The flash based Zunes similar to the Nanos came out at the same time as the second generation iPod Touch.
The Zune HD came out with no apps around the end of 2009. Peak iPod - including the Touch - was 4th quarter 2008. The iPod was already losing steam and even then it was being propped up by the iPod Touch.
All I use: email, browser, maps, phone, txt, calendar, camera (non essential for me).
I'm not sure how you got "three months before the iPhone" when the Zune 30 was released in Nov 2005 and the iPhone was released in June 2007. That's not 3 months, that's 19 months.
It didn’t matter if they were “competitive”. The market had already spoken. People preferred the flash based smaller players to the larger players. MS went after the smallest part of the market.