Handheld market share in the US (2000)

Palm OS: 78.8% Windows CE/Pocket PC: 13.1% Symbian/Epoc: 0.6% Other: 7.5% Source: IDC

With a backward wave of the hand, it saw off British rival Psion, and could afford to smile at Microsoft's woeful efforts to develop competing software.

In the US at least, Palm became the latest must-have gadget for technophiles everywhere. But one day in summer 2000, software giant Microsoft staged a comeback.

It launched a new line of software for the handheld market, called Pocket PC, which was to turn its fortunes around.

Teething problems

The company's initial software for handhelds, called Windows CE, had not been a success.

Pocket PC is expected to grab a 30% market share

"Windows CE was found to be a little clunky," says Bob Strauss, executive editor of ConsumerSearch.

"What people endure on Windows in the office, they won't endure on a street corner when putting in a number."

Prior to the release of Pocket PC, Microsoft's hardware partners, including Compaq, Casio and Hewlett Packard, had struggled to dent demand for the Palm-based products.

Getting hot

However, with the launch of Pocket PC, Compaq's Ipaq became one of the hottest handhelds on the market.

A new version of Pocket PC to be released this week will no doubt add to its popularity.

Compaq's Ipaq is one of the hottest products

The technology research company IDC now expects Windows CE / Pocket PC to account for over 30% of handhelds shipped this year in Western Europe and the US.

In 2000, the software only had a 16% market share. After two failed attempts to upgrade Windows CE, Microsoft was finally able to compete with Palm.

"People joke that it takes Microsoft until version three to get something right. Well, this is version three and we got it right," commented Ben Waldman, vice-president, Microsoft, at the time.

Targeting business

Pocket PC allowed business users to operate Word and Excel on their handhelds, and made it easier to sync with office PCs.

Handheld market share in Western Europe (2000)

Palm OS: 62.4% Windows CE/Pocket PC: 19.6% Symbian/Epoc: 17.8% Other: 7.5% Source: IDC

Microsoft was also helped by the marketing clout of its partners.

"Hewlett Packard and Compaq are spending a lot of research and development and marketing money on this area," says Tim Mui, a research analyst at IDC.

"They are seeing their profit margins shrinking from traditional areas, such as the PC."

Taking its eye off the ball

But the real question is this: what was Palm doing during all this time?

Palm has seen its sales slump by 47%

In the past year, the company's stock has traded at an all-time low, and its sales between June and August slumped by 47%.

In addition, the company experienced problems with too much inventory after demand slowed dramatically in the early months of this year.

And it was wrong-footed by pre-announcing products too early, which prompted users to hold back on purchasing existing devices on the market.

Not an innovator?

On the development front, the company has also failed to shine.

"Palm has not made a significant advance in its operating system - it is virtually identical to what it was five years ago," says Bruce Kasrel, a senior analyst at Forrester Research.

"It has been resting on its laurels."

I am still a happy Palm user, but I don't know for how long

Falk Muller-Veerse Durlacher

In Palm's defence, Mr Mui from IDC argues that the company has never been a great innovator, preferring instead to offer "the best solution rather than the wow factor".

In other words, Palm turned the electronic organiser into a hit product, but was not so good at breaking ground.

"The race is now Microsoft versus Palm, and Microsoft seems to be outperforming Palm," says Falk Muller-Veerse, a European research manager at brokerage Durlacher.

"I am still a happy Palm user, but I don't know for how long."

Big winnings

Despite Microsoft's inroads, the big prizes in the handheld market are still there to play for.

Analysts see tremendous upside in the convergence of handhelds and mobile phones, as well as applications.

"The PDA [personal digital assistant] market has been very niche," says Mr Muller-Veerse. "The real potential is building that functionality into smart phones."

Next year, wireless - or radio - technology promises to speed up connections between more advanced handhelds and local networks, PCs at the office and the internet.

With further advances in chip technology, there is also the potential to roll standalone devices, such cameras, mobile phones and handhelds into one very sophisticated product.

Other rivals?

Amid this wave of startling innovation, one other contender could play a trump card: the consortium Symbian, which uses the Epoc operating system.

Symbian - including partners Nokia, Ericsson, Psion and Motorola - had only a 9% share of the handheld market in 2000, but is well placed to develop smart phones.

It's a horse race right now where certain companies who have a small lead also face challenges

Richard Siber Accenture

Nevertheless, the mind-blowing potential of this market pretty much leaves the door open to anyone, including technology companies such as Sony and Toshiba.

Many own their own chip companies and have experience in manufacturing video cameras, PDAs and mobile phones.

"It's a horse race right now where certain companies who have a small lead also face challenges," says Richard Siber, a partner within the global mCommerce practice at Accenture.

"While some with sizeable leads may see the jockeys fall off their horses, leaving fast followers to overtake."

In such a context, the rivalry between Palm and Pocket PC may only be one small battle in a very long war.