In this scenario, hardware makers could keep selling laptops, desktops, and hybrids with traditional Windows, paying Microsoft a licensing fee. However, if they want to offer Windows hardware for cheap, they'll go with the free, modern version that likely includes a free version of Office.
The big question, then, is whether PC makers and consumers will ever fully embrace the touch-friendly, app-driven side of Windows. If not, Microsoft doesn't sacrifice much by trying to buy a chunk of the phone and tablet market.
But if the strategy does work, and the main consumer version of Windows becomes the modern, app-driven one, Microsoft risks cutting deeper into its Windows and Office software business.
In any case, Microsoft probably isn't too concerned about cannibalization, said Ross Rubin, Principle Analyst for Reticle Research, given that Microsoft has positioned itself as a "devices-and-services" company. "They have had to have considered that before they decided on this positioning, because margins for software are a lot higher than they are for hardware," Rubin said.
The Verge notes that Microsoft could try and make money back on services like Bing, SkyDrive, and Skype, but Rubin said there may be other opportunities--things like mobile health or mobile payments--that come easier with greater market share. Rubin also suggested that Microsoft could sell additional features or higher tiers for Office or Windows, beyond what's given away with a free license.
"In many ways it's a leap of faith by all of the major ecosystem providers that at some point, they will find some way to make money on services," Rubin said.
Who gives the order?
To summarize, Microsoft may drop licensing fees for what could someday become the main consumer version of Windows, while also giving up Office revenue by giving the software away with Windows phones, tablets, and hybrids. To stay profitable, Microsoft could focus on selling its own hardware and offering services on Windows machines made by other vendors.
If any of this comes to fruition, it's the very embodiment of the "devices-and-services" strategy that Microsoft has espoused since last year. It all makes a lot of sense.
There's just one more variable to consider: Within a year, Microsoft will have a new CEO. Whether the successor to Steve Ballmer will adopt a free licensing model, or shake up Microsoft's business in more dramatic ways, is still anyone's guess.
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