Original URL: https://www.theregister.com/1999/02/24/compaqms_murky_secrets_ii/

Compaq-MS murky secrets II – an analysis

We piece together the story of how these two lovable companies conduct their business

By Graham Lea

Posted in On-Prem, 24th February 1999 17:00 GMT

MS on Trial Many secrets about how Compaq negotiates with major partners such as Microsoft and AOL have been exposed in the transcript of Compaq vp John Rose's evidence at the Microsoft trial, and in documents that have been released.

Although there were several closed sessions of the court when details of the fees paid by Compaq were revealed, and although many documents are still wholly secret, enough has been released to make it possible to attempt a forensic reconstruction of some of Compaq's most important negotiations.

It is hard to piece together the evidence, because of the confusing way it has (deliberately) been given, but we present the events chronologically. 1 October 1992: Microsoft-Compaq agreement (Frontline Partnership) about Windows prices.

January 1993: A Compaq document filed under seal and entitled "Microsoft meeting preparation" noted issues that worried Compaq at the time: "Judgment: how retaliatory would they get? [probably referring to Compaq's intention to license the Go OS for a hand-held device]. Pricing advantage [implying Compaq was getting better prices from Microsoft than other OEMs]; revenue from updates; access to early SDKs; field sales people; support and training; inclusion in advertising; tone towards Compaq in press and with customers; selection and elevation of other OEMs as leaders; making integration relations even more restrained than they are today [the strain from shunning Winpad, presumably]; access to source code, modification ownership; Microsoft directional information and plans."

Another slide is headed "potential reactions to Go PDA decision" which confirmed that Compaq had decided to go with Go. 21 April 1993: Gates wrote to Compaq CEO Eckhard Pfeiffer thanking him for selecting Microsoft as "the exclusive supplier of operating system software for your hand-held computer products."

A handwritten annotation on the letter by Pfeiffer to Lorie Strong and Bob Jackson says: "Exclusive? Please draft response for my signature" which suggests that Compaq did not think its agreement to drop Go, following the meeting with Microsoft, meant it exclusively turned to Microsoft. An unknown hand has added "March 12, 2 (b) 'Compaq agrees to market and sell Winpad as the exclusive operating system for Compaqs for the period of ????? exclusivity".

This seems to indicate that the Microsoft-Compaq agreement was modified, almost certainly to give Compaq better terms from Microsoft. Of course, Winpad failed, and so alas did Go. 19 January 1995: A Compaq internal document noted that: "Jan Claesson [Microsoft's OEM group manager] said that few OEMs had renegotiated their licenses after the consent decree.

He said most companies are still paying on a processor basis, some with a five per cent exclusion. Jan indicated that a Compaq request for a 'per copy' license would be viewed as a major issue at Microsoft. David is planning to propose language changes to see if our proposals would be acceptable to Microsoft."

This is an indication as to how Microsoft was working with OEMs to frustrate the terms of the consent decree. The prohibited conduct in the consent decree, which Microsoft seemed to be ignoring according to this Compaq document, was:

"A. Microsoft shall not enter into any License Agreement for any Covered Product [which includes Windows 3x and 9x] that has a total Duration that exceeds one year ;

B. Microsoft shall not enter into any License Agreement that by its terms prohibits or restricts the OEM's licensing, sale or distribution of any non-Microsoft Operating System Software product;

C. Microsoft shall not enter into any Per Processor License; D. ... Microsoft shall not enter into any License Agreement other than a Per Copy License."

8 August 1995: Rose claimed that a verbal agreement was reached with Microsoft in a conference call involving Gary Stimac, Hugh Barnes, John Rose, Steve Flannigan [vp, strategic relations, reporting to Rose], Lorie Strong and Steve Goldberg of Compaq, and Joachim Kempin and Don Hardwick of Microsoft. One agreed point was that Compaq would not remove IE and MSN icons from the desktop. Dunn (responsible for Presario software) had not participated in the call, as Rose had originally thought.

