Sure, there were chinks in the armor. Linux (aligned with MySQL, Apache, and various open-source programming languages) was clearly taking significant share on the server side from NT, SQL Server, and Internet Server. But Microsoft had such enormous advantages through its monopoly in desktop OS that it seemed unstoppable.
Now, eight years later, it all seems to have gone very, very wrong. Microsoft has never seemed so vulnerable. Apple is taking share on the desktop with better user interface and a superior media suite (iTunes/iPod, iLife), giving customers what they actually want. Ubuntu is clunky but credible, challenging at the low end. Google, Yahoo, Facebook, and Myspace, in aggregate, have built more market value than Microsoft with pure internet plays, in just a few short years. Xbox 360 is incinerating billions of dollars of capital; the Zune is DOA. And Vista is a massive dud -- never has a major Microsoft OS release been met with less enthusiasm. They've completely lost the web serving and file serving markets to the open-source stacks.
The surest sign of Microsoft's vulnerability is the recent challenges they've faced on productivity apps. Zimbra for email and the iCal standard for PIM, cutting into Outlook. OS X "Leopard", slated for release later this month, promises even better calendar and email integration. Apple's iWork suite, Google apps, etc. -- not great, yet, but getting there. We see a lot of pitches from internet and media companies, and I'd say a good 25% of them show presentations on Macs with Keynote. Completely unimaginable 8 years ago.
The management's view on all this seems hard to read. Balmer continues to snark it up, calling Google a "one-trick pony" and Facebook "a fad" -- it's not that he doesn't have a point, but you'd hope for a little more clarity of strategy and a little less schoolyard dissing.
So, as Lenin would say, "What is to be done?" I've heard glib chatter that Microsoft would have been better off had it been broken up by the antitrust courts into smaller companies. I am not so sure I buy that. But clearly something needs to give. The current strategy is just not maximizing the considerable assets.