The low-cost laptop offer Microsoft can't refuse

As the release of low-cost laptops based on Intel's upcoming Atom processor
draws near, Microsoft is getting boxed into a corner. The software company plans
to stop selling most Windows XP licenses after June 30, yet most of these low-cost
laptops won't be powerful enough to run Vista when they arrive later this year.

That leaves Microsoft executives with a choice: Do they extend the availability
of Windows XP for low-cost laptops, or possibly concede this nascent market
to Linux?

The poster child for the low-cost laptop is Asustek Computer's US$249 Eee PC,
which hit the market in October last year and runs the Xandros distribution
of Linux. Consumers in the U.S. and elsewhere embraced the laptop, which uses
a version of Intel's Celeron M processor, for its small size and ability to
perform basic tasks like Web surfing and e-mail. It became something of an overnight
sensation, and that success caught the attention of other hardware makers, including
top-tier PC vendors.

The Eee PC's success wasn't possible without Intel's support. The chip maker
was initially hesitant to embrace Asustek's push into low-cost laptops for fear
it would drive down margins for its mobile processors if users opted to buy
low-cost laptops instead of more powerful -- and more expensive -- models. But
Intel eventually decided that the opportunity to expand the size of the overall
laptop market outweighed the risks of lower profit margins, and gave its backing
to the little laptops.

Intel's support for low-cost laptops is ready to shift into overdrive. The
company's upcoming line of Atom processors, relatively inexpensive chips that
consume little power, will show up during the third quarter in small laptops
-- priced from $250 to $300 -- that will be aimed at users in developed markets
and heavily promoted by the chip maker. Intel executives want these laptops
to be cheap enough that U.S. and European consumers don't think twice about
buying them as a second computer. Most are planned to ship with either Linux
or Windows XP, even though they will arrive after Microsoft's June 30 deadline
has passed.

Windows Vista isn't a viable option in this product segment: It's too expensive
and does not work on the stripped-down hardware configurations required to keep
prices low.

"At the low end, Vista's hardware footprint is too large," said Tom
Rampone, an Intel vice president and general manager of the company's Channel
Platforms Group, noting that some low-cost laptops, such as Intel's Classmate
PC, have just 2G bytes of solid-state storage instead of higher-capacity,
more costly hard disks.

That small amount of storage rules out the use of Windows Vista on these machines.
Even Vista Starter, the stripped-down, low-cost version intended for sale only
in developing countries, Moblin.org,
that provides developers with resources to develop mobile versions of Linux,
including efforts to improve power management and develop a Mozilla-based browser
that relies on a touch interface.

Much of this work, including Canonical's Ubuntu
Mobile Edition, will run on laptops and desktops, as well as MIDs.

In addition to its large footprint, Vista may not be a suitable option for
low-cost laptops because of its price, according to Navin Shenoy, general manager
of Intel's Asia-Pacific operations. "I don't think you'll see a lot of
Vista in this space for cost reasons," he said in a recent interview, noting
that 25 low-cost laptops based on Atom are being developed by various companies.

PC makers are also saying that Vista is not a good option for the new class
of products. During a recent press conference, Asustek executives predicted
that of the 5 million Eee PCs it expects to sell this year, laptops running
Windows XP Home edition will outsell their Linux-based counterparts by a ratio
of 3 to 2.

While Linux is generally the preferred OS for low-cost PC maker Everex, the
company has sold low-cost laptops with Windows XP in developing countries. Vista
isn't an option since Everex's Cloudbook laptop doesn't meet the minimum hardware
requirements prescribed by Microsoft for Vista.

"Even 512M bytes of RAM with [Vista] Home Basic, it's a slow machine --
underpowered and underperforming," said Paul Kim, director of marketing
at Everex, adding that when it comes to low-cost computers, Windows XP "still
seems to be a better path at this point."

Industry analyst Roger Kay, founder and president of Endpoint Technologies
Associates, agreed that the cost of licensing Windows Vista will prevent Atom-based
PCs from reaching Intel's target price of $199 to $250. "Given the cost
of the Windows license, which hasn't decreased anything like the rate that hardware
has ... that makes for a greater incentive for customers and [PC makers] to
look for an alternative," he said, calling Linux the best option.

If Microsoft makes an exception to its plans and offers Windows XP licenses
for low-cost computers in the U.S. and other developed countries after June
30, the software maker may not have to worry about eroding sales of Vista. Intel
is working hard to segment low-cost laptops and mainstream laptops to prevent
any overlap in sales.

To do this, Intel has set guidelines for low-cost laptops based on Atom, restricting
the features they offer. For example, Intel has told hardware makers they can
only use the chips in laptops with smaller screens, preventing vendors from
producing a 14-inch laptop based on the Atom. The goal is to protect the mainstream
laptop segment for more powerful and costly processors, like the Core 2 Duo,
while catering to consumer demand for smaller, inexpensive laptops that complement
-- but do not replace -- their main computers.

Perhaps Microsoft will realize that if Intel is comfortable segmenting the
market in this way, they can be comfortable, too. They may not have another
choice.