) Microsoft intended its restrictions to facilitate winning the browser war (2) Microsoft's restrictions significantly raised the costs of its browser rivals, thereby impairing their ability to compete and harming consumers Microsoft's recent relaxation of some of its restrictions eliminates neither the most anticompetitive restrictions nor the restrictions' past effects Microsoft's justifications for its restrictions are pretextual and belied by the evidence (1) Microsoft's purported concern with consistency of the user experience cannot explain its restrictions (2) Microsoft's purported concern with protecting product quality and goodwill cannot explain its restrictions (3) Microsoft's restrictions are unrelated to its purported concern of preventing fragmentation of the Windows platform Microsoft used its monopoly power to force OEMs into taking actions to hinder products or industry developments that threatened its operating system monopoly Microsoft used its monopoly power, both through threats and bribes to induce OEMs to help entrench its operating system monopoly (1) Microsoft used its monopoly power to secure Compaq's assistance in its exclusionary strategy (2) Microsoft used MDA discounts to induce other OEMs to take exclusionary actions Microsoft offered discounts for making Internet Explorer the default browser Microsoft offered discounts for preserving the Microsoft-dictated Windows interface Microsoft offered discounts to OEMs that designed PCs in accordance with the Microsoft Hardware Design Guide ("HDG") and subject to validation testing at Microsoft's Windows Hardware Quality Labs ("WHQL") Microsoft used its monopoly power to punish OEMs who refused to facilitate its exclusion of rivals (1) Microsoft threatened "MDA repercussions" if IBM continued to bundle Netscape (2) Microsoft threatened to harm Gateway if it supported or bundled Netscape (3) Microsoft repeatedly penalized IBM for competing against Microsoft Microsoft withheld a Windows 95 license from IBM until 15 minutes before the product's launch because of IBM's preloading of competing products Microsoft conditioned access to critical marketing support, and other terms and conditions for Windows provided to other OEMs, on IBM's not preloading competing products with the PCs it shipped Microsoft sought to condition substantial MDA price reductions on IBM's ceasing to support competing products Microsoft's anticompetitive intent is evidenced by the clear contrast in its treatment of IBM and Compaq Microsoft entered into anticompetitive and exclusionary agreements with OLSs and ISPs Microsoft determined that securing distribution for Internet Explorer and limiting Netscape's distribution through leading access providers was critical to gaining browser usage share In furtherance of its goal of gaining browser usage share, Microsoft entered into exclusionary agreements with the most important ISPs and OLSs Microsoft's exclusionary OLS agreements Microsoft's exclusionary ISP agreements Microsoft's exclusionary "Internet Explorer preferred" agreements Microsoft anticipated that its exclusionary agreements would wrest significant browser share from Netscape The importance of the exclusionary terms is evidenced by how much Microsoft paid ISPs and OLSs to enter into the agreements Microsoft paid significant value other than promotion through Windows to induce ISPs and OLSs to agree to its exclusionary terms Microsoft also bribed ISPs and OLSs by offering what both access providers and Microsoft viewed as valuable promotion through Windows (1) Promotion in Windows is valuable to ISPs and OLSs because Windows is ubiquitous and users tend to select Internet access providers promoted through Windows (2) Microsoft created, and gave away, prominent desktop placement for ISPs and OLSs that agreed to its exclusionary terms (3) As Microsoft predicted, OLSs and ISPs agreed to its exclusionary restrictions to obtain valuable desktop placement (4) AOL viewed promotion through Windows as particularly valuable and would not have agreed to Microsoft's exclusionary restrictions absent placement in the Windows OLS Folder Microsoft unsuccessfully attempted at trial to minimize the value of distribution and promotion through Windows Microsoft's assertion that it lacks monopoly power over software distribution is immaterial Microsoft's contention that it simply offered ISPs and OLSs a better product is erroneous and misplaced Microsoft's agreements have caused substantial competitive harm Microsoft's agreements raised rivals' costs Microsoft's contracts substantially excluded rival web browsers (1) Microsoft's internal analyses evidence the impact of its restrictions (2) The exclusionary impact of Microsoft's agreements is confirmed by the AdKnowledge data (3) The exclusionary impact of Microsoft's agreements is confirmed by Internet Explorer's comparative lack of success in other channels Microsoft's argument that its ISP and OLS agreements did not have a significant exclusionary impact is belied by the evidence (1) Microsoft's restrictions were not ineffective (2) Microsoft's agreements frustrated access providers' desire to offer customers a choice of browsers (3) Microsoft witnesses' testimony that its ISP and OLS agreements did not have an exclusionary impact is unreliable (4) Microsoft's failure to enforce certain restrictions, and its partial waiver of them on the eve of this litigation, does not eliminate the agreements' anticompetitive effects (5) Microsoft's agreements were exclusionary and anticompetitive notwithstanding the small number of subscribers ISPs and OLSs garnered from the referral server Microsoft's justifications for its agreements are pretextual Microsoft entered into anticompetitive, exclusionary agreements with Internet Content Providers Microsoft determined that ICPs could help it win the browser war Internet Content Providers Microsoft determined that inducing leading ICPs to favor Internet Explorer and disfavor rivals would facilitate winning the browser war To achieve its objective of gaining browser usage share, Microsoft entered into exclusionary agreements with ICPs Microsoft developed the Channel Bar believing that it would generate substantial revenue Microsoft nonetheless decided not to charge ICPs for placement on the Channel Bar, but rather to use such placement as "strategic barter" (1) Microsoft's exclusionary agreements (2) ICPs agreed to these restrictions in order to get placement on the Windows desktop Microsoft's ICP agreements were exclusionary Microsoft specifically intended and anticipated that its ICP agreements would deprive Netscape of revenue, exclude Netscape and other browser rivals, and protect Microsoft's operating system monopoly Microsoft's contention that its ICP agreements were not capable of causing significant anticompetitive effects is unfounded Microsoft's ICP agreements lacked justification Microsoft entered into exclusionary agreements with other firms that restricted their ability to promote, support, and distribute non-Microsoft browsers Microsoft used its leverage over office productivity suites to coerce Apple to enter into an exclusionary agreement that favored Internet Explorer and severely disadvantaged browser rivals To facilitate winning the browser war, Microsoft sought to obtain default status for Internet Explorer on the Macintosh To accomplish this objective, Microsoft used its leverage over Apple, specifically Apple's dependence on Microsoft's Office productivity suite, to coerce Apple to enter into an exclusionary agreement that favored Internet Explorer and disfavored rivals (1) Microsoft's Office productivity suit ("Mac Office") was and remains vital to Apple's business (2) Microsoft used the threat of stopping development of and support for Mac Office to extract Apple's agreement to favor Internet Explorer and to restrict its support and distribution of rivals The restrictions Microsoft coerced Apple into accepting had significant exclusionary effects Microsoft's coercion of Apple to agree to exclusionary restrictions lacks justification Microsoft also induced RealNetworks not to support Netscape Microsoft conditioned access to early beta releases of Windows and other technical assistance on ISVs' agreeing to make Internet Explorer the default browser and to adopt Microsoft-controlled Internet standards Microsoft set a predatory price for Internet Explorer Microsoft set a zero price for its browser for the purpose of depriving Netscape of revenue and protecting its operating system monopoly Microsoft incurred hundreds of millions of dollars in costs in its effort to gain browser usage share Microsoft also sacrificed revenue from other products to gain browser usage share At the time it incurred its immense browser-related costs, Microsoft did not anticipate recoupment except through weakening browser rivals and thereby protecting its operating system monopoly The effect of Microsoft's predatory pricing of Internet Explorer has been to impede rivals, harm consumers, and facilitate Microsoft's objective of blunting the browser threat Microsoft's predatory pricing injured competition Microsoft's predatory pricing facilitated monopoly recoupment and injured consumers The after-the-fact justifications Microsoft offered for its better-than-free pricing of Internet Explorer are pretextual and inconsistent with the evidence Microsoft's assertion that it reasonably expected its browser-related expenditures to be profitable because of expanded demand for Windows is pretextual Microsoft's argument that ancillary revenues explain its better-than-free pricing of Internet Explorer is pretextual Dean Schmalensee's argument that predation is implausible is flawed. (1) Dean Schmalensee greatly underestimates the costs, and overstates the legitimate benefits, of Microsoft's