15 August 1995: A Memorandum of Understanding (MOU, exhibit DX2264 [DX is a designation fro Defence exhibits accepted by the court]) apparently reflected the conference call and is said to be an amendment to the Compaq-Microsoft licence agreement, with an attached letter from Don Hardwick [Group Manager, Microsoft OEM Sales Division] to Flannigan.

However, it was not signed until June 1996, and Judge Jackson wanted to know why it took so long. Rose said that "it took the lawyers and contract people that long". The judge was incredulous: "To write two paragraphs and attach a letter?". Rose said the next day that they were under the impression that Compaq was operating under the Hardwick letter, and that Microsoft accountants needed a signed agreement, as Compaq was to receive 50 cents for every CD distributed from Microsoft, and Microsoft's financial year ended 30 June.

The judge also revealed something very interesting when he asked: "Why in paragraph two does it provide that Microsoft reserves the right not to execute this Amendment unless it is signed by both parties on or before June 28th, 1996? Those terms make no sense at all to me, if this was a genuine agreement."

Rose said he did not know, but it is suspicious that such a provision existed. It is probably significant that the transcript does not record whether the Amendment was signed by Microsoft on or before 28 June, to validate the contract. It could be that Microsoft was offering good terms to Compaq if Compaq behaved itself until June of the following year. Rumours have suggested that Compaq paid Microsoft around $25 a shot for all flavours of Windows.

23 August 1995: An AOL agreement with Compaq contravened some terms of the 8/15 August agreement with Microsoft, according to Rose, who described it as a "communications breakdown" within Compaq. The AOL agreement was signed by Dunn for Compaq. In a deposition, Dunn subsequently said that Flannigan knew about the agreement.

February 1996: Compaq's systems division announced a server agreement with Netscape for Internet and Intranet partnership, which Rose claimed was still in effect.

8 May 1996: So aggressive was Microsoft with Compaq that the internal use of Netscape at Compaq was viewed most disfavourably. In a childish tit-for-tat move, Microsoft "initiated a number of activities with DEC and HP, reducing their emphasis on the Compaq partnership", according to an internal Compaq email from Lori Day.

8 May 1996: Lori Day [Compaq program manager responsible for the server relationship with Netscape] sent an internal email noting that Microsoft wanted Compaq to agree to shipping "new versions of IE as the default browser on all desktops and server platforms within 8 weeks from release. Compaq to display MSN icon on the desktop screen on all Windows 95 PCs". Now it seemed that Day too was unaware of the 8/15 August 1995 agreement with Microsoft.

10/13 May 1996: [signed by Jim Allchin for Microsoft on 10th and Gary Stimac for Compaq on 13th] Addendum to the Frontline Partnership, dealing with the Internet and Intranet, and apparently developed from the MOU of 15 August 1995.

29 May 1996: Dunn emailed Day and 11 others about the Microsoft Internet MOU: "The Consumer Division has contractual obligations which will prohibit compliance with the terms of the MOU. In support of the Consumer Division goal for return to profitability [that's interesting], a strategic initiative is to generate revenue from royalty sharing with third party partners on the Presario platform."

She went on to note that complying with the MOU would "jeopardise two profitable, revenue generating contracts" [which had yielded $6.4 million from AOL signups, and an estimated $2.6 million for 2H 1996 from a deal involving Netscape and Sprynet].

"In EMEA, AOL was recently named a preferred partner, and we understand that EMEA is generating some revenue for featuring AOL." Then came the comment and the revelation: "Microsoft does not have the market share or consumer mindshare of AOL or Netscape .... and has stated it will not share revenue with Compaq for its Internet/Intranet products." [It seems that one of the reasons for the friction with Microsoft was Microsoft's then-unwillingness to share revenue.] Dunn noted that favoured treatment of Microsoft may prevent us from featuring the Navigator "with no replacement for revenue lost".

