Why Microsoft Won The $22 Billion Army Hololens 2 AR Deal

Photo of Microsoft’s Hololens in action.
 
U.S. ARMY

Many of the world’s leading tech companies are vying to develop what will become the next mainstream computing platform. While there’s disagreement on whether the platform will be AR, VR or some form of mixed reality, there is no doubt that one of the companies leading the charge is Microsoft. Since the first Hololens launched in 2016 with the Development Edition, Microsoft has been hard at work building out its Mixed Reality platform. That same year, Microsoft also announced its Mixed Reality VR headsets for Windows. As some may remember, 2016 was a peak hype year for VR. The momentum behind the technology allowed Microsoft to establish a comprehensive understanding of the needs of AR and VR, and develop APIs for developers accordingly. Last week, Microsoft announced the closure of a $22 billion deal with the Army for AR headsets, software and services. Let’s take a look at the deal and what it means for Microsoft and the industry at large.

Some background

This announcement comes as a follow-up to a smaller $480 million deal Microsoft won in 2018, which forged the two entities’ relationship and kickstarted their co-development. Together, they developed a semi-custom version of the Hololens specific to the Army’s needs which Microsoft calls the Integrated Visual Augmentation System (IVAS). This initial $480 million deal was also significant in that it was the nail in the coffin for companies like ODG, which had been banking on winning such a deal. Historically, ODG’s biggest customer was the US Government, so naturally, when that contract went to Microsoft, the company quickly folded. Interestingly, Microsoft had been rumored to have paid $150 million for ODG patents well in advance of winning both deals. While Microsoft does have some competitors in the AR space, I don’t believe any of them were even remotely close to being competitive for the deal.

Members of the U.S. Army sporting Microsoft Hololens headsets.
 
U.S. ARMY

The specifics

The new deal likely crushed the dreams of many would-be competitors for this bid, as it covers a wide spectrum of hardware, software, services, and cloud infrastructure. Microsoft has agreed to supply the US Army with 120,000 semi-custom versions of the Hololens, built for rugged use and equipped with the appropriate sensors and location accuracy for military use. This deal has a 5-year term with an additional five optional years. If the deal extends to ten years, it will amount to $21.9 billion. If you do the math with the Hololens’ current price of $3,500, that only tallies up to $420 million. While I wouldn’t expect this highly customized version of the Hololens to be sold to the Army for anywhere near as low as $3,500, even if the Army paid $35K per headset, it would only add up to $4.2 billion out of the $22 billion deal. That means that the bulk of this deal’s value is in services and Azure computing, which makes sense given that those make up Microsoft’s entire play around Hololens and its Mixed Reality platform. 

Everything at Microsoft under the tenure of Satya Nadella operates entirely to answer one question: does it drive Azure utilization and scale? If you look at Microsoft under Satya Nadella, it has been wildly successful and profitable embracing this premise. I don’t think it should surprise anybody that Microsoft’s Hololens and Mixed Reality teams live within the Microsoft Cloud and AI Group. In March, Microsoft also made a significant announcement with its Mesh platform and service, which further indicated Microsoft’s plans for XR. Mesh combines offerings such as Microsoft’s Azure Spatial Anchors and Remote Rendering into a single solution to enable organizations like the Army to use XR technologies in the field.

Microsoft’s goal with Hololens, Mixed Reality and all forms of AR and VR is to provide a truly agnostic platform. To that end, the company has openly embraced and encouraged open-source APIs like OpenXR, which will be critical for developers when they develop apps for multiple types of headsets. Yes, Microsoft does have the Hololens 2 and is a headset manufacturer. Still, I believe that everything Microsoft has done thus far has illustrates the company’s desire to be the platform provider of choice for enterprise and business XR applications. 

One of the most critical components of offering enterprise and business XR cloud services is experience. Microsoft has a long track record of offering enterprise-grade security to the US Government and other highly secure enterprises. Companies like Facebook and Magic Leap have XR headsets, and they have platforms that are relatively mature at this point. Still, they do not have the security and cloud infrastructure to truly compete with what Microsoft has built. While Amazon has the security and cloud experience to potentially offer something competitive, Amazon Sumerian does not yet have the kind of cohesion that Microsoft’s platform does. Furthermore, it operates more like a game engine than a platform, and Amazon doesn’t have any XR headsets in the market, yet.

Everyone in the industry knows that the end goal of all of these companies’ XR efforts is to make money off the software and cloud services, as we’ve seen with the smartphone industry. Microsoft’s $22 billion deal with the Army demonstrates its early lead over the opposition. This deal should also legitimize the viability of enterprise XR and Microsoft’s approach. Others can then build on top of the groundwork that Microsoft has already done to deliver XR apps and headsets. Yes, this deal amounts to about $2.2 billion per year, but even for a company as big as Microsoft, that’s a considerable amount of revenue—and that’s just for one contract. This contract will also buoy the size of the XR industry’s revenues, establishing a consistent baseline of revenue for the industry.

Wrapping up

I expect that we will see more enterprises embrace Microsoft’s Mixed Reality platform for XR as remote work and immersive computing continues to grow. We may even see Microsoft start to use its Mixed Reality enterprise platform in some consumer applications relatively soon. During a partnership announcement with Niantic at the launch of Microsoft Mesh, Microsoft even teased a proof of concept with Pokémon Go for the Hololens 2. In my opinion, this shows Microsoft’s prowess in picking the right partners and leveraging its strengths. Niantic’s CEO recently teased an AR headset, which many people expect to be the company’s first headset for AR developers. If you ask me, it’s very likely the platform for that headset will run on Microsoft’s Azure Mixed Reality cloud. As Microsoft continues to solidify its lead in XR, I expect more to follow.