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PC Disruption, Tablets and the Netbook

For companies to remain relevant, they must continue to develop visionary products and services. The problem is that long-term growth is often hampered by the need for short-term profits. Disruptive technologies often eat the profits of current products, so these disruptions tend to come from outside the current market leaders of a given segment.

Last week's headlines covered the recent drop-off in quarterly PC sales. Hidden within the "death of the PC" headlines was another obituary. According to iSuppli, Netbooks will be extinct by 2015.

Tablet computers, and specifically the iPad, are credited for the decline in PC sales, yet the story could have been different. The disruptive product of the future might have actually been the Netbook, and it would have been a future that Microsoft would have owned. Unfortunately for Microsoft, the company feared the Netbook and opted to leave its future up-for-grabs.

Last week, Gartner and IDC both released reports confirming abysmal PC sales. CNN reported that shipments of PCs fell 14% worldwide last quarter. "It was the worst yearly decline since IDC began tracking the data in 1994. The drop in PC shipments was nearly twice as bad as the 7.7% decline IDC expected, and it marked the fourth consecutive quarter in which PC shipments fell year-over-year." The sales drop has huge repercussions for Microsoft as well as vendors tightly associated with the PC ecosystem.

It doesn't take much observational effort to understand that the iPad is primarily responsible. Tablets are mobile, cost less, are easier to maintain, and offer a heck of a lot of functionality. The iPad was launched in April 2010. Were there any clues that the market was ready for an alternative to the PC? Was there any indication of looming disruption? Yes, the Netbook.

Introduced in 2007, the Netbook was an immediate success, with sales of 550,000 units its first year. In 2008, sales exploded to 13 million, and then doubled in 2009.

Netbooks came in a miniature-laptop form factor. They were inexpensive (about $500), low maintenance, cloud-optimized mobile (portable) devices. There were variants that used Linux and Windows, but Microsoft owned the category. Market share reports indicated about 96% of the Netbooks sold in 2009 ran Windows XP.

Microsoft wasn't excited about the Netbook's accidental success. Microsoft had already released Vista and was anxious for XP to wither away. Windows XP, launched in 2001, was already in overtime due to lackluster adoption of Vista. The runtime version of XP was only earning Microsoft $15 per copy in revenue, and even worse, Netbook sales were eating away at full fledged laptop sales. PC Magazine wrote "Mini-notebook or netbook units are expected to almost double in 2009 to 33 million units worldwide, while notebook unit growth is expected to remain flat." Microsoft had motive; the question was how to kill the Netbook.

Netbooks started as miniature devices to keep them portable and inexpensive, but their value as portable connected devices could not be contained. The tiny screens and keyboards were problematic for business users, so manufacturers started making bigger models with 12"-15" displays (the laptop sweet-spot). Vista was never a realistic option for these lightweight machines. Microsoft saw an opportunity to stifle Netbook sales with the launch of Windows 7. The software maker imposed device restrictions on the light version (Starter Edition) of Windows 7 licenses. The restrictions limited Netbooks to hardware with screen sizes of 10.1" or smaller.

With the launch of Windows 7, Netbook growth stalled and laptop computer sales began to recover. Microsoft protected its business model and won the battle--temporarily.

The iPad picked up where the Netbook ended; ironically with a 10" screen. The iPad offered an inexpensive (about $500), low maintenance, cloud-optimized, mobile device. Rather than a mini-keyboard, it incorporated its revolutionary capacitive-touch display pioneered on the iPhone. Like the Netbook, it offered easy access to email, an even longer battery life, and an impressive library of applications.

Microsoft didn't know it had it so good with that paltry $15 per device revenue and 96% market share. The market was ready and clearly had indicated it wanted something new; disruption was imminent. Now, however, the Netbook's future remains bleak as does Microsoft's ability to compete with the iPad.

Windows 8 was designed tablet-friendly and designed as a single solution for tablets and desktops. The market hasn't responded as Redmond had hoped. Microsoft even entered the hardware business to produce its own machine. The Surface tablet has a long way to go to catch up to the iPad (or prior Netbook sales). Meanwhile, the iPad built momentum as an alternative to the laptops. Now keyboards are commonly spotted on iPads.

The Wall Street Journal recently reviewed the Surface and concluded "It's too hefty and costly and power-hungry to best the leading tablet, Apple's full-size iPad. It is also too difficult to use in your lap. It's something of a tweener--a compromised tablet and a compromised laptop." Emphasis added since Ballmer promised "no compromises" to describe the Surface at its introduction eight months ago.

The outcome may have been different had Apple had to contend with a comparably priced alternative that had sales momentum.

Dave Michels is a Contributing Editor and Analyst at TalkingPointz.

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