It was 2006 when Scott McNealy broke the news that Jonathan Schwartz would become the new CEO of Sun Microsystems Inc. (NASDAQ: JAVA) rather than just be the Chief Operating Officer. As he was the top lieutenant, it was an obvious pick. Schwartz rang the bell of the same company vision being the future. That was unfortunate. Having only two-and-a-half years as CEO may not be enough, but this one has been such a disaster that a new leader from the outside needs to brought in to get Sun in the right direction.
Again, we do not use share price as the sole bogey for replacing aCEO. If we did then most technology and media and media companies would have no officers today. The problem is not just thestock. It is that nothing has worked for Sun under its strategy.
Keeping with the same vision was a mistake. Then when the company madesome smaller strategic deals it did not add the bang which anyone hoped. The company took some heat over an earlier pre-Schwartzbuyout of Storage Tech for tape storage. Sun had been on a mission tobuy profitable revenue streams, and that large $4 billion-plusacquisition is believed to be a dud. So now Sun has been a little more tight-fisted andis probably feeling cautious whenever it considers a large deal.With its now-lower cash balance, a new large deal is probably not evenfeasible.
Over the last two years there has been a relative flat-line in thetotal liabilities of the company, yet its asset size and liquidity haveendured a steady bleed. At the last quarter report, Sun had roughly$3.1 billion in cash and investments.
And Sun’s server business was under fire over price and relativestandards for years. Guess what will be happening as companies areslashing IT and hardware cap-ex plans for the future? Servers keepgetting more and more powerful and this means that many companies cango to IBM, Dell, H-P, and elsewhere for less. Many argue thatvirtualization may even take out much of the high-end server businessahead regardless of where the economy is in two to four years. Does itmatter that Sun has its own virtualization initiatives?
Does anyone make money off of Java? The answer is yes, but not at therate of what was hoped for. It essentially costs nothing to use andlicense. MySQL database management is widely used, but again thereare questions on which database management system should be used andwhich is the best for organizations.
And what about Solaris as an O/S? We doubt with any real seriousnessthat companies will go entirely to a standardized platform under atotal or complete product line in the technology. That would be alarge business risk even if it would streamline IT costs. It is stilla risk.
We laid out similar complaints and then some in May, which have only gotten worse. The layoffs had been ongoing, but the pink coal being given out toemployees last month for 5,000 to 6,000 workers seems to have morale ata low. The company unfortunately needs its ranks trimmed further. But thecost here of $500 million to $600 million could put the total cost per employeebeing sent home up to about $100,000. This isextremely high, even if the company believes that it can take out $700 millionto $800 million ultimately in operating costs.
A key fundamental issue here we have been alluding to is that Sun has a major identity crisis. We havetalked with many investors and many technology professionals. No onereally knows where Sun’s core is. It has an identity crisis to theinvestment community, even if management would disagree.
The company has already endured a reverse stock split on a 1-for-4basis over a year ago. It also threw in a stock ticker change "tobetter align the vision" from "SUNW" to "JAVA." Ask anyone if this hashelped. A year ago this was a $20.00 stock. Shares sit north of $3.00today.
To make matters worse, analysts are looking for a non-GAAP loss of-$0.39 for the fiscal June-2009 year and even the following year it isstill only expected to earn $0.12. Both of these numbers are beforethose huge restructuring and layoff charges. Revenue was flat thislast year and are expected to drop for fiscal 2009 and for fiscal 2010.That means that the cash burn rates are going to continue and it wouldseem that this is a deteriorating situation regardless.
So what are Sun’s options? CFO Michael Lehman was long-considered acontender for the top spot at Sun. He could be tapped on an interimbasis, but Sun needs an outside visionary that can craft the "real" newdirection of the company. Scott McNealy could always step back in onan interim basis, but there is a real question mark over whether WallStreet would say that is a good call.
The more we see it, the more and more it looks like anoutsider is needed to step in to work with the remaining workforcetoward a new and unified clear goal. We do not think this CEO can hide behind the excuse of a bad economy. Ponytail or not. So what are the odds? Unless Schwartz pulls out a genie from a bottle, we’d givethe chances of this happening in some form or fashion by mid-2009 to late-2009 as being at least50% that a new CEO is there.
Jon C. Ogg
December 4, 2008