While the Windows operating system is an important part of Microsoft's (NASDAQ:MSFT) business, its Office suite of productivity products is actually the company's largest cash cow. In fiscal 2013 Microsoft derived $16 billion in operating income from the division comprised mainly of Office, with a fantastic 65% operating margin to boot.
For many years Microsoft Office faced little real competition, but today the story has changed. Office not only faces competition from a slew of free applications, but also from search giant Google (NASDAQ:GOOGL). Can Office maintain its dominance in the face of this competition? Or will Microsoft's cash cow be put out to pasture?
The dominance of Office
For a long time there really was no other choice than Microsoft Office. Then came OpenOffice and other open-source alternatives, offering a free office suite for those fed up with Microsoft. It would seem that a free alternative would be death knell for Microsoft Office, but it wasn't. There are two reasons for this.
1. Most of Microsoft's Office revenue comes from the enterprise. According to the 2012 annual report, about 80% of the business division's revenue comes from sales to businesses, making enterprise dominance far more important than consumer dominance. While the free office suites are popular for home users, Microsoft has maintained a stranglehold on the enterprise market, with around a 90% market share on PCs. Given the dominance of Windows on enterprise PCs this makes sense, and with long-term contracts and the reluctance of IT departments to switch companies for something as important as productivity software Microsoft was able to own the enterprise market even against low-cost competition.
2. Microsoft Office is simply better than the free alternatives. OpenOffice is basic, and while this is likely fine for the home user it's not enough for someone trying to create a complex document. In terms of features, Microsoft Office is the clear winner and with enterprise users already familiar and comfortable with the software it makes little sense to switch to a less functional alternative.
Introducing the cloud
As applications have shifted into the cloud so have productivity suites, and Google created Google Docs to directly take advantage of this trend. Google Docs offers Office alternatives directly in the browser, and documents can be stored in Google's cloud storage system and shared with other users. Like the free office suites before it Google Docs is popular among home users but has yet to make substantial progress in the enterprise.
Google has been pushing into the enterprise market, though, and the company does have a few big wins. But Microsoft is heavily entrenched, with long-term customers unlikely to jump ship. Google may slowly win some market share from Microsoft, but in the end Microsoft will likely still be dominant.
Google isn't alone in pushing office apps to the cloud. Microsoft released Office 365 along with the newest version of Office, a subscription-based version of the productivity suite. Instead of paying a large upfront fee, Office 365 is offered for a low cost per user per month, much like Google Docs in the enterprise. Office 365 doesn't run in the browser, however, which makes it faster and more responsive than Google Docs. Documents can be saved to SkyDrive, Microsoft's cloud storage alternative, and edited on mobile devices with ease.
Office 365 had a $1.5 billion annual run rate at the end of fiscal 2013, impressive growth from a $1 billion annual run rate just a few months earlier. The subscription model allows Microsoft to avoid the trouble of having to resell Office to customers every few years and instead collect a steady stream of recurring revenue.
Google Docs is more basic than Office, making complex documents difficult to deal with. While Office certainly has a learning curve its power and feature-set are unmatched.
The bottom line
After using both Office 365 and Google Docs one thing is clear-documents of any complexity are far simpler to create and deal with in Microsoft Office. Google's offerings are fine for basic usage, but I don't see enterprise users swarming to use them unless their needs are basic as well. With Windows on almost all enterprise PCs mixing and matching Microsoft and Google services doesn't make much sense, and this introduces a real aversion to moving from Office to Google Docs. Microsoft Office is the most capable productivity suite around, and at least in the enterprise it is here to stay
Timothy Green owns shares of Microsoft. The Motley Fool recommends Google. The Motley Fool owns shares of Google and Microsoft. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.