Dunn said that "the AOL agreement requires us to position AOL services above all other online services on the user interface of our products and that we will highly recommend AOL to our customers. ... The agreement specifically states that MSN may be mentioned but AOL will be mentioned more ... and that the AOL icon is the only online service icon that can be displayed on the desktop. Displaying the MSN icon on the desktop is specifically not permitted. ... Netscape and AOL have a much more significant market share than Microsoft ..."

Dunn wanted a separate discussion with Microsoft regarding consumer Internet products, and that the MOU be "non-binding and compliance be at Compaq's discretion. Microsoft has already contacted CSBU [presumably a Compaq business unit] to notify us we are in violation of the 'Internet Agreement' ".

In a 23 October 1998 deposition by Dunn, who at that date was no longer a Compaq employee, Dunn said Michael Heil [Compaq head of worldwide sales] was supportive of the ultimate decision to remove the icons. Dunn agreed that Microsoft (Don Hardwick and his team, and people in Joachim Kempin's organisation) was informed of Compaq's plan to remove the icons before they were actually removed.

Nobody from Microsoft said that this would violate the implicit agreement not to remove MSN. The removal of the icons did not affect the performance, and as part of a certification programme, Microsoft was given copies of the software.

In court, Rose told Boies that he wasn't aware that featuring Netscape "was an explicit goal". He confirmed to Boies that the 10/13 May MOU said that Compaq would ship IE as the default browser in future "on all Compaq desktop and server platforms".

Rose said: "We feature Netscape and we allow Netscape to be the default browser or we allow IE to be the default browser. It's a customer's choice."

Boies questioned whether Compaq shipped two default browsers on the same PC? Rose said: "No, we ship the icons displayed on the PC and the customer can choose whether they want Internet or whether they - whether they want the Netscape Navigator or they want the IE Explorer Internet, and the customer can choose."

Judge Jackson asked some questions about Compaq's contractual obligations, and it was clear that his suspicions were aroused.

30 May 1996: Microsoft issued a Notice of Intent to Terminate License Agreement #1107-3053, dated October 1, 1992, in a letter addressed to David Cabello at Compaq.

6 June 1996: Hardwick wrote to Dunn. "Microsoft is requesting that Compaq replace the Microsoft Network and Internet Explorer icons on the Windows 95 desktop on all Compaq Presario machines."

25 June 1996: Second letter from Hardwick to Dunn, after Compaq's capitulation. "Based on the representations in your letter [of 21 June 1996] that Compaq has replaced the Microsoft Network and Internet Explorer icons on the Windows 95 desktop as executable icons, and have placed the Microsoft Network, Internet Explorer and Internet Setup Wizard icons in their original locations under the Start button on the Windows 95 desktop, Microsoft hereby withdraws its Notice of Intent to Terminate the Agreement."

June 1996: The 15 August 1995 MOU was signed.

12 November 1996: Compaq internal email from Bob Friedman [Compaq San Bruno office] to Steve Flannigan, Steve Decker [director of purchasing] and others. "Joe Williams [of Microsoft] came to San Bruno last week to discuss revenue sharing from the Microsoft ISP agreements. Why is Microsoft making the offer? (a) Microsoft is unhappy with the Netscape icon on the North American Predators [a Presario model] desktops and wants to get it off. ... Compaq has been adamant of wanting to earn revenues from ISP agreements. Microsoft's stance to date raises questions of improper use of a monopoly position. Making this offer could reduce Microsoft's exposure."

The next page notes under a heading "Fine print and land mines" that Microsoft will be expecting an exclusive arrangement that would prevent us from putting Netscape on the desktop." Although Rose had strategic responsibility at Compaq for the Microsoft relationship, he claimed he was "never aware of Microsoft wanting us to exclude the Netscape icon from the desktop".

Richard Pepperman [conducting the redirect examination for Microsoft] read into the record from Decker's deposition that "Microsoft will be expecting an exclusive arrangement that would prevent us from putting Netscape on the desktop." Decker said that "Quite frankly, Bob was wrong there." Rose also confirmed that Microsoft never "proposed an exclusive arrangement for Internet Explorer".