predatory strategy (2) Dean Schmalensee is wrong that successful predation required eliminating Netscape (3) Dean Schmalensee is wrong that predation is implausible on the ground that AOL "holds the key" to the browser market (4) Dean Schmalensee is wrong that predation is implausible because other threats to Microsoft's operating system monopoly might exist or arise VI. Microsoft Used Predatory and Anticompetitive Conduct to Impede Other Platform Threats as Well, Thereby Further Entrenching Its Operating System Monopoly Microsoft responded to the threat that Java posed to the applications barrier to entry by engaging in predatory and anticompetitive conduct Microsoft "polluted" Java by developing and distributing a version that is not cross-platform Microsoft's purpose in polluting Java was to reduce the threat that cross-platform Java posed for the application barrier to entry Microsoft engaged in anticompetitive conduct to exclude cross-platform Java Microsoft used predatory means to weaken the principal distribution vehicle for cross-platform Java, Netscape Microsoft used its monopoly power to force widespread distribution and usage of its Windows-specific version of Java (1) Microsoft entered into exclusionary "First Wave" agreements with ISVs (2) Microsoft misled developers into using proprietary extensions to develop Windows-specific programs Microsoft induced third parties not to support cross-platform Java (1) Microsoft pressured Intel not to support cross-platform Java (2) Microsoft pressured Apple and IBM not to support cross-platform Java (3) Microsoft entered into agreements with ISVs that limited their ability to support cross-platform Java Microsoft's efforts to impede cross-platform Java facilitated the maintenance of Microsoft's operating system monopoly, hindered innovation, and harmed consumers Microsoft engaged in predatory, anticompetitive conduct to induce Intel to abandon or restrict platform-level software Microsoft repeatedly objected to Intel's efforts to develop platform-level software Microsoft engaged in predatory conduct designed to block Intel from distributing its platform-level NSP software Microsoft viewed Intel's platform-level NSP software as a potential threat to its operating system monopoly Microsoft blocked platform-level NSP through predatory conduct Microsoft used its monopoly power to ensure that Intel did not resume developing or supporting platform-level software The effect of Microsoft's conduct was further to entrench its operating system monopoly, hamper innovation, and deprive consumers of the benefits of Intel's platform-level software Microsoft's contention that technical considerations explain its objections to NSP is pretextual, and the testimony of its witnesses regarding NSP is not credible VII. Through its predatory and anticompetitive conduct, Microsoft has maintained its operating system monopoly, dangerously threatened monopolization of the browser market, and inflicted substantial and far-reaching consumer harm Microsoft's campaign to blunt the browser threat further entrenched Microsoft's operating system monopoly Microsoft could maintain its operating system monopoly without monopolizing the browser market because, by gaining merely a substantial share of browsers (and denying a large share to rivals), it was able significantly to reduce the likelihood that its monopoly power would be eroded Microsoft's conduct significantly hindered rivals' ability to obtain and retain browser usage The OEM and ISP/OLS channels are the most efficient channels for obtaining usage Microsoft's anticompetitive and predatory conduct substantially raised the cost to browser rivals of obtaining usage through the OEM and ISP/OLS channels The channels to which Microsoft relegated Netscape are markedly inferior and cannot compensate for Netscape's substantial exclusion from the OEM and ISP/OLS channels Microsoft's other exclusionary and predatory conduct reinforced the impact of excluding Netscape from the most important distribution channels As a result of Microsoft's predatory and anticompetitive conduct, Microsoft's share of browsers has risen dramatically at rivals' (principally Netscape's) expense Microsoft's garnering of a substantial position in browsers through its predatory and anticompetitive conduct has succeeded in blunting the browser threat and maintaining its operating system monopoly Dean Schmalensee's conclusion that Microsoft's predatory and anticompetitive conduct neither materially hindered browser rivals nor harmed competition is flawed and unreliable Dean Schmalensee improperly analyzes the impact of Microsoft's predatory practices Dean Schmalensee's conclusion that Microsoft's practices did not have a material impact on Netscape or other browser rivals is unreliable because it rests on flawed methodology and unreliable MDC survey data (1) The MDC data measure only the number of users of a primary browser (2) Survey data in general suffer from intrinsic difficulties, including biased questioning and methodology, that Dean Schmalensee did not take care to avoid (3) The MDC data in particular cannot be relied upon for the purposes for which Dean Schmalensee uses them (4) Dean Schmalensee presented the MDC data in a misleading way (5) Dean Schmalensee compounded the flaws in the MDC survey data by improperly combining them with other data Dean Schmalensee's conclusion that Microsoft's conduct did not materially raise rivals' costs or predatorily hinder rivals is flawed (1) Dean Schmalensee's contention that rivals' costs have not been raised is contrary to the evidence (2) Dean Schmalensee's conclusion that quality increases explain Internet Explorer's rise and Netscape's decline is inaccurate and ignores the impact of Microsoft's predatory campaign (3) Dean Schmalensee's criticisms of the Adknowledge data, and of the inferences plaintiffs' economists drew from that data, are misplaced Microsoft's anticompetitive conduct created a dangerous probability that Microsoft would monopolize the market for Internet browsers Internet browsers comprise a relevant antitrust market Microsoft specifically intended to monopolize the browser market Microsoft's predatory and exclusionary conduct, at the time it was undertaken, was reasonably likely to result in Microsoft's obtaining monopoly power over Internet browsers Microsoft anticipated that its conduct would result in its obtaining a dominant position in Internet browsers Because browsers exhibit network effects, it was likely that Microsoft's initial gains in market share would lead to further increases Microsoft already has more than half the browser market, and its share is increasing Substantial barriers to entry would ensure that Microsoft could exercise monopoly power in browsers Microsoft was reasonably likely to acquire monopoly power in Internet browsers Microsoft's monopolization of the browser market would increase the harm to competition already caused by Microsoft's effort to blunt the browser threat AOL's acquisition of Netscape will not undo the harm to competition caused by Microsoft's predatory and anticompetitive conduct AOL acquired Netscape for reasons other than its browser AOL will not, in the wake of Microsoft's predatory campaign, seek to resuscitate the browser threat; indeed, Microsoft remains likely to achieve dominance in browsers AOL is unlikely to challenge Microsoft's monopoly in other ways, and the other devices it may develop would not affect Microsoft's operating system monopoly Microsoft's entire course of conduct has caused, and will continue to cause, substantial and far-reaching harm to competition Microsoft's anticompetitive conduct aimed at blunting middleware threats reinforced the applications barrier to entry by extending Microsoft's ability to influence or control standards . Microsoft has achieved its objective of retaining significant influence over network-based standards and application development Microsoft's effort to blunt threats to its control over standards, and to extend that control, will inhibit the emergence of other possible paradigm shifts Microsoft's conduct has caused, and will continue to cause, substantial and far-reaching consumer harm Microsoft's maintenance of its operating system monopoly has deprived, and will continue to deprive, consumers of the benefits of greater competition in operating systems Microsoft has deprived consumers of the possible development of greater choice in operating systems Microsoft has deprived consumers of lower prices that might have resulted from greater choice in operating systems Microsoft has deprived consumers of benefits from innovation in markets related to operating systems Microsoft has deprived consumers of benefits from other potential paradigm shifts that Microsoft's conduct deters Microsoft's obtaining of a monopoly over browsers would result in further harm to consumers The tactics Microsoft has employed in its anticompetitive and predatory course of conduct harmed consumers Microsoft's incentive to engage in strategic innovation to protect its operating system monopoly will continue to harm consumers Microsoft's maintenance of its operating system monopoly preserves its control over innovation, to the detriment of consumers Microsoft distorted innovation in order to protect its operating system monopoly, thereby harming consumers Microsoft's continued incentive to protect its operating system monopoly can be expected to result in further strategic innovation that does not serve the interests of consumers I. Background 1. On May 18, 1998, plaintiffs the United States and twenty States and the District of Columbia filed actions against defendant Microsoft Corporation, alleging violations of the Sherman Act, 15 U.S.C. §§ 1 & 2, and the antitrust and consumer protection laws of the respective plaintiff States. The actions were consolidated, and expedited discovery ensued. Trial began on October 18, 1998, and concluded on June 26, 1999. 