Everyone knew as long as MS-Office franchise is delivering money to Microsoft in fire hoses, there is no way anyone can compete with it in *any* sphere. It will sustain losses year after year to deny revenue to the competition. Once the competition folds it has the market for itself. Look how long it was able to sustain losses to gain dominance with XBox franchise. Everyone knew that. Many people had ideas to attack it, but lacked the resources. People with resources, I am looking at you Sun microsystems, lacked the competence to pull it off.
Google went about it strategically. First it peeled of the low hanging fruit, people who don't need all the bells and whistles of a full suite with Google docs/apps. Then it leveraged the central server doing the edits, to create a collaborative edit features that were well ahead of MsOffice when it was introduced. Priced it cheap, pitched it to the enterprises. When it was forcing Microsoft to scramble to offer collaboration tools, Apple helped in the upgrade tread mill battle. In an earlier era, the top exec gets the latest and greatest laptop every six months with latest Office pre-installed and starts belting out documents in the latest format. IT will upgrade rest of the corp. But Apple took all the top execs with its iPad, and now PC is not the latest toy these top honchos were getting. Side effect: The corporate upgrade treadmill slowed down significantly.
Now it is going for the last section that really needs all the bells and whistles of a full fledged office suite. Instead of spending the money to reinvent the wheel inside google docs, it is just using the well established code base of OpenOffice and the ODF. Even though Microsoft lost the mind share and the market share in percentage terms, its cash cows were producing milk at the same old prodigal rate. Cutting off a significant portion of the MsOffice revenue stream is important for Google's business ops in other spheres. Else Microsoft will under cut it. It even tried to pay people to use Bing.
Google does not really want to make much money off its google docs franchise. It uses it just to crimp the revenue stream of Microsoft. It is making money elsewhere.