However, Microsoft's German arm intends to fight back in September, when the first hearings begin, said Andreas Krumpholz, a company lawyer.
The legal dispute began in June 2001, after Graf's lawyers called on the German court to issue an injunction. The lawyers were following the tennis star's request for an immediate ban on the distribution of obscene photo material posted by a private user.
Although Microsoft removed the photos upon Graf's request, it refused to accept an out-of-court settlement with Graf for publishing the material.
"We firmly believe that we have not violated any laws," Krumpholz said. "That's why we fought the preliminary injunction and that's why we will continue to fight our case in the main proceeding."
The preliminary injunction process, according to Krumpholz, is designed for quick decisions, typically based on written documents. The main proceedings, by contrast, can drag on for months or even years, requiring hearings and substantial evidence.
"Steffi Graf wanted a quick decision because she was worried about this material being spread over the Internet," Krumpholz said.
The entire court case "will be reopened in the main proceeding" and "could lead to an entirely different decision," Krumpholz said. "We plan to present new evidence in the main proceeding."
In a statement, Microsoft Germany said the German court's decision was "wrong".
Krumpholz said the German court decision, if unchallenged, could have a huge impact on German Internet service providers (ISPs) in the country.
"One of the key questions is whether an ISP should be treated like a telephone company, which isn't responsible for checking every phone call it carries over its network, or whether an ISP should be treated like traditional media, which have a responsibility of checking content before publishing it," he said.
"We believe ISPs should be treated like telecommunication companies because that is what they are."