'Coveting the market'
The iPod accounts for more than 50% of digital music players sold while iTunes, Apple's digital music store, has a 70% share of its market.
Experts say Microsoft has long coveted the market for handheld entertainment devices as the market for its core desktop software products becomes saturated.
Microsoft said it was working on products in this area under the brand name Zune but gave no further details.
"Under the Zune brand, we will deliver a family of hardware and software products," said Chris Stephenson, the firm's general manager for marketing.
"We see a great opportunity to bring together technology and community to allow customers to explore and discover music together."
Experts said the success of the product would depend on whether users were able to download music and video wirelessly.
"Creating a lifestyle device, Microsoft is clearly going to face a battle here," said Michael Gartenberg, from Jupiter Research.
"It is going to be hard for them to create the same level of cachet that Apple has with the iPod."
