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Larry King Live
Aired May 1, 2009 - 9:00 p.m. EDT

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KING: Tonight, people are calling it the most important business transformation in a generation. Bill Gates, the founder, chairman, and CEO of Microsoft joins us live. Bill, Microsoft just announced its quarterly earnings, and for the first time your revenue from personal computers actually dropped.

GATES: The economy is very tough, and that's affecting computer sales, just like everything else.

KING: But Microsoft's revenue and profits continued to increase, right? The stock market sure loved what you said last week.

GATES: I think our strategy's really starting to take hold. We don't manage Microsoft for quarterly earnings, but it's nice to see that investors are recognizing the progress we've made.

KING: You mentioned a new strategy. That started what, about eight years ago?

GATES: Roughly. We spent a lot of time looking at our business, asking where we were going, and we realized three important things.

KING: What were they? Lay them out for me.

GATES: Well, the first was that the biggest danger to Windows was Microsoft itself, and they way we were managing the product. Our philosophy for the last decade had been that whenever there was an innovation in personal computers, we copied it into Windows or into Microsoft Office. If there was an important new application, we built it into Office. If Apple or somebody came up with a new personal computer feature, we built that feature into Windows.

KING: You were trying to compete.

GATES: Yeah, but the effect was that Windows and Office were growing exponentially. If you extrapolated out the growth curve -- the number of lines of code and the number of features -- you could see that within about a decade we'd hit an asymptote...

KING: An assy-what?

GATES: A point of diminishing returns, where Windows would become so complex that we'd have to spend all our time just fixing bugs instead of improving the product. We were destroying our own ability to innovate.

KING: But that wasn't the biggest problem, was it? Your behavior also made Microsoft unpopular.

GATES: Not just unpopular, our aggressive business practices made people stop investing in writing new PC software. The entrepreneurs and the VCs were starting to say, "why should I bother writing a new Windows software program? Even if I'm successful, Microsoft will just take over my business."

KING: How's that a problem? It just means fewer competitors for you, right?

GATES: Not really, because people weren't going to stop writing new software overall. They just stopped writing it on Windows. By competing so hard with our own developers, we were forcing them to innovate on the Internet instead. So here we were, Windows was growing so big that we couldn't innovate, and at the same time we were driving all the other innovators to work on the Internet instead of building on our platform. We were in danger of strangling our own business.

KING: You said there were three things you realized. What was the third one?

GATES: That was probably the most painful one for us to face. We had to admit to ourselves that we just weren't very good at managing things outside the PC business.

KING: But today Microsoft is viewed as one of the best managed companies in the world.

GATES: Today, sure. But ten years ago, we were like the repair guy who has only a hammer. Everything looks like a nail. We thought we were a software company, but actually we were a PC company. To us, everything looked like a PC. We thought we could take what we already knew and apply it to any other technology business. Microsoft had this reputation that the third time's the charm...

KING: Your first two versions stink, but on the third try you'll get it right.

GATES: I wouldn't say stinks, but...you know, ten years ago I would have jumped all over a statement like that. But yeah, people said things like that, and I think at some level we started to believe it about ourselves. So we would enter these new businesses, and our first efforts would be a failure, and we'd tell ourselves that it was okay because of the learning curve. But that wasn't it; the reality was that we just weren't very good at those other businesses. You look at all the new things we were investing in...

KING: Let's make a list, there were video games, smartphones...

GATES: Lots more than that. Tablet computers. Music players. At one point we were even creating an operating system for watches, if you can believe that. And we were developing all of these things in-house, and most of them were very mediocre, very uninspiring.

KING: So let me get this straight, you had three problems at once...

GATES: Our products were getting so big that we couldn't innovate, we had driven away the other people who could innovate, and we weren't good at the new businesses we were getting ourselves into. Now, none of this was totally obvious in 2001. You could still rationalize at the start of the decade that all we needed to do was work a little harder. In fact, in a lot of ways it looked like we were stronger than ever. So the pressure to stay the course was pretty extreme.

KING: But that wasn't what you did.

GATES: No. It was the biggest decision of my career, but right when we were at the peak, we decided we had to remake the company. If we were going to diversify beyond the PC market, we needed to figure out how to manage very different businesses within Microsoft. We had to be more like GE, where they can run radically diverse businesses like jet engines and finance inside one corporate entity. And instead of growing everything ourselves, we'd need to acquire some companies with different DNA.