Rose said in court: "I was never aware of Microsoft wanting us to exclude the Netscape icon from the desktop." Rose maintained that "Compaq never removed the Internet Explorer or MSN icon from the desktop ... we never put the icon for the Internet Explorer or MSN on - displayed on the Presario screen as an icon, so we didn't remove it." However, three people from Compaq describe the situation as "removing the icons".

Rose's semantic argument was nullified by his direct testimony: "I understand that, in early 1996, Compaq did remove, on some consumer products, the Internet explorer icon (as opposed to Internet Explorer software) from the Windows 95 default desktop on its Presario line of personal computers."

1 February 1997: In court, Boies produced an agreement between Compaq and Microsoft entered into on 1 February 1997. Rose said he had not seen it before, and it had not been shown to him by his legal team in his preparation for his appearance. He agreed with Boies that it was "a very important agreement".

The first point was: "Compaq agrees to exclusively promote Microsoft Internet Explorer." Decker said it had been signed, and that Compaq agreed to promote IE exclusively.

17 October 1997: Deposition for the previous contempt case, by Stephen Decker, Director of Software Procurement, Compaq. He testified that Windows 95 was preinstalled on 100 percent of the consumer line, although he was not personally involved in decisions to remove icons.

Q. Why did Compaq want to remove the Internet Explorer icon at that time?

Decker: At the time, we had a relationship with Netscape and we had been shipping their product for a while. And therefore Netscape was actually the browser partner and we wanted to give that position on the Compaq Presario desktop.

Q. How did Microsoft respond to Compaq removing the Internet Explorer icon from the desktop?

Decker: Well, when they found out about it, they sent a letter to us telling us that, you know, they would terminate our agreement for doing so. In court, Rose claimed that "Decker was a bit confused here". Boies read some additional parts of Decker's deposition into the record:

Q: Since that time, has Compaq changed the browsers that it preinstalls on its consumer PC lines?

Decker: Yes. We no longer preinstall Netscape because we - with the inclusion of Internet Explorer from Microsoft, that category is already filled because of the inclusion of that product as part of the operating system, and then also to actually license the additional browser that would involve both time by Compaq to put that particular agreement in place, we would have another product that would take up real estate on our hard drive and, you know, there potentially would be some additional licensing fees, and we would have to pay for that technology.

Rose said in court that the issue was that AOL did not want any browser there except GNN, AOL's own browser, and that AOL objected to IE and the Netscape browser being present. Rose claimed there were some compatibility issues with Navigator, so that it might have been present or absent. It would be interesting to know if these "compatibility issues" were notified to Netscape at the time, or later.

9 November 1997: Rose made a Declaration [not subject to cross-examination] that had been carefully honed by lawyers (and almost certainly agreed with Microsoft) that "Our consumer customers expect that the personal computer systems they purchase from us will have the latest and most advanced features and functions. Based on consumer customer demand, we would not want to ship a personal computer system that did not include the most recent and advanced Internet browser. Based on our current understanding of the market, Internet Explorer meets these requirements."

It was an effort to undo what Decker had said earlier. 20 November 1997: Memorandum from Flannigan to Compaq CEO Pfeiffer, Compaq's general counsel, Rose and others. "Given Microsoft's concern that our agreement be, quote, defendable, closed quote, to other OEMs and the Department of Justice, we recently proposed an alternative structure where we would use side agreements to complement the client OS license and the MDA [market development agreements] and compensate Compaq for value-added activities that clearly distinguish us from the rest of the industry."

Rose waffled when he was asked about this, but the essence of his response was that Compaq wanted a five year agreement rather than a one or two year one [Although the consent decree of course allowed only one year, Compaq presumably thought that it could get a better deal from Microsoft with a longer agreement]. So far as the side agreement or MDA was concerned,

Compaq thought a longer agreement would require less administration. In addition, there had been leaks about the contents of the first Frontline Agreement, such as the terms and pricing. Compaq asked Microsoft for a side agreement.