2. Defendant Microsoft Corporation ("Microsoft") is a corporation organized under the laws of the State of Washington with its headquarters in Redmond, Washington. Answer ¶ 41. 3. Microsoft's principal business is the licensing of computer software, which it conducts on a world-wide basis. Microsoft licenses computer software throughout the United States and elsewhere and delivers operating systems to computer manufacturers and others across states lines and international borders, and its business has had a substantial effect on interstate commerce. Answer ¶ 5. 4. Microsoft, among other things, licenses operating system and application software for personal computers. The personal computer industry, which has seen tremendous growth over the last decade, is an important, robust sector of the United States economy. Microsoft software dominates critical sectors of that industry. See infra Part II (Microsoft possess monopoly power in operating systems). Tevanian Dir. ¶¶ 6, 14, 22, 35 (Microsoft is also dominant in a number of applications, including office productivity suites). 5. A Personal Computer ("PC") is a computer designed for use by one person at a time. Microsoft Press Computer Dictionary, at 361 (3d ed. 1997) (GX 1050). 5.1 PCs (which include both desktop and laptop models), can be distinguished from more powerful, more expensive computers known as Servers, which are designed to provide services and functionality to multiple users, either in local area network or over the Internet. Warren-Boulton Dir. ¶ 20. Microsoft Press Computer Dictionary, at 430 (3d ed. 1997) (GX 1050). 5.2 A typical PC system consists of a number of components, including a microprocessor, dynamic memory, a hard disk, a keyboard, a monitor, and an operating system. Warren-Boulton Dir. ¶ 20. 6. PCs are built primarily by firms known as Original Equipment Manufacturers ("OEMs"). OEMs typically purchase from different third-party vendors and preinstall various hardware and software components for their systems, including the operating system and application software. Warren-Boulton Dir. ¶ 23. 7. OEMs develop and sell their PCs to consumers in a competitive market and design their PCs and their hardware and software features to respond to consumer demand. See infra Part II.A; ¶ 15.1.1. Warren-Boulton Dir. ¶ 24. 8. An Operating System is the "central nervous system" of the PC. Barksdale Dir. ¶ 69. 8.1. An operating system performs two basic functions. First, the operating system allows the various components of the PC to communicate and function with each other; it provides "the software that controls the allocation and usage of hardware resources such as memory, central processing unit time, disk space, and peripheral devices." Microsoft Press Computer Dictionary, at 341 (3d ed. 1997). Farber Dir. ¶ 11 (the operating system "controls the execution of programs on computer systems and may provide low-level services such as resource allocation, scheduling and input-output control in a form which is sufficiently simple and general so that these services are broadly useful to software developers"). 8.2. Second, an operating system provides a "platform" by exposing Applications Programming Interfaces ("APIs") that applications use to "call upon" the operating system's underlying software routines in order to perform various functions, such as displaying a character on a monitor. Schmalensee Dir. ¶¶ 93-94. 9. An Application is a software program "used to perform specific user-oriented tasks". Farber Dir. ¶ 11. 9.1. Applications typically "run on top" of the operating system and draw upon the services that the operating system's "platform" provides. Warren-Boulton Dir. ¶ 22 9.2. The term Platform is used in the software industry to describe software that "provides features or services that can be used by software applications." Schmalensee Dir. ¶ 93. 10. Microsoft produces a number of PC operating systems, including MS-DOS and successive versions of its Windows operating system, the most recent version of which is Windows 98. Since at least the mid-1990s, Microsoft has dominated the market for PC operating systems. As will be explained, Microsoft's market share has remained well in excess of 90% during that period. See infra Part II.B.2; ¶ 21. 11. Applications are produced by numerous firms, including firms like Microsoft that also produce operating systems and others, known as Independent Software Vendors ("ISVs"). Microsoft's application software is dominant in several key categories, most notably in office productivity suites. See infra Part V.F.1.b.(1).; ¶ 287.2.1. 12. All the components of a PC system -- the microprocessor and other hardware, operating system, and applications software -- must be compatible with each other. For instance, software, including the operating system and applications, must be designed to be compatible with the PC's microprocessor, and application software must be compatible with the operating system. 12.1. There are different types of PC systems. 12.1.1. An Intel-compatible PC is one designed to function with Intel's x86/Pentium families of microprocessors or compatible microprocessors manufactured by Intel or other firms. Microsoft's Windows operating system, and different types of UNIX operating systems, are examples of operating systems that run on Intel-compatible PCs. Fisher Dir. ¶ 62. 12.1.2. There are other types of PCs that use microprocessors that are not Intel-compatible, such as the Apple Macintosh computer system. Operating systems designed to run on Intel-compatible PCs, known as Intel-compatible PC operating systems, will not function on an incompatible PC like the Macintosh; and operating systems designed for an incompatible PC like the Macintosh will not function on an Intel-compatible PC. Gosling Dir. ¶ 7. 12.2. Applications programs are typically written to run on a particular operating system and cannot run on other operating systems unless the developer goes to the time and expense to "port" the program to the other operating system. For example, the version of Microsoft's popular Office productivity suite designed to run on Microsoft's Windows operating system cannot run on the Apple Macintosh or even on other Intel-compatible operating systems. See infra II.B.3.b.(1); ¶ 26.1.2. 13. One of the most important applications today is an Internet Web browser ("browser"). 13.1. A browser is a "client application that enables a user to view HTML documents on the World Wide Web, another network, or the users's computer; follow the hyperlinks among them; and transfer files." A browser enables "the user to examine, display, scan, and navigate via the Internet" information located on the "Web." Microsoft Press Computer Dictionary, at 505 (3d ed. 1997) (GX 1050). Farber Dir. ¶ 11. 13.1.1. The Internet is a global network that links many millions of PCs and a smaller number of servers together. Begun in the early 1960s, the Internet exploded in popularity with the emergence of the World Wide Web ("Web") in the mid-1990s. Maritz Dir. ¶ 50. 13.1.2. "The Internet is a global network of computers constructed by patching together many local area networks that use widely varying communication media such as telephone lines, dedicated data cables, and wireless links." The Internet links PCs by means of servers, which run specialized operating systems and applications designed for servicing a network environment. Felten Dir. ¶ 11. 13.1.3. In simplest terms, servers host and provide access to the Internet's content. In the case of the Web, this content consists principally of Web Pages, which are created by Internet Content Providers ("ICPs"). There are millions of web pages located on the thousands of servers that comprise the Internet. See infra Part V.E.1.a; ¶ 255. 13.1.4. Web pages can be accessed over those thousands of servers from millions of PCs because the Internet uses a number of widely-accepted standards. For instance, web pages are typically written in Hypertext Markup Language (HTML) and are transferred between servers and PCs using a common protocol known as Hypertext Transfer Protocol (HTTP). Felten Dir. ¶ 13. (The Web is "characterized by a set of standard data formats, including HyperText Markup Language ('HTML'), and a set of standard communication protocols, such as HyperText Transfer Protocol ('HTTP'), that together allow computers to share multimedia documents that may contain links to other such documents."). 13.1.5. Consumers typically access the Internet through the services of an Internet Access Provider, which can be an Internet Service Provider ("ISP"), such as Earthlink or AT&T Worldnet, or an On-Line Service ("OLS"), such as America Online or Prodigy. Internet access providers are commercial firms that connect users to the network of servers that comprise the Internet. See infra V.D.1; ¶ 213. 13.2. Although graphical web browsers have existed since 1993, the first widely-popular commercial graphical browser was developed and brought to market by Netscape Communications in late 1994. Microsoft introduced its browser, Internet Explorer, in 1995. See infra Part III.B.1; ¶ 53.1.1; Part V.B.2.c; ¶ 126. II. Microsoft Possesses Monopoly Power Over Operating Systems 14. Microsoft possesses monopoly power over operating systems for Intel-compatible personal computers. 14.1. Microsoft's monopoly power in Intel-compatible personal computers is demonstrated by its customers' lack of any commercially viable alternative to Windows and certain Microsoft conduct that makes sense only if there is a monopoly to protect. See infra Part II.A; ¶¶ 15-16. 