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NEW YORK (FORTUNE) -
Microsoft Chairman Bill Gates advocated major changes for his company to take on new competitors in this leaked memo from October 30.
Before you place your bets, here are three things you should understand about Microsoft, and its battle with the increasingly threatening world of online services like Google, Yahoo, Ebay, Amazon and Salesforce.
1 -- It's threatened
Microsoft sees these companies, Google especially, to be as big, if not a bigger threat to its future than Linux or Netscape a decade ago. If most of the applications you use on your PC, or cell phone for that matter, are delivered free over the Web and supported by advertising revenue, paying for software from Microsoft becomes markedly less appealing.
Office, which makes up roughly a third of Microsoft's revenues and a bigger chunk of its profits, is especially vulnerable because it costs hundreds of dollars.
2 -- It's vicious
Microsoft is going to fight back viciously, and competitors, some of whom have become dismissive of the company lately, should be wary. Microsoft is a bigger, more bureaucratic and slow moving corporation than it has ever been, but it is still, in effect, run by the same management team -- Bill Gates and Steve Ballmer -- who have lots of experience coming back against the competition.
Microsoft is at its best when it has an enemy it can focus on and use to personalize its attack, and it has a very good track record. Remember, Microsoft beat out Apple and IBM in the 1980s to be the most popular operating system and it beat out Wordperfect and Lotus in the early 1990s to become the dominant office application.
And we all remember what it did to Netscape during the browser wars of the late 1990s.
3 -- It may still lose
This battle is going to be one of the hardest Microsoft has ever faced because there are no shortcuts. It will simply have to out-innovate the competition, and it is already far behind.
Why? For starters, undercutting the competition on the price of software or advertising is next to impossible, because companies like Google already give their software away and because the advertising rates on their networks is set by auction.
Second, Google, in particular, is better run, more profitable and sitting on more cash than any small competitor Microsoft has faced. Netscape may have scared Gates for a moment; but it never really had the resources to put all its grand talk into action.
And lastly, Microsoft's business practices are under more scrutiny than ever before. Any attempts to use its dominant position with Windows, Office and the Internet Explorer browser to muscle competitors will get flagged immediately.
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