KING: But acquisitions were a problem for you.

GATES: Right. Because the government had decided we were a monopoly, we couldn't just go out and buy a bunch of companies. We would've drowned in lawsuits. So first we had to change the way we managed Windows. That's why we signed the consent decree with the government, agreeing to open up all the interfaces of Windows at no charge, and to stop copying the features of other software companies. That got the Department of Justice off our backs -- I mean, that made the regulatory authorities more comfortable with our strategy. You know, Larry, I still don't think we actually did anything wrong, but sometimes the perception is just as damaging as the act...

KING: Of course.

GATES: Then we made it clear to the VCs that instead of competing with the best Windows software companies, we were going to buy them. That turned around the whole investment dynamic -- instead of creating new software companies on the web, they started telling all the entrepreneurs to create Windows software, because they had an easy exit strategy. Plus we were able to make our Windows development more focused, because we weren't obligated to compete with everything all at once. It's like what Cisco did in networking. Get other people to do your R&D for you, and just buy the best ones. So that re-ignited innovation in Windows.

KING: It sounds so simple.

GATES: Actually, it is pretty simple, if you let the companies you acquire keep running themselves. We used to acquire a company and then "align" it with our strategy. In practice, that meant it disappeared like a tuna in a school of sharks. That was probably the hardest lesson we had to learn at Microsoft, that our way wasn't always the best way.

KING: Let's open it up to the phones. Peoria, Illinois, you're on with Bill Gates.

CALLER: Hello?

KING: Yes, you're on live with Bill Gates. What's your question?

CALLER: I wanted to ask about the acquisitions you've made in the last decade. Which one are you most proud of?

GATES: Oh, it's hard to choose just one. But the deal that set up Microsoft North is one of my favorites. People said we were crazy to buy those guys. We had to pay almost $3 billion for them in 2002. It was a huge risk at the time; Ballmer almost threw a chair at me when we discussed it. But today they're responsible for the whole Microsoft Blackberry product line.

KING: You mean that wasn't developed in-house?

GATES: People forget about that today, but yeah we bought this Canadian company that made Blackberry, and put them in charge of our mobile strategy. The analysts thought we were crazy -- they said we could just copy Blackberry and build it into our server and PDA products. But I thought about Microsoft Bob, and decided it was better to spend the money than risk missing the market. You know, that one $3 billion investment is probably worth at least $30 billion today.

Then there was the joint venture with Nintendo. God only knows how much money we would have lost if we'd tried to go into video games on our own.

KING: We're almost out of time. Nine years ago, on January 1, 2000, we had you on this program and you said that the biggest danger to Microsoft was that you would become complacent. How did you avoid that?

GATES: By assuming that we were complacent, and attacking it. Here's the rule: If you even suspect that you're at risk of becoming complacent, you probably already are. I mean, we could have just gone along with business as usual. That would have been the safe decision.

KING: If you had taken the safe approach, where do you think Microsoft would be today?

GATES: It's so hard to say. If we hadn't changed, we probably could have muddled through with high profits for about a decade before things would have started to come apart. I might have even gotten bored and retired, or given away all my stock to a foundation. But by the end of the decade, there we'd be, most of our business would still be centered on the PC, and when that market started to shrink, then we'd be in real trouble.

KING: Could you have fixed the company if you'd waited that long?

GATES: I don't really know. I want to say yes, because you know I'm kind of competitive. But when a company starts shrinking, there's huge pressure from the shareholders to cut costs. And logically, the first thing you cut is the speculative new products that might get you out of the mess. If I had given up my stock, I might not even have enough control over the company to step in and say, "ignore the investors for a couple of years while we fix everything." It was hard enough to do back in 2001.

Once you start to shrink, it's very difficult to turn things around.

KING: Instead, here you are. Sure enough the PC market is shrinking, but Microsoft's still growing...

GATES: Because we changed our strategy to use the talents of others, rather than feeding off them.

KING: Thanks, Bill.

GATES: You bet.

KING: Bill Gates, the founder, chairman and CEO of Microsoft.

Tomorrow night: Monica Lewinsky, where is she now?

Thanks for joining us. I'm Larry King. Good night.