14.2. A traditional structural analysis, which shows that Microsoft possesses a dominant market share protected by immense barriers to entry, confirms that Microsoft has monopoly power. See infra Part II.B; ¶¶ 17-32. 14.3. Microsoft's monopoly power is also evidenced by its ability to control price. See infra Part II.C; ¶¶ 33-38. 14.4. Dean Schmalensee's analysis that Microsoft lacks monopoly power is contrary to the evidence, inconsistent with his prior testimony and writings, and otherwise unreliable. See infra Part II.D; ¶¶ 39-50. A. Microsoft's monopoly power is established by direct evidence of its existence and exercise 15. That Microsoft has monopoly power in operating systems is directly evidenced by the "sustained absence of realistic commercial alternatives" to Microsoft's operating system product. Fisher, 6/1/99am, at 11:17-18. 15.1. Microsoft's principal customers, computer manufacturers (OEMs), lack any commercially viable alternative to Windows. 15.1.1. OEMs are the most important direct customers of operating systems. Because competition among OEMs is intense, they respond to consumer demand. OEMs thus not only are important customers in their own right, but also are surrogates for determining the commercial alternatives reasonably available to consumers. Dr. Warren-Boulton testified that the "great majority of operating systems installed on PCs are installed on new machines by OEMs." Warren-Boulton Dir. ¶ 23; id. at ¶ 23 n.7 (noting that in 1997, 87.6% of all copies of Windows 95 were installed by OEMs). Professor Fisher testified: "OEMs's are, in some sense, the representative of the consumer for certain purposes. They are in competition with each other. They gain if they deliver what end users actually want. They wouldn't care about the restrictions on them if they don't think that it mattered in their dealings with consumers." Fisher, 6/2/99am, at 22:1-6. Dean Schmalensee conceded that "OEMs respond to consumer demand." Schmalensee, 1/25/99am, at 15:16 (sealed session). See also Rose Dir. ¶ 17 ("If there were sufficient customer demand for a different operating systems for personal computers, Compaq would consider licensing that operating system."); Von Holle Dep., 1/13/99, at 299:15 - 300:1 ("if viable alternative emerged" to Windows, Gateway "would evaluate" them because Gateway likes "to make sure that" its "customers are offered a . . . choice of products that become popular in the market place"); Ransom Dep. (played 12/16/98pm), at 71:20 - 72:4 ("If there's a product with a competitive advantage or a price advantage, frankly, we would consider it. But it has not been presented to us."). 15.1.2. OEMs uniformly testify that they lack any commercially viable alternative to Windows: The testimony of Garry Norris, former Director of Strategy and Software at IBM Personal Computer Company, vividly illustrates the absence of commercially viable alternatives to Windows. Norris testified that, "without Windows 95, you couldn't be in the P.C. business." Norris, 6/7/99am, at 66:18-20. Indeed, Norris explained, IBM concluded in the summer of 1995 that, if it did not obtain a Windows 95 license, it would "lose . . . anywhere from 30 to 90 percent" of its sales volume, and "the IBM P.C. company would be out of business" in "three to twelve months." Norris, 6/7/99am, at 65:16 - 67:18. The testimony of Microsoft's own OEM witness, Compaq's John Rose, illustrates OEMs' dependence on Windows. Compaq preinstalls Microsoft operating systems on over 90% of its PCs, including 100% of its popular Presario line, Rose, 2/17/99pm, at 12:25 - 15:3; Rose Dir. ¶ 17 (since 1993, Compaq has "not consistently loaded any alternatives to Windows on personal computers it markets to consumers."), because Compaq has no commercially viable alternative to Windows. Rose, 2/17/99pm, at 8:16-20. Gateway's Penny Nash testified that for Gateway to stop licensing Microsoft operating systems would "be suicide." Fisher Dir. ¶ 63 (quoting Nash Dep. 11/18/97, at 5-6); see also Von Holle Dep., 1/13/99, at 298:2-23, GX 357 (sealed); Fisher Dir. ¶ 63 (quoting Brown Dep., 3/5/98, at 10-11). Other OEMs gave similar testimony: Mal Ransom of Packard Bell, a leading OEM, testified that Packard Bell pre-installs Windows on 100% of its PCs and has done so for several years. Ransom Dep. (played 12/16/98pm), at 68:14 - 69:23. Packard Bell loads Windows because it is "the only viable choice." Ransom Dep. (played 12/16/98pm), at 69:5. Frank Santos testified that Hewlett-Packard has not considered any other operating system for its consumer line of PCs "because there isn't any out there." Fisher Dir. ¶ 63 (quoting Santos Dep., 4/13/98, at 7-8). 15.1.3. All three economic experts in this case agreed that there is no commercially viable alternative to Windows to which a significant OEM can switch in response to a substantial price increase or its equivalent by Microsoft. Professor Fisher testified that Microsoft's power is shown by evidence that "Microsoft's customers do not believe that they have serious commercial alternatives to Windows." Fisher, 6/1/99am, at 11:9-19; see also Fisher Dir. ¶ 63. Dean Schmalensee conceded that there are no reasonable substitutes for Windows to which a major OEM can switch and that Microsoft can raise the short-term price of Windows. Schmalensee, 1/20/99am, at 33:3-8; see also 1/13/99pm, at 68:17 - 69:2. Dr. Warren-Boulton testified that OEMs consider Windows "commercially necessary" and that "if confronted with a 10% increase in their Windows license, they would not switch to operating system products for other hardware platforms." Warren-Boulton Dir. ¶ 39 (summarizing OEM testimony); Warren-Boulton, 11/23/98pm, at 70:9-12 (testifying that it is "commercially necessary to be able to offer Microsoft operating system . . . to end users"). 15.1.4. Microsoft knows that OEMs have no choice but to load Windows. 15.1.4.1. Microsoft told OEMs that they lack any alternative to Windows and, indeed, that Microsoft was "the only game in town." Norris of IBM testified that Microsoft executives repeatedly sought to use the fact that IBM had no "commercially viable alternative" to Windows (Norris, 6/7/99am, at 66:18-20), and feared losing access to Windows, to pressure IBM into dropping products that competed with Microsoft. See infra Part V.C.2.b.(3); ¶¶ 209-212. Indeed, Norris testified, the Microsoft executive in charge of its relationship with the IBM PC company bluntly told IBM during negotiations, "'where else are you going to go? This is the only game in town.'" Norris, 6/7/99am, at 66:21 - 67:6. 15.1.4.2. OEMs told Microsoft that they lack any viable alternative to Windows. John Romano of Hewlett Packard wrote to Microsoft, when it imposed costly screen restrictions upon Hewlett Packard, that "if we had another supplier, I guarantee you would not be our supplier of choice." GX 309. Gateway urged Microsoft - redacted - GX 357 (sealed). 15.1.4.3. Other operating system vendors recognize that they do not provide a viable alternative to Windows. John Soyring of IBM testified: "As a result of the applications and device support for Windows, in my view, suppliers of PCs have no commercially viable choice but to license Windows and to offering on the vast majority of PCs they ship." Soyring Dir. ¶ 11. Avadis Tevanian of Apple computer testified: "For the foreseeable future, Microsoft will maintain a market share in excess of 90 percent of the desktop operating system market, a dominance that will enable it to continue to effectively control both price and technologies." Tevanian Dir. ¶ 14. The CEO of Red Hat Linux also insists that Red Hat is not a viable competitor to Microsoft. In a Washington Post article he said: "'It just tells you how desperate Microsoft is for a competitor that they're holding up a software box produced by 100 guys in the hills of North Carolina.'" He also said: "'We are absolutely not a viable competitor at this time. We have every intention of being one. But how long will it take? Realistically, it will be twenty years.'" GX 1568. 15.1.5. Microsoft set the Windows royalty recognizing that OEMs have no viable alternative to Windows. Joachim Kempin, Microsoft's Vice President for OEM sales, testified that the prices set by other operating system vendors were not a consideration in setting the Windows 98 royalty. Kempin, 2/25/99pm, at 97:24 - 98:23. To the contrary, Microsoft set the royalty for Windows 98 by "'compar[ing] it with Windows 95.'" Id. at 98:6 (quoting Kempin's deposition, 21:20 - 22:6); see also Kempin, 2/25/99pm, at 98:15-23 (quoting Kempin's deposition, 22:10-22:6) (Kempin also did not consider "'competition more generally'"). Kempin testified that he did not consider the prices set by other operating system vendors because, "with Windows 95 or 98, when it comes to value propositions, it just doesn't come close to anything else. Meaning I believe competitors are basically selling inferior-type products." Competitors products are "inferior," Kempin explained, because "the number of applications, peripheral devices, support on that platform, basically, is so huge that the benefits of buying into that platform is huge." Kempin, 2/25/99pm, at 98:24 - 99:5 (quoting Kempin's deposition, 22:19-24). Kempin, in contemplating "OEM pricing thoughts," wrote that although conceivably, "[o]ur high prices could get a single OEM . . . or a coalition to fund a competing effort," he considers it "doubtful." He concluded: "Could they convince customer to change their computing platform is the real questions. [sic]. The existing investments in training, infrastructure and applications in windows computing are huge and will create a lot of inertia." GX 365. 