Much as I like apple (and I’m writing this on my macbook, as I use my iphone for a dictaphone for work and my wife is using her iPad, i’m an apple certified trainer in Logic and use them every day at work) I don’t think that Apple can realistically compete with MS Office – not for grown up tasks. Even if you look at simple stuff – mail merges for example – you can’t do that with mail/pages, Numbers has none of the serious data manipulation tools of Excel and word is the baseline standard for all other word processing software – office is simply in another league to iWork, and I think Apple know this.
The reality is that Apple Iwork stuff doesn’t compete with Office because it can’t – what it does compete with is google drive, and Zoho and open office – and in order to do that effectively, it has to be free.
In terms of the OS side of things, yes, there is every possibility that making the OS update free will help to drive hardware sales, and that is absolutely where they make their cash, but they don’t make as much on the OS X side as they do on the IOS side, they are much more competitive with Andriod than they are windows. OS X users are very much a niche, and not part of the mainstream, not like iOS users.