Is Sun Ready to Give Up?

One of the granddaddies of Silicon Valley, Sun Microsystems (JAVA) may finally have to give up the good fight - presenting investors with the prospects of a quick profit grab.

Although not quite in the pantheon of Intel (INTC), Apple (AAPL) and Seagate (STX), Sun has been braving its own path in technology since its founding in 1982. The paradox is that a company which professed a radical departure in business computing has itself been too slow to adapt to rapid change, and now finds itself as takeover prey.

With assets far exceeding its current valuation, investors stand to make modest gains if the company decides to break itself up, or if it finally succumbs to the takeover rumors circulating for years.

The alarm sounded louder than ever when the company reported Q1 2008 earnings. A $1.68 billion loss was attributed to a slowdown in technology, but for us Sun followers it's more of a classic case of arrogance and ineptitude.

For those of you unfamiliar with Sun, the company started out making proprietary computer server systems - meaning that you had to buy the whole kit-and-kaboodle versus giving customers the opportunity to mix-and-match products in a so-called open platform.

Sun was a super-star of the dot-com era. It supplied the underpinnings for the thousands of new companies pioneering the Internet. Its reputation for reliable systems and technical innovation trumped the premium prices it had charged.

But Sun ignored two irreversible trends that would bring the company to its knees: cheaper hardware and open-source software.

Facing immense pressure from companies that ultimately adopted open platforms such as IBM and Hewlett-Packard (HPQ), Sun jumped into the fray. But in the end, it couldn't compete against these true heavyweights.

The company's corporate culture certainly didn't help. Former CEO Scott McNealy (who remains as chairman) had been a media darling during the tech bubble for his anti-Bill Gates quips. But now we know who got the last laugh.

In the meantime, current CEO, Jonathan Schwartz, hasn't been able to turn around Sun during his nearly three years in the corner office. It may be that his experience is insufficient to tackle such a thorny problem, with his background rooted in start-ups and Sun's management ranks. (Hint: maybe it's not such a good idea to bring in a CEO with a ponytail unless he has a tough track record to back up his affectation.)

For the quarter ended Sept. 28, Sun's net loss of $1.68 billion amounted to a loss of $2.24 cents a share, compared with net income of $89 million, or 10 cents a share, during the same period the year before. Revenue declined 7.1% to $2.99 billion from $3.22 billion a year earlier.

In addition to products and marketing, a couple of Sun's core markets are telecommunications and financial - both of which are suffering mightily these days.

Last November, Sun tried to polish its image through a one-for-four reverse stock split. As it stands, Sun shares have dropped to pre-split prices.

Sun's shares currently trade at $5 and change, giving it a market value of about $4 billion. At the same time, the company's annual sales came in at approximately $14 billion. Combined with the company's intellectual property portfolio valued at about $2 billion, its lackluster acquisition of StorageTek and a roster of blue-chip customers, Sun is ripe for the pickin'.

Comments

[Richard Col...:]

Sun had a reverse stock split as you mentioned. Now they want to add more shares and more incentive plans. Why would anybody buy this company?

2008 Nov 03 10:24 AM

[A Close Obs...:]

Joe Investor - There's nothing factually incorrect about the comments of Sun's Q1 results. Yes, the loss was largely due to the goodwill write-down, but those are the GAAP standards. That said, the loss was not due solely to the goodwill write-down. Sun reported a loss of $1.68 billion. The goodwill write-down was only $1.45 billion.

You're missing the forest for the trees. Sun is a horribly managed company. The financial results bear that out. Even the goodwill write-down is a manifestation of Schwartz's poor management. The write-down was required due to the impaired value of the goodwill carried on the books from the STK acquisition. Why was this value impaired? Because Schwartz bought the company for $4B ($3B of precious CASH) and he is now managing the business to YoY sales declines. It's one thing to buy a no-revenue startup and manage it into the dirt, but STK was a high-value ($4B) well-established business with YoY (albeit modest) increases in sales. Jonathon is now managing that into the dirt, too.

Jonathon Schwartz is an investor's worst nightmare.

2008 Nov 03 11:02 AM

[BeachRider:]

The article is misnamed. "Perhaps it is time for Sun to Sell" would be a better choice ;)

The factual info looks good, no one has contested that. The financial downturn at Sun is substantially worse than anyone expected, even given the biig loss-in-value for tech stocks this year. The management of Sun just did a much poorer job than the HP, IBM, Dell, etc. management groups did.

Sun will have to be broken up, if it sells, though. The integrated buyers all have trouble with the business-relationships that come along with a purchase (Dell doesn't want to PO EMC by buying STK; etc.)

2008 Nov 03 11:45 AM

[RLLH:]

So "Sun ignored two irreversible trends that would bring the company to its knees: cheaper hardware and open-source software." Now what well known PC Maker (plus smart phones and music players of course) followed a similar course? Could it be more of a case of poor execution in fighting the trends?

2008 Nov 03 12:07 PM

[A Close Obs...:]

Actually, I'm neither a STK, nor a former, employee. I'm a current employee. And like every other employee with whom I work, I'm tired of Jonathon running Sun into the ditch. This company has good opportunity, just not with Jonathan at the helm.

McNealy may have been exiting as the CEO that purchased STK, but Jonathan was the COO. And he has been the CEO that has managed the acquisition integration and the ongoing lack of results.

Blaming Sun's problems on the financial industry meltdown is too simplistic - and incorrect. There's no question the recent financial markets issues have exacerbated Sun's problems. However, Sun has lost market share EACH AND EVERY quarter of the three years of Jonathan's leadership. The issues of the last one quarter have nothing to do with his performance over the last eleven quarters.

Mark Hurd and Lou Gerstner both turned around their considerably larger and more complex ships in less time than Jonathan has been able to show results at Sun.

2008 Nov 03 12:49 PM

[BeachRider:]

290728, in the interest of full disclosure. I am a customer of Sun and StorageTek services. I am not an investor or past employee. Can you assist us with similar profile info for you?

Thanks.

2008 Nov 03 12:49 PM

[SunSlave:]

Today's shareholder meeting didn't offer any sense of comfort for investors or employees. Schwartz and Co are still singing the same old happy song.

When will we see some changes?

2008 Nov 05 05:56 PM

[Stu Pidasso:]

How about.. 'JAVA shows its belly'...or 'No corn in the JAVA turd'...or ' Pony continues to rob JAVA ' or......

This company is rolling over, belly up and sinking fast with a criminal at the helm.

The board should be sued for negligence.

2008 Nov 06 04:55 PM