15.1.6. OEMs do not believe alternatives to Windows are likely to emerge in the next several years such that Microsoft is constrained from being able to raise price or reduce quality today. Garry Norris testified that without a Windows 95 license, "the IBM P.C. company would be out of business" in "three to twelve months." Norris, 6/7/99am, at 65:16 - 67:18. Professor Fisher testified that there is no reason to "believe that OEMs would substitute other operating systems for Microsoft's Windows operating system in favor of anything that can now be seen on the horizon"; that is, in "the next few years." Fisher, 1/6/99am, at 69:23 - 70:1. 15.2. Both OEMs and applications developers (ISVs) recognize that they are dependent on Microsoft and fear that Microsoft will use its monopoly power to harm them if they favor Microsoft's rivals. When Microsoft released a Java development kit that reflected Microsoft's "breaking away from pure Java," Paul White of Symantec, an ISV, wrote that "it's better to say nothing than risk the blast from MS." GX 2078. Barry Schuler of AOL testified that, because its applications must run on Windows, "there's an absolute dependency on what the future direction of that operating system." DX 2810. William Harris testified: "Intuit's dependence on the Windows operating system creates additional dependence on the supplier of the operating system, Microsoft. We depend on Microsoft for the information, specifications, training, development assistance and development tools necessary to develop our products in an effective and timely manner." Harris Dir. ¶ 28. Hewlett Packard's John Romano testified that - redacted - DX 2582A (sealed). A Compaq presentation entitled "Microsoft Meeting Preparation -- Portable and Software Marketing PC Division" dated January 13, 1993, states: - redacted - The presentation continued: "Judgment: How retaliatory would they get?" and lists the possibilities as follows: "Pricing advantage -- Revenue from updates -- Access to early SDKs -- Field sales activities (Microsoft has ~900 field sales people) -- Support and training -- Inclusion in advertising -- Tone toward Compaq in press and with customers -- Selection and elevation of other OEMs as leaders -- Make integration relations even more strained than they are today -- Access to source code, modification ownership -- Microsoft directional information and plans -- Customers." GX 433 (sealed). 16. Microsoft repeatedly took actions that make sense only because it has monopoly power to protect. Fisher, 6/1/99am, at 12:14-17. 16.1. Microsoft's expensive effort to gain browser usage share can be explained only as an effort to protect Microsoft's position in operating system and thus demonstrates substantial and durable market power. As detailed below, Microsoft engaged in a very costly course of conduct designed to gain a substantial share of the market for Internet browsers. See infra Part V.G. This conduct evidences monopoly power because, as will be explained (see infra Part V.G.), Microsoft could not have expected to recoup its hundreds of millions of dollars in browser-related costs except by thwarting threats to its position in operating systems and thereby increasing or prolonging its monopoly profits in operating systems. 16.2. Microsoft's monopoly power is also evidenced by its ability, for several years, to force other firms to cooperate in Microsoft's efforts to exclude threats to its dominant position in operating systems. 16.2.1. This conduct includes, among other things: Forcing OEMs to accept Microsoft's Internet Explorer browser as a condition of licensing Microsoft's Windows operating system. See infra Part V.B. Forcing OEMs to agree to costly restrictions on their ability to customize their PC systems; OEMs agreed to those restrictions, in the words of one executive, because they lack any "choice of another supplier." GX 309. See infra Part V.C.1. Threatening to retaliate against OEMs that favored products that threaten Microsoft's operating system monopoly. See infra Part V.C.2. Threatening to retaliate against Intel if Intel developed platform-level software or favored Netscape or Sun in various ways. See infra Part VI. 16.2.2. This conduct is part of a predatory course of conduct that makes no sense unless Microsoft expected it to lead to monopoly recoupment in the operating system market. All these acts reduced the value of Windows to end users. Microsoft would not rationally have reduced the value of Windows unless it anticipated that doing so would create or increase monopoly power and thereby enable it to earn greater monopoly profits. Professor Fisher testified: "Microsoft has, I think, plainly taken actions which only make sense if they believe that they have a monopoly to protect. Those are, of course, the actions which are in large part the subject of this case." Fisher, 6/1/99am, at 12:14-17. Dean Schmalensee conceded that, if a firm can impose a tie-in "that implies the firm has some power over price." Schmalensee, 1/19/99am, at 40:12-22. Dean Schmalensee also previously wrote that: "Evidence that competitors have conspired to fix prices or divide markets is treated as very good evidence that these competitors have market power" (GX 1514), and that such evidence "perhaps" could indicate "monopoly power." Schmalensee, 1/14/99pm, at 46:14 - 47:6. Dr. Warren-Boulton testified that "to the extent there is evidence . . . which shows that Microsoft has . . . used its position in the operating system market to exclude competitors from either that market or from markets that might facilitate the entry of a firm into that market, then that's direct evidence of the ability to exclude" and "that by itself is direct evidence of the existence of monopoly power." Warren-Boulton, 12/1/98am, at 32:3-20. B. Microsoft's monopoly power is also demonstrated by a structural analysis 17. Microsoft's monopoly power is confirmed by a traditional structural analysis, which shows that Microsoft possesses a dominant share of a well-defined market protected by immense barriers to entry. Professor Fisher testified that "Microsoft's high market share is an indication that it possesses monopoly power. The analysis of barriers to entry confirms that monopoly power exists." Fisher Dir. ¶ 65. Dr. Warren-Boulton likewise testified that Microsoft "possesses monopoly power" because it "for several years has enjoyed, and is projected for several years to retain, a market share in excess of 90%," and this share "is protected by substantial barriers to entry." Warren-Boulton Dir. ¶ 7. 17.1. The standard way to determine monopoly power is (1) to ascertain whether a firm possesses a very large share of a properly defined market and then (2) to determine whether substantial barriers to entry protect that share by impeding the ability of rivals to enter or to expand. Professor Fisher testified that "the ordinary way you proceed in an antitrust case is to define a market and look at market shares" and then determine whether there are substantial barriers to entry. Fisher, 6/1/99am, at 12:2-13; see also Fisher, 6/1/99am, at 6:1-3 (explaining that this is the "standard way" to determine monopoly power); Fisher Dir. ¶¶ 32-39 (testifying that "monopoly power is conventionally addressed by defining 'the relevant market' and assessing shares in the market share"); Warren-Boulton Dir. ¶¶ 18, 42-44. Dean Schmalensee conceded that: "'The traditional and most common approach in an instance where one can define a relevant market in the antitrust sense'" is "'to first look at shares of that arket and then if shares are large, to move on to consider conditions of entry.'" Schmalensee, 1/13/99pm, at 24:9-25 (quoting GX 1526 (Schmalensee's testimony in Bristol)). 17.2. A large share of a well-defined market protected by substantial entry barriers warrants an inference of monopoly power. Professor Fisher testified: "A large share of a properly defined market" is indicative of the ability to exercise substantial market power, and that where "there are significant barriers to entry, monopoly power can be present." Fisher Dir. ¶¶ 32-36, 39. Dean Schmalensee conceded that, if Microsoft's Windows operating system enjoys the protection of substantial barriers to entry, then he could not conclude that Microsoft lacks monopoly power. Schmalensee, 1/14/99am, at 8:22 - 9:9. Dr. Warren-Boulton testified "that market share is an indicator of monopoly power. It is one of several indicators of monopoly power." Warren-Boulton, 11/19/98am, at 56:22-23. 1. Operating systems for Intel-compatible PCs comprise a relevant market 18. The purpose of defining markets is to determine whether substantial and durable market power can be exercised; accordingly, a properly defined relevant market should include the set of products over which a single firm, if it controlled production of those products, could exercise substantial market power. Dean Schmalensee testified that a relevant market consists of the "smallest aggregate that could be profitably monopolized." Schmalensee, 6/24/99pm, at 58:15-23. Dr. Warren-Boulton testified that a properly delineated antitrust market includes the set of products over which a single firm, if it controlled production of those products, could exercise substantial market power. Warren-Boulton Dir. ¶¶ 26-32. Professor Fisher testified that the purpose of defining a market is to determine the "set of things that could constrain the power of the alleged monopolist." Fisher, 6/1/99am, at 9:17-24. 18.1. The relevant market thus should include only reasonable substitutes that in a reasonable period of time could constrain -- and thus defeat -- an attempt to exercise substantial market power. Professor Fisher testified that a relevant market "should include all those products that reasonably serve to constrain the behavior of the alleged monopolist." Fisher Dir. ¶ 32; Fisher, 6/1/99am, at 9:18-21 (stating that "in defining a market and then in examining market power, you typically look at . . . things that could constrain the power of the alleged monopolist."). Dr. Warren-Boulton also testified that a relevant market should include substitute products that could prevent the exercise of monopoly power. Warren-Boulton Dir. ¶¶ 27-28. He further testified that it is "important not to define the market too broadly" by including products that are not reasonable substitutes, "for that might understate the power of the firm whose conduct is being examined." Warren-Boulton Dir. ¶ 28. 