MESSAGE
| DATE | 2003-10-02 |
| FROM | From: "Inker, Evan"
|
| SUBJECT | Subject: [hangout] Merrill to Sun: 'Cut and Focus' or Be Acquired
|
October 2, 2003
Merrill to Sun: 'Cut and Focus' or Be Acquired
By Erin Joyce
A prominent technology analyst for Merrill Lynch is urging Sun Microsystems
(Quote, Chart) to slash as much as 15 percent of its workforce and focus on
being a niche player in mission-critical computing -- or risk joining the
"carcasses" of formerly-great companies DEC and Data General at the bottom
of a tech "ravine."
In an open letter to Sun's chief executive Scott McNealy urging the
company's board to take action, Steven Milunovich wrote that "Sun faces a
crisis. It's necessary to cut expenses to assure profitability and narrow
the product focus to reestablish a clear value proposition."
If the company stays on its current course, the note continued, "we believe
Sun is likely to suffer further share and financial losses, become
irrelevant to most users, and eventually be acquired for its installed
base."
The research note comes on the heels of a warning by Sun on Monday that it
would have to report an even bigger loss -- between 7 and 10 cents per share
-- than it expected in the most recent quarter. Analysts were expecting a
loss of about 2 cents per share. The news drove down Sun's price the next
day by as much as 15 percent.
Following the Merrill Lynch research note Thursday, which contained the open
letter to the company, Sun's shares were off by as much as 3 percent to
$3.16 during the midday trading session.
Despite a concerted effort to expand its support for Linux across more of
its product lines, the systems vendor still finds itself on the defensive
about its support for Linux in relation to its high-end Solaris operating
system, while trying to withstand intensifying competition from IBM and HP
and a tech recession that has wrought two years of declining revenues at
Sun.
The Merrill Lynch note urged the Santa Clara, Calif., company to drop some
product lines and cut its costs by reducing headcount between 5,000 and
7,000. It also urged Sun to "focus on creating mission-critical computing
systems where it can add value through innovation.
"That includes operating systems (Solaris, Orion), system architecture
(blades), systems management (N1), and services," it said.
"Solaris is critical to why users like Sun. Being late to Linux is
unforgivable both because Linux is a kissing cousin to Unix and because
Linux is a disruptive threat to Microsoft.
Sun needs to convince users that Linux is a subset of Solaris and push two
messages: (1) if you're doing Linux, go to the Unix expert, and (2) use
Linux on the edge, but when you need mission-critical capability it's time
to graduate to Solaris. Linux is not associated with Sun, so at this point
the best Sun can do is make clear it aggressively supports Linux."
Michael Hakkert, director of communications for Sun, said while the company
is in a quiet period ahead of its next earnings release, Sun "welcomes Steve
[Milunovich] to visit the company, meet with executives" and hear more about
how it is "driving back to profitability."
Namely, Hakkert pointed to Sun's fiscal 2003 results, which showed that Sun
improved its margins by close to 5 percent on servers, and 1.9 percent in
services, while cutting $477 million from its administrative and overhead
costs during the year.
The note also said it was "tempted to advise giving up on middleware, but
the sedimentation trend of middleware moving into the OS [operating system]
and the disruptive pricing of Orion (Java Development System) may be a hand
worth playing though the selling model is unclear. Sun has made strides in
improving its maintenance contract attach rates but may need to invest more
in consulting/systems integration (though we don't see a major
acquisition)."
It also urged the company to de-emphasize its SPARC processor system and
save the roughly $200 million to $300 million that Sun spends on research
and development for the processor systems.
"At the same time, Sun can't just dump SPARC outright given the size of the
installed base and importance of migration paths," Milunovich wrote.
"Customers must be assured that there will be multiple generations of SPARC
to support their needs, especially high-end customers, much as HP has had to
do with PA-RISC. The pure Solaris/SPARC story would be gone, but it already
is."
The note was also hard-hitting about Sun's Java strategy, urging the company
to spin off its Java division, asserting that "Java has been a technology
success, a so-so branding effort, and a financial failure."
The note apparently kept its powder dry for perhaps the hardest-hitting
suggestions to "bring in a COO" and to "Give Scott a makeover," referring to
McNealy, also one of the company's founders.
"Scott's brash and contrarian personality have been synonymous with the
company's image and success. Unfortunately, the act is getting old,"
Milunovich wrote. "Sun does need to make contrarian bets but must do so in
ways palatable to conservative CIOs. Sending a clear message with a more
pragmatic tone could help. More (some) respect for the competition and for
different viewpoints is needed. In addition, Scott should not be the only
face of Sun (we consider the brilliant Jonathan Schwartz cut from the same
cloth), which is why a strong COO could balance yin with yang."
The note urged Sun to "return to its roots while looking to the future." Sun
is an innovator, it continued, "but even IBM became selective about its R&D
efforts when the red ink flowed." [Sun's]Solaris, Linux, Orion, Mad Hatter,
N1, SPARC, x86, storage, Java-'The Network is the Computer' tent is bursting
at the seams," he wrote of some of Sun's main product and services lines.
Hakkert declined comment on the suggestions, but stressed that "Sun is
focused on executing on its strategies," with a strong management team in
place and a pipeline filled with new products and aggressive pricing models
for both high-end and lower-priced Intel-based server systems. In addition,
Sun has reduced corporate spending, paid down $200 million in debt and ended
the year with $5.7 billion in cash and securities, while working its way
back to profitability.
But Milunovich wrote that a large installed base of customers and strong
balance sheet will only act as brakes on a slippery slope to the bottom of
[a] ravine filled with carcasses such as DEC, Data General, Compaq, and
others."
"We have an open invite for Steve to come to talk with us" about the
company's focus, Hakkert added. Sun will release its earnings for its fiscal
first quarter of 2004 on October 16th.
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