The EU has rejected an offer from Microsoft to settle its long-running antitrust case, according to people familiar with the situation.
In what was described by one person close to the case as "a half-hearted" effort to meet the commission's concerns, Microsoft offered to attach rivals' software in the form of CD-ROMs to new PCs running Windows.
The EU's executive body, believes that by incorporating Media Player - Microsoft's audio and video-playing software - into the Windows operating system, the company is putting rival players such as RealNetworks' RealOne Player at a competitive disadvantage.
Last August the Commission said that Microsoft should either unbundle Media Player and sell it as a standalone product, or it should embed a rival player inside Windows to sit alongside Microsoft's own Media Player on PC desktops.
The Commission believes that including rival software on CD-ROMs inside the box of a new PC driven by Windows won't redress the competitive balance, according to the person close to the case, who requested anonymity.
Microsoft's rivals argue that record and film companies and other firms offering content that can be played on media players will increasingly tailor their products exclusively for Microsoft's Media Player, because it will be the only software player they are sure that people will have on their PCs.
"The CD-ROMs won't be installed by a large proportion of PC users," the person familiar with the case says.
Microsoft declined to comment on the substance of the offer and its rejection.
"I can't say what's been accepted or rejected," says Horacio Guttierez, Microsoft's senior legal counsel for Europe.
Guttierez accuses rivals of leaking information about Microsoft's negotiations with the Commission. He says the leak was "bits of information put out by competitors with the intention of sabotaging the [negotiating] process."
Details of the offer were reported in the Financial Times and other news organisations yesterday.
Microsoft has argued that unbundling Media Player from Windows would prevent the operating system from working properly. It is also fears the precedent that would be set if it did agree to separate Media Player from Windows.
Future product development, such as a search engine which Microsoft plans to launch to compete with the ubiquitous Google Web site, count on the bundling business model Microsoft has employed with all its most successful software products including Internet Explorer, Word, and Outlook Express.
One antitrust lawyer with experience in representing firms accused of antitrust abuses says that Microsoft is likely to come back with another offer. "Although the end of the case is very near now, I think it's too early to fire off your final offer," he says, on condition of anonymity.
A draft decision that brands Microsoft an abusive monopolist and proposes fining the company is being circulated internally within the Commission. The next step will be to consult with a so-called Advisory Committee comprising antitrust experts from EU member states. That meeting is expected next month.
It is unlikely the Committee will propose major changes to what the Commission proposes. It will be consulted for a second time once the Commission has set the level of the fine, which could theoretically total up to 10 percent of the company's annual global sales, or around $3.8 billion.
A final ruling by the Commission will follow the second consultation with the Committee within a few weeks.
"I wouldn't see the Advisory Committee meetings as a deadline," says the lawyer, adding: "I expect Microsoft will try to negotiate up to the very end."
A second argument in the Commission's five-year-old antitrust case against Microsoft concerns interoperability. Rival firms manufacturing software that runs networks of PCs, so-called server software, complain that Windows for PCs runs better with Microsoft's own server software that it does with their competing server systems.
The Commission wants Microsoft to reveal enough of the secret code that runs Windows to competitors to allow them to make server software that runs as smoothly with Windows as Microsoft's own server software.
A person familiar with the case says this issue also remains unresolved, but he adds that Microsoft and the European Commission will find the interoperability issue easier to overcome than the bundling question concerning Media Player.