18.2. These include: 18.2.1. Demand responses. The relevant market should include products to which consumers could switch, without substantial difficulty, in response to an attempt by firms in the candidate market to exercise substantial market power. Professor Fisher testified that, in defining a market, one must look at "demand substitutability," which "concerns the question of what are the products or the firms to which the alleged monopolist's customers could readily turn in the event of an increase in price." Fisher, 6/2/99am, at 69:22 - 70:1; Fisher, 6/1/99am, at 9:21-24 ("demand substitutability" refers to "the set of products to which customers can turn in the event of an attempt to earn supernormal profits" by the alleged monopolist); Fisher Dir. ¶¶ 32-33 (same). 18.2.2. Supply responses. The relevant market should also include firms that do not presently produce the product in question or a reasonable substitute for it but which, without substantial difficulty, could do so in response to an attempt by firms in the candidate market to exercise substantial market power. Professor Fisher testified that, in defining a market, one must look at "supply substitutibility," which "refers to the ability of firms who do not now produce demand substitutable products, easily to produce demand substitutable products." Fisher, 6/2/99am, at 70:9-11; Fisher, 6/1/99am, at 10:8-13 (same); Fisher Dir. ¶¶ 32, 34 (same). 19. Operating systems for Intel-compatible PCs comprise a relevant market because they lack good substitutes; that is, there are no substitutes that in a reasonable period of time could defeat -- i.e., render unprofitable -- an attempt by a monopolist over such operating systems from exercising substantial market power. 19.1. Other "platform" products, such as Internet browsers and Java, are not good substitutes for operating systems because they cannot function without an operating system. Jim Barksdale testified: "I am not suggesting that the browser is a replacement for the operating system; Navigator still needs an operating system, such as Windows 98, running underneath it, but Navigator can and does serve as a platform for certain network-centric applications." Barksdale Dir. ¶ 82; Barksdale, 10/20/98pm, at 72-74 (Barksdale testified that while Netscape could serve as a substitute for certain platform chacteristics, he does not believe that Netscape could seriously substitute for all platform characteristics). James Clark, founder and former Chairman of Netscape, testified that: "Netscape is not an operating system. It's not even a networked operating system. . . . Netscape was developing a platform. A platform is not the same as an operating system. . . . The idea was to make it independent of the Microsoft operating system, but no attempt whatsoever to displace the Microsoft operating system." Clark Dep. (7/22/98) at 44:25 - 46:16 (DX 2562). Clark explained Netscape intended to provide a software layer that would run on top of otherwise incompatible operating systems and enable them to use network or web based applications, but that "layer still relied on there being some kind of machine and some kind of operating system underneath." Clark Dep. (7/22/98) at 48:5 - 49:4 (DX 2562). Clark categorically denied that Netscape intended for the browser to replace the operating systems that it relied upon. Clark Dep. (7/22/98) at 48:5 - 50:4 (DX 2562). Netscape's Richard Schell similarly testified that Netscape intended to be "operating system agnostics," (i.e., work well with all operating systems), but not to replace operating systems. When Microsoft counsel followed up by asking whether he regarded "the notion of Navigator replacing Windows [as] a slightly ridiculous assertion," Schell explained: "There are 14 million lines of code in Windows 9X. They must do something. For us to have thought that we would replace all of those would have been a stretch of the imagination. We thought we could provide functionality that enhanced not only Windows but Unix and the Macintosh and . . . for some developers and some users, that would become their primary environment, but we would never think that that meant we were replacing Windows." Schell Dep. (9/15/98), at 103:17 - 104:22 (DX 2587). Dean Schmalensee testified that he is not aware of any "software that only browses and does not do anything else and requires no other software to run." Schmalensee, 6/23/99am, at 53:2-10; id. at 57:14-17 (same for other "web-based applications"). Professor Fisher testified: "In the present case, the growth of the Netscape browser or the widespread use of original Java might have perfectly well have broken down the applications barrier to entry and allowed other operating systems to compete. But it would be the other operating systems that were then in the market, not . . . either Netscape, the browser market, or Sun because of Java." Fisher, 6/1/99am, at 18:5-11. 19.2. Intel-compatible server operating systems are not good substitutes for Intel-based PC operating systems because they lack the features and breadth of applications users demand and are prohibitively more expensive. Sean Sanders of Novell testified that server operating systems do not compete with Windows. Sanders Dep., 1/13/99pm, at 184:13 - 185:1. He further explained that to convert Novell's server operating systems into desktop operating system would require starting "all over again" and building the operating system "from the ground up." "It is not easily transferable to" the desktop "role at all." DX 2584. Sun's Brian Croll testified that Sun's Solaris operating system does not compete with Windows. Croll Dep. (played 12/15/98pm), at 56:23 - 57:13. Ron Rassmussen, of Santa Cruz Operating Systems, testified: "People are not purchasing our operating system as a desktop as much as they did at one time" and that it is "more effective for our strategy to move into a purely server role." DX 2581 (testifying that using SCO's operating system for desktop use is prohibitively expensive for users). Paul Maritz agreed "that the applications you find on a server are different from those you find on an Intel PC acting as a desktop." Maritz, 1/27/99pm, at 28:18 - 29:1. Dr. Warren-Boulton testified that "Intel-compatible operating system products that are designed . . . to operate 'servers' are not viable substitutes for a desktop operating systems" because they "are generally more expensive yet do not provide the features consumers demand when they purchase PC operating systems." Warren-Boulton Dir. ¶ 40. 19.3. Nor do other devices, which run other (non-Intel-compatible) operating systems, constrain the exercise of substantial market power over Intel-compatible PC operating systems. 19.3.1. A PC operating system accounts for only a very small percentage of the cost of a PC system; therefore, even a substantial increase in the price of a PC operating system above competitive levels will result in only a trivial increase in the cost of a PC computer system to users. Maritz testified that the Windows royalty is "less than 5% of the price of a typical new computer." Maritz Dir. ¶¶ 21, 132. Professor Fisher testified that a 10% increase in the price of a PC operating system will result in only approximately 1 % increase in the price of PC. Fisher, 6/1/99am, at 27:7-25. Dr. Warren-Boulton similarly testified that "even a 10% increase in the price of the OS would result in at most a 1% increase in the price of even inexpensive PCs." Warren-Boulton Dir. ¶ 37. 19.3.2. A common-sense economic analysis, therefore, shows that users will not in significant numbers incur the substantial costs of switching away from Intel-based PCs, and hence from Windows, in response to even a large increase in the price of the operating system. Professor Fisher testified that the "[q]uestion at issue in assessing Microsoft's power is not whether a change--an increase in the price of the P.C. as a whole would cause people to turn to other non-P.C. devices, or for that matter, to Apple," but rather "whether an increase in the operating system price will cause that to happen." Fisher, 6/1/99am, at 27:1-6. He then concludes that it will not because even a 10% increase in the price of the operating system would result in "less than a 1 percent increase in the P.C. price." Fisher, 6/1/99am, at 27:14-16. Dr. Warren-Boulton similarly observed that "even a 10% increase in the price of the OS would result in at most a 1% increase in the price of even inexpensive PCs," and in light of "the cost to users of switching to another platform, such a small increase in the price of the PC platform would not be expected to result in a large reduction in the demand for PCs, and thus for PC operating systems." These facts led him to conclude "that PC operating systems are a separate market." Warren-Boulton Dir. ¶ 37; see also Warren-Boulton, 11/23/98pm, at 8:20-25, 9:17-25. 19.3.3. The evidence confirms that a substantial price increase for PC operating systems (a trivial increase in the price of the PC) will not result in switching away from PC systems, and hence PC operating systems, sufficient to make the substantial price increase in the operating system unprofitable. 19.3.3.1. OEMs. As explained, OEMs will not switch away from Windows (let alone start building other types of personal computers) in response to a substantial exercise of market power (such as increased restrictions or prices) over Intel-compatible PC operating systems. See supra ¶ 15.1. 