5 December 1997: Microsoft responded to the proposals by Compaq for side agreements. January 1998: Boies produced a Compaq internal document that noted that "about 80 per cent of companies wipe or reformat the hard drives of new desktops" and that the most frequent reinstalled operating system was Windows 95 OSR2 and the retail version of Windows 95. Boies suggested that was the reason, but Rose wriggled when Boies asked why that should be and claimed he did not know whether the retail version had IE. Rose did not agree with Boies. The study also noted that about 70 per cent of businesses run a browser, which strongly suggests that Navigator is being used by many of these organisations.

26 March 1998: In court, Rose was shown two MDA agreements that came into effect on 1 April 1998. Both had been signed by the same person at Compaq, and the same person at Microsoft on 26 March. The Windows prices to Compaq were increased, but the amount of increase was not disclosed in open court. Boies characterised the Microsoft-Compaq relationship as being that of two companies joined at the hip. Rose said he hadn't heard Compaq characterised in that way. Boies left it at "a special relationship".

Pepperman wanted any discussion to be in closed session, as it had been with Fisher, the DoJ economist witness, when the documents were discussed. Boies said that one agreement succeeded the other, and that one was more favourable. Rose said that GX1438 [GX is a designation for exhibits accepted by the court] was the addendum, and agreed that GX464 was never intended to be the real agreement, since it was immediately succeeded by GX1438.

Rose admitted that the term of the agreements was two years. If these were licensing agreements for Windows, as seems likely, they would be illegal and unenforceable as they broke the terms of the consent decree that is in force in the USA until 2001. Rose then admitted that the side agreement had nothing to do with the five-year versus two-year issue.

14 October 1998: Decker was deposed. "I manage a group that works with the Compaq product divisions, and we negotiate the agreements, the license agreements, for products that we would ship with our systems as well as the materials that would go, you know, in the box shipped with the systems." Rose claimed this was not a complete description, and tried to diminish Decker's importance, but Decker had not claimed to lead the team.

Decker had elaborated in his deposition as to the negotiating team membership: "[It depends on the specific transaction that we're involved with. It would be representatives from the product division. We also have what we refer to as a 'Microsoft core team.' I am the director of software procurement, and the agreements flow through me from a negotiating perspective. I report dotted line to Steve Flannigan who has corporate strategic relations [and reports to Rose], and we work together on the strategy and negotiation with the various product divisions, depending on what the transaction would be."

9 November 1998: Microsoft business deals for a Compaq portal PC were the subject of an email from Jim Robinson to David Blizinski and Decker. There evidently was some discussion during the in camera sessions of what was happening about Compaq's portal PC. Robinson had written "The Microsoft-OEM business terms are indicative of what you would expect from a monopoly." Needless to say, Rose had not seen the email previously.

10 November 1998: A Compaq document under seal headed "Initial internal term sheet" (in effect a list of negotiating points for a meeting between Compaq and Microsoft) said: "Microsoft's OEM business terms are indicative of what one would expect from a monopoly".

Boies asked incredulously whether Rose was in court testifying for himself or Compaq. Rose claimed not to have seen the document before the trial. Boies brushed aside an offer of assistance from Coston, since he was not subject to cross-examination. As Rose still claimed not to know, Coston was allowed to represent that it was "a document authored by a Compaq employee David Blizinski, who had been with Compaq's consumer group for four days at the time he drafted the document. He had been with Compaq for several years prior to that in the networks product group and had never done any work with Microsoft.

In the chain of command in the consumer products group, Blizinski reported to Marc Warshawsky who reported to Trey Smith who reported to Rod Schrock. So he's four levels down from Mr Schrock. I talked to Mr Blizinski on the phone. The document is his creation. No one directed him to use those words, his impressions, and he's available for a telephone interview with your honour if the court is so inclined." This is but a beginning of an enhanced understanding of these matters. Register readers are invited to help fill in the gaps. ®

Complete Register trial coverage