Microsoft (MSFT +0.48%) recently revealed some big plans to become a major player in the booming Internet of Things, or IoT, market.
At its Convergence 2015 conference in Atlanta, Microsoft unveiled the Azure IoT Suite, a cloud service which will enable billing, monitoring, analytics, and predictive maintenance in IoT deployments. The preview version will be available later this year, but it will first launch Azure Stream Analytics -- a standalone service that helps companies process IoT data in real time -- in April. Stream can also be integrated into the Azure IoT Suite.
Microsoft also announced that it will launch special versions of Windows 10 for IoT devices, which will expand the upcoming operating system beyond PCs and mobile devices into robots, IoT gateways, and sensors. The OS will offer native connectivity for machine-to-machine and machine-to-cloud connections, while protecting device-to-cloud connections with enterprise-level security features.
Expanding beyond PCs and mobile devices
With specialized versions of Azure and Windows 10, Microsoft can leverage its dominant market share in PCs to establish a strong presence in the IoT market, which IDC forecasts will grow from $1.9 trillion in 2013 to $7.1 trillion by 2020.
The effort will also generate more cloud revenue through Azure, which helped the cloud business achieve an annualized run rate of $5.5 billion last quarter. The cloud market is also growing rapidly -- IDC expects global spending on public cloud services to soar from $57 billion to $127 billion between 2014 and 2018.
Expanding into the IoT market represents an expansion of the "One Windows" strategy, which has mainly focused on uniting PCs, tablets, smartphones, and consoles with "universal apps" and synchronized data. By expanding that philosophy to IoT devices, Microsoft can shore up its defenses against newer operating systems in embedded devices.
Source: Microsoft
The business of embedded operating systems
Microsoft's biggest foe in the IoT space is ARM Holdings (ARMH +0.00%), which licenses the majority of chip designs used in IoT devices. That puts ARM in a great position to expand its OS presence via bundling strategies.
Last year, ARM launched an IoT platform running on Mbed, its free embedded operating system, and Mbed Device Server, which helps companies manage connected devices. In February, ARM acquired software security firm Offspark to improve the security of its connected devices.
Major players in the IoT and cloud industries -- including Freescale, NXP, Marvell, Salesforce, and IBM -- already use Mbed. That widespread support makes it a major threat to aging embedded operating systems like Microsoft Windows Embedded and BlackBerry QNX.
To widen its defensive moat against Mbed, Microsoft could make Windows 10 free for all IoT devices. In February, the Raspberry Pi Foundation announced that Microsoft would launch a free version of Windows 10 for its popular credit card-sized computer, which is basically an ARM-powered IoT device.
A first generation Raspberry Pi. Source: Wikimedia Commons, Jwrodgers
Valuing user growth over profits
Microsoft has not declared that Windows 10 will be free for all IoT devices, but it would be consistent with its other recent decisions.
Last year, Microsoft offered free Windows licenses for phones and small tablets and reduced license fees for larger tablets and select laptops. It let OEMs bundle free Office 365 and One Drive memberships with low-end Windows tablets and laptops. Earlier this year, it also announced that Windows 10 will be a free upgrade for consumer versions of Windows 7 and Windows 8. Those decisions all indicate that Microsoft is valuing user growth over profits -- that is why Wall Street expects Microsoft fiscal 2015 earnings to fall 9% year-over-year to $2.39 per share.
A paid version of Windows 10 for IoT would struggle to compete against Mbed, so Microsoft will likely give it away.
The bottom line
This expansion into the IoT and cloud markets will help Microsoft stay relevant as the computing market evolves beyond PCs and mobile devices and into all manner of connected devices. However, this effort could also hurt its profits, since Microsoft will likely use free or discounted software to gain ground against companies like ARM.
Nonetheless, Microsoft cannot afford to be left behind in the IoT and cloud markets. Investors should consider Azure IoT and Windows 10 to be important long-term investments, but they will weigh on the bottom line for the time being.