19.3.3.2. Apple. The most obvious possible substitute for users are other personal computers, such as Apple's Macintosh. But even Apple -- the closest substitute to PCs -- does not constrain the exercise of power over operating systems for Intel-based PCs. Dean Schmalensee conceded that Microsoft's present operating system competitors, including Apple, are not "the primary constraint on Microsoft's pricing." Schmalensee, 1/14/99am, at 24:16-25. Although some users do switch from PCs to the Macintosh, Apple's Avadis Tevanian testified that Apple still cannot gain substantial share and, therefore, cannot effectively compete with Microsoft. Tevanian, 1/4/99pm, at 9:20 - 12:18. Plaintiffs' economists testified that consumers' switching from PCs to the Macintosh is not the result of the exercise of market power over PC operating systems and, therefore, does not show an effective constraint on Microsoft's ability to exercise substantial market power. Warren-Boulton, 11/23/98pm, at 6:18 - 15:12; see also Fisher Dir. ¶ 137 ("Apple represents the main potential alternative to desktop PCs running Microsoft's Windows. (Although that alternative is not sufficient to keep Microsoft from having monopoly power.)"); Warren-Boulton, 11/23/98pm, at 8:20-25 (testifying that if the cost of the Windows operating system increased "by a small but significant amount . . . not enough people are going to decide . . .to switch to the Mac platform" to include Mac in the market). Switching to the Macintosh simply means the value of Microsoft's monopoly is shifting, not that its monopoly power is dissipating. Warren-Boulton, 11/23/98pm, at 13:3 - 15:12 (testifying that the question is "'what is the constraint on the monopoly pricing of the operating system'" and that the "fact that demand for the product, as a whole, is increasing or decreasing is not the relevant question'"). 19.3.3.3. Other information appliances. There is similarly no evidence that other information appliances constrain Microsoft's ability to exercise substantial market power over operating systems for Intel-compatible personal computers. 19.3.3.3.1 First, most such appliances are complements to, rather than substitutes for, personal computers, so switching is not likely. Steve Case stated publicly and testified that: "It's hard to imagine that PCs won't be the dominant way people connect with the Internet for many years to come, and Microsoft has a pretty amazing lock on that business. . . . Other devices will emerge, but I doubt any will challenge Windows." Case Dep. (played 6/4/99am), at 44:17 - 45:4; Ct. Ex. 1. AOL's Barry Schuler testified: - redacted - Schuler Dep., 5/5/99, at 183:18-21 (sealed). - redacted - Schuler Dep., 5/5/99, at 183:24 - 184:12 (sealed). Professor Fisher testified that other devices are not presently good "substitutes for PC's. And you can perfectly well have a monopoly in operating systems for PC's, despite the fact that there are or may be a number of operating systems for hand-held devices, TV set-top boxes and so on." Fisher, 1/12/99am, at 7:14-16; Fisher, 1/12/99am, at 7:19 - 8:7. Professor Fisher further testified that other information appliances do not presently constrain Microsoft's behavior. Fisher, 6/2/99am, at 83:20-23. Bill Gates stated that for "most people at home and at work, the PC will remain the primary computing tool; you'll still want a big screen and a keyboard" for many applications and "you'll need plenty of local processing power for graphics, games, and so on. But the PC will also work in tandem with other cool devices. You'll be able to share your data--files, schedule, calendar, email, address book, etc.--across different machines; and you wont have to think about it; it will be automatic." GX 2059 (Newsweek article dated 5/31/99). In a similar vein, the IDC forecasts that for PCs and other information appliances, there will be "some competition between these two categories of devices. However, it is more true that the two devices will help lift each other. As a rising tide raises all ships, the growth of the Internet as an important tool for communication, commerce, and entertainment will provide ample justification for both form factors." DX 2423, at 35. See also infra Part VII.D.C.3; ¶ 396.2. 19.3.3.3.2 Second, even if other information appliances became better substitutes for a wider range of PC functions in the future, a small increase in the price of PC systems caused by a large increase in the price of the operating system will not result in substantial switching to other information appliances. In other words, while other information appliances may affect relative ubiquity of PCs, and thus the value of Microsoft's monopoly over operating systems for Intel-based PC operating systems, those appliances do not undermine the fact that there is a market for such operating systems that is capable of being monopolized. Dr. Warren-Boulton testified that a small increase in the price of the overall computer system will not induce large numbers of users to incur the costs required to switch to other devices. Warren-Boulton, 11/23/98pm, at 14:16-23; Warren-Boulton Dir. ¶¶ 37-39. Professor Fisher testified that, for this reason, the existence of other information appliances was "basically totally irrelevant" to the monopoly power analysis. Fisher, 6/3/99pm, at 65:1-7. "The fact that other devices are going to be important, too, is interesting, but we're not talking here, by the way, about a monopoly of PCs themselves. We're talking about a monopoly of operating systems for PCs, and to believe that this has something to do with eroding Microsoft's monopoly power in operating systems, you would have to believe that small changes in the price of the operating system for PCs would cause people no longer to buy PCs, but to ship" "these other devices." Fisher, 6/3/99pm, at 65:23 - 66:6. See also Fisher, 6/1/99am, at 27:14-22. 19.3.3.3.3 Third, because the issue for market definition is whether a non-trivial increase in the price of the operating system will cause switching away from PC operating systems (to other information appliances running other operating systems or otherwise) to a sufficient extent to render that price increase unprofitable, there is no need to reach the question of whether PCs themselves comprise a relevant market (that is, whether a large price increase in the cost of a PC would be rendered unprofitable by switching). Fisher, 6/2/99pm, at 30:2-13; 6/3/99pm, at 65:23 - 66:6. 20. Microsoft internal documents and the testimony at trial of its witnesses also support delineating a market for Intel-based desktop operating systems. Joachim Kempin testified, Microsoft tracks the share of "[o]perating systems for Intel PC[s]." Kempin, 2/25/99pm, at 94:24 - 95:7. Microsoft internal documents analyze as "competition" other "x86 Os[s]" -- that is, other Intel-based operating systems -- but do not characterize as competition other types of operating systems. GX 401. 2. Microsoft possesses a dominant, persistent, and increasing share of the market for operating systems for Intel-compatible PCs 21. Microsoft possesses a dominant, persistent, and increasing share of the relevant market. 21.1. Microsoft presently enjoys a market share in excess of 90%. Data sponsored by Professor Fisher and Dr. Warren-Boulton shows that Microsoft's share of Intel-based PC operating systems is well over 90%. GX 1. Professor Fisher testified: "Microsoft's share of personal computer operating systems is very high and has remained stable over time. Microsoft's worldwide share of shipments of Intel-based operating systems has been approximately 90 percent or more in recent years . . . . Even if operating systems for non-Intel-based computers are included in the market definition, Microsoft's share is still very high and stable." Fisher Dir. ¶ 64. 21.2. This share, which Microsoft has possessed since at least the early 1990s, has been stable through the many changes that have occurred in the computer industry. Dr. Warren-Boulton testified: "This high market share has been remarkably stable." Warren-Boulton Dir. ¶ 45. Data sponsored by Professor Fisher and Dr. Warren-Boulton shows that Microsoft's share of Intel-based PC operating systems is projected to rise to 96% by 2001. GX 1. Professor Fisher testified: "Here, Microsoft's share of the P.C. operating systems business has been high and stable for some years. Further, it's expected that it will remain high for some years." Fisher, 6/1/99am, at 12:2-8. Microsoft North America FY96 Reviews, an internal financial report compiled in June 1996, reported that the - redacted - GX 402, at MS6 6001734 (sealed), GX 403, at MS6 6006356 (Microsoft North America FY97 Reviews) (sealed). 21.3. Microsoft's share is projected to rise even further in the next century. Rational Software "believes its continued success will become increasingly dependent on its ability to support the Microsoft platform, including Windows 95, Windows 98, and Windows NT operating systems." GX 1663 (SEC 10-Q), at 5. Mike Devlin, a Microsoft witness, testified that Rational's "increased dependence" on Microsoft will indeed be the result of "the increasing market share of the Microsoft platform." Devlin, 2/4/99am, at 25:22 - 26:1; Devlin, 2/4/99am, at 14:8 - 15:9. IBM's John Soyring testified that Microsoft's 92% market share will "stay that high, if not get higher" in the next two or three years. Soyring, 11/18am, 71:24 - 72:4. Professor Frank Fisher testified: "Here, Microsoft's share of the P.C. operating systems business has been high and stable for some years. Further, it's expected that it's going to remain high for some years." Fisher, 6/1/99am, at 12:2-8. Dr. Warren-Boulton testified that Microsoft's share of operating systems "has been above 90% since at least the early 1990s and this dominance is forecast through at least 2001." Warren-Boulton Dir. ¶ 45; see also Warren-Boulton, 11/19/98am, at 57:24 - 58:5 (referring to GX 1, which contains the IDC's "projections of continuous and sustained and increasing market shares"). A report prepared for Microsoft in September 1997 states: "Win32 penetration by household primary machines is currently 70% and projected to reach 90% by December 1998." GX 447, at MS7 001195. 