Once upon a time, Microsoft reigned supreme, they were IBM 2.0, having wrestled control of the PC from Big Blue. According to some critics, Microsoft took over the office application market through a combination of embrace, extend, and extinguish and tied sales. The MS M.O. followed this trajectory: First, Bill Gates and his troops would paint a bullseye on a product category—spreadsheets, words processors. Then they’d add features, creating a superset of those offered by Lotus 1-2-3 or WordPerfect. The next move involved the relationship with PC manufacturers: Microsoft (it’s said) tied the sale of the Microsoft Office suite to a Windows license. You want “favorable” terms on Windows? Install Office on the PCs that you sell.

MS Office applications became the Colossus of the business sector. And they established a de facto lingua franca. If you wanted to write a productivity app, you had to speak the MS language—you had to translate to and from Microsoft’s file formats. But these formats were under Microsoft’s sole control, they could “extend” the language at will, and—surprise!—these enhancements favored their own applications. For third-party developers, complete, full-featured compatibility was next to impossible to achieve. Ask the OpenOffice folks.

It worked. For more than 20 years, the Windows + Office combo has been Microsoft’s cash cow. In its 2010 Annual Report, MS reported $37B in revenue—60% of the company—for what is officially called Windows & Windows Live and the Business Division. With an operating profit of $24.7B and a beefy 67% operating margin, Windows + Office accounts for…102% of the company’s operating income?

(The percentage anomaly is due, in part, to the $2.3B lost by the Online Services business. With $2.2B in revenues, that’s more than $2 spent for every $1 in sales. For another part, we have an opaque category, Corporate Level activities, which adds another $4.5B of red ink.)

The mid-90’s, the browser wars. Microsoft seemed content to let Netscape’s Navigator own the scene… until the nascent Web wafted the aroma of monetization. Microsoft’s Internet Explorer began life as an add-on, almost an afterthought, a sop to “unproductive” Web surfers. But with the release of Windows ’95, IE was wired into the operating system, for free (which would eventually land Microsoft in various kinds of legal troubles, now largely forgotten). And, true to the MS M.O., subsequent versions offered “enhancements” to HTML that only IE knew how to interpret. Embrace, extend, extinguish…that was the end of Netscape’s hopes for a revenue stream.

Those were the days. Since then, all of Microsoft’s efforts to control standards have gone nowhere.

Microsoft tried to fight Adobe’s PDF format with its own XPS. PDF still dominates. (Does anyone use XPS?)

Let’s talk music: Windows Media (WMA), was supposed to be an MP3-killer, but…Plays For Sure? Look at the WMA roster—Yahoo Music, Rhapsody, AOL MusicNow, even the quotidian BearShare, all of them either closed or switched to MP3.

Google made mincemeat of Microsoft’s search efforts and, slyly, financed Mozilla’s Firefox browser on the side. (Although that’s coming to an end as Google deploys its own Chrome browser. Time will tell if Google will stay open when it comes to browser specifications. Will they play the time-honored games of private APIs in order to give special treatment to their Android and Chrome OS engines for smartphones, tablets, and netbooks?)

In the meantime, Microsoft, still clamoring for Web dominance and wanting to displace Adobe’s formats, created Silverlight, a Flash and Adobe Air competitor. Again, the idea is to control the way applications are written and played.

On the other hand…

A few days ago, Bob Muglia, President of Microsoft’s Server and Tools business ($14B revenue, 37% operating margin for 2010), asserted that Silverlight is “still important and strategic” but also states that HTML 5 is the true cross-platform standard. And, indeed, Microsoft now presents Explorer 9 (“Microsoft reinvents the browser”) as the paragon of HTML 5 compliance.

That’s a turning point: Microsoft openly acknowledges that it no longer rules the file format playing field. We’ll see how they do in the Cloud game against a Google that’s determined to kill the Office cash cow.

Another turning point is pricing. And here we turn to Apple.

Even when it didn’t enjoy the iPod’s quasi-monopoly, Apple was known for demanding (and getting) a premium for its products. Competitors pointed to the price difference between a Windows laptop and a MacBook. Ballmer was fond of claiming that the Mac was simply an Apple logo slapped on a bunch of PC parts. But after Jobs returned to the helm, Apple took market share (and profits) away from the clone makers. Mid 2009, Apple had 90% of the $1,000+ segment. This last quarter, according to a Gartner report, Apple had more than 10% of the general PC market in the US and a NPD research note pegged Apple at 20.7% of the consumer segment.

Taken at face value, these numbers constituted a ringing endorsement of Apple’s pricing. Customers were willing to pay more for what they perceived as decent value for their money.

Imagine what would happen if Apple’s prices were “competitive”…

In January of this year and after months of rumors, Steve Jobs announced the iPad. No surprise, there, but…what the rumor-mongers missed was the price: $499 for the entry-level configuration. The expectation was much closer to $1,000.

The new Apple TV is also priced lower than imagined: $99.

And now the two-week old MacBook Air starts at an approachably frugal $999.

These price points do much to remove the budget restrictions—and psychological barriers—for the MS “faithful”. We hear rumors of medium- to large-scale orders for Xmas business gifts (although we’ll wait until January to get the actual dollar and unit numbers). Gossip aside, this looks like a new phase in Apple’s life. Either it has decided the next ten points of PC market share won’t happen with yesterday’s prices, or, for the tablet market, Apple wants to achieve a commanding market share as quickly as possible and retain it. They currently own the tablet space, but today’s number, 95% market share, is dubious—competitors are just now starting to land. But, for once, it looks like Apple wants to deprive new entrants of a price umbrella.

In the smartphone category, prices are a little harder to read because of carrier subsidies, but today’s iPhone margins, 60%+, place Apple at about 50% all smartphone profits, with a mere 4% unit share. And the iPhone doesn’t seem to be much more expensive than its competitors, certainly not in the old PC vs. Mac proportions. We’re likely to see strong downward pressure on Android-based handsets next year, but it will be interesting to see how Apple reacts with new products and prices, how it fights the smartphone war.

And it will be even more interesting to see how—or even if—Microsoft has a dog in the game.