22. Precise calculation of Microsoft's market share or of the contours of the market is, in any event, unimportant. 22.1. Even if one included in the market other products -- such as "middleware" and other operating systems -- Microsoft would still possess monopoly power. Dr. Warren-Boulton testified that "even if the market were defined more broadly to include operating system products for all personal computers--such as those offered by Apple or some vendors of UNIX based operating systems that do not use an Intel-compatible microprocessor--my conclusion that Microsoft possesses monopoly power in a relevant market would still stand." Warren-Boulton Dir. ¶ 41. Professor Fisher similarly testified that even "if operating systems for non-Intel-based computers are included in the market definition, Microsoft's share is still very high and stable." Fisher Dir. ¶ 64. Professor Fisher testified that Microsoft possesses monopoly power even if threats to its monopoly power, such as Netscape and Java, are included in the relevant market. Fisher, 6/2/99am, at 61:11 - 62:10; 6/1/99am, at 46:12 - 47:19. 22.2. Market definition and calculation of market shares are intended only to aid in determining whether a firm has monopoly power, so precise calculation is not necessary where refinement and precision will not change the ultimate determination of monopoly power. As Professor Fisher testified, "there will often be no bright line between defining products as in the market" and "leaving them out while remembering that firms that do not produce them can enter fairly readily. But the lack of such a clear line will not matter, so long as one remembers that market definition need not be precise and that its purpose is to assist in analyzing the constraints on the behavior of the alleged monopolist." Fisher Dir. ¶ 36; see also Fisher, 6/2/99am, at 57:19 - 59:1 (discussing Fisher, "Microecomomics: Essays in Theory and Applications" (DX 2487)). 3. Microsoft's dominant market share reflects monopoly power because its position in operating systems is protected by high barriers to entry 23. Microsoft's dominant market share reflects monopoly power because that share is both the source of, and protected by, immense entry barriers that prevent rivals from entering or expanding. a. Definition of barriers to entry 24. An entry barrier is any factor that permits firms already in the market to earn returns above the competitive level without inducing entry or expansion that would erode those returns. Professor Fisher testified that a barrier to entry "permits the incumbent firms" to "earn supernormal profits without having their business bid away by the expansion of competitors or the entry of new firms." Fisher, 1/6/99am, at 52:20-23; Fisher, 6/1/99am, at 47:20-24. Dean Schmalensee characterized as consistent with his definition of an entry barrier "'any factor that permits firms already in the market to earn returns above the competitive level while deterring outsiders from entering.'" Schmalensee, 1/14/99am, at 6:17 - 7:19 (quoting Areeda & Hovenkamp). b. The applications barrier to entry protects Microsoft's dominant position in operating systems 25. The principal barrier to entry into operating systems is what has been termed in this case the applications barrier to entry. Professor Fisher testified that the "dominant position of Microsoft's operating system is protected by the applications programming barrier to entry." Fisher Dir. ¶ 82; Fisher, 6/1/99am, at 48:4-11. Dr. Warren-Boulton testified that "the applications barrier to entry sustains Microsoft's dominance, critically contributes to its monopoly power, and helps explain why other Intel-compatible operating systems, such as OS/2 and Linux, have persistently small market shares." Warren-Boulton Dir. ¶ 56. 25.1. The applications barrier to entry results from a chicken-and-egg problem: Users will not in large numbers use an operating system other than Windows unless it supports a set of applications comparable to the set of applications available for Windows, but ISVs will tend not to write comparable applications for other operating systems in large numbers because those operating systems lack a large number of users. Avadis Tevanian testified that Microsoft's dominant position rests in part on "a commercial symbiosis that exists between application programs and the computer operating systems on which those programs run. An application program is condemned to commercial failure if it will not operate reliably on the operating system of a sufficiently large installed base of computer systems. Similarly, the commercial viability of an operating system is critically dependent on the availability of application programs . . . ." Tevanian Dir. ¶ 15. Dr. Warren-Boulton testified that as "an operating system gains popularity, the incentive to develop software for the operating system increases because the larger number of users for the operating system product implies a greater potential market for software developers. The development of yet more applications for that operating system, in turn, increases the value of the operating system to end users who, as explained, purchase operating systems in significant part based upon the quality and variety of applications available for it." Warren-Boulton Dir. ¶ 53. 25.2. In other words, Microsoft's very large market share and installed base of users -- which create incentives for ISVs to write first and foremost to Windows rather than to other operating systems -- are themselves the source of an immense entry barrier that keeps the share of operating system rivals low and protects Microsoft's monopoly power. Professor Fisher testified that "Microsoft's high market share leads to more applications being written for its operating system, which reinforces and increases Microsoft's market share, which in turn leads to still more applications being written for Windows than for other operating systems, and so on." Because of this pattern, Microsoft's "share is not likely to be eroded by new entry as long as the applications programming barrier to entry remains strong." Fisher Dir. ¶ 70. Dr. Warren-Boulton testified that "an operating system product can rise to dominate the market, and once that dominance is achieved maintain it, because of both the large number of complementary software applications available for it and the flow of new applications that are written to it." Warren-Boulton Dir. ¶ 54. (1) Microsoft possesses a dominant market share because software developers have powerful incentives to write applications first and foremost to Windows 26. The economic factors that create incentives to write applications first and foremost to Windows, and reinforce Microsoft's dominant market share, have three aspects. 26.1. First, Microsoft has a dominant share of PC operating systems because a much greater breadth, depth, and number of applications run on Windows than on other operating systems. 26.1.1. Users demand operating systems in order to run applications; and the greater the number, variety, and quality of applications available for a particular operating system, the greater the demand for that operating system. In a Microsoft marketing plan entitled "Winning @ Internet Content" dated June 22, 1996, Andrew Wright wrote, "Microsoft's success to date as a platform company has primarily been driven by the availability of compelling applications for Microsoft operating systems. Operating systems, including Windows 95, Windows NT etc, are a means to an end and not an end in themselves. End users buy computers and operating systems to run applications." GX 407. Microsoft's Chris Jones wrote in August 1995 that: "While there are many factors which determine an OS purchase, fundamentally consumers purchase the system that runs the cool applications first and best." GX 523, at MS98 0103654. Avadis Tevanian testified that "the commercial viability of an operating system is critically dependent on the availability of application programs--including well-accepted, broadly-used application programs--that are written for use on that system." Tevanian Dir. ¶ 15. Microsoft admitted in its Answer that the "popularity of an operating system is to some extent a function of the number, variety, and quality of applications available to use with that operating system . . . ." Answer ¶ 58. Microsoft's pricing decisions reflect the fact that Windows is demanded precisely because of the number of applications written for Windows. Kempin testified that "competitors are producing, essentially . . . inferior-type products" because "the number of applications written for [Windows] is so huge" is an observation of the "result of the applications barrier to entry, and it's a fairly clear statement." Kempin, 2/25/99pm, 98:15-99:5 (quoting Kempin's deposition, 21:20-22:6, 22:19-24). This, Professor Fisher explained, is exactly what one would expect Kempin, a non-economist, to say rather than saying "I am protected by the applications barrier to entry and so, I have freedom as to pricing." Fisher, 6/1/99pm, at 5:15 - 6:5. 26.1.2. Applications written for one operating system generally do not run on another because each operating system has its own, unique set of application programming interfaces ("APIs") to which applications are written.