Novell F4Q08 (Qtr End 10/31/08) Earnings Call Transcript

Dec. 5.08 | About: Novell, Inc. (NOVL)

Novell, Inc. (NASDAQ:NOVL)

F4Q08 Earnings Call

December 4, 2008 5:00 pm ET

Executives

Susan Walker White - Director, Investor Relations

Dana C. Russell - Chief Financial Officer, Senior Vice President

Ronald W. Hovsepian - President, Chief Executive Officer, Director

Analysts

Abhey Lamba - UBS

Katherine Egbert - Jefferies & Company

Brendan Trent - Piper Jaffray

Kirk Materne - Banc of America

Brian Denyeau - Oppenheimer & Company

James Gilman - Cross Research

Susan Walker White

Good afternoon, everyone, and thanks for joining us. I am Susan White, Director of Investor Relations for Novell, and with me today from our executive offices in Waltham, Massachusetts are Ron Hovsepian, President and Chief Executive Officer; and Dana Russell, our Chief Financial Officer.

We are here this afternoon to discuss Novell's financial results for the fourth fiscal quarter and full fiscal year of 2008. If you don’t yet have our press release, you can access it by visiting our investor relations webpage at www.novell.com. This call is also being broadcast on our website and will be available on our website for 12 months and and for telephone playback through December 19, 2008. The domestic toll-free replay number is 800-642-1687, and the international replay number is 1-706-645-9291. Replay listeners must enter conference ID number 71160968.

Before I turn the call over to Dana, I would like to take a moment to say that we will be providing non-GAAP financial measures today during today’s call. We believe that these measures enhance an overall understanding of our current financial performance and prospects for the future and enable investors to evaluate our performance in the same way that management does. We’ve included reconciliations of these non-GAAP measures to their most directly comparable GAAP measures in our earnings release. As I mentioned, a copy of that release is on our website.

Finally, please note that during today’s call, we may make forward-looking statements. You should be aware that our actual results could differ materially from those contained in the forward-looking statements, which are based on current management expectations and are subject to a number of risks and uncertainties, including but not limited to factors described in our annual report on Form 10-K filed with the Securities and Exchange Commission on December 21, 2007, and in the press release we issued earlier today.

Any forward-looking information that we provide in this call represents our outlook as of today, December 4, 2008, and we do not undertake any obligation to update our forward-looking statements except as required by the securities laws.

With that, we are ready for our CFO, Dana Russell.

Dana C. Russell

Good afternoon, everyone. Novell's fourth fiscal quarter and 2008 annual results were released a short time ago. The company reported net revenues of $245 million during the quarter and $957 million for the year. For the quarter, loss from operations was $6 million; for the year, income from operations was $5 million. Non-GAAP income from operations was $32 million for the quarter and $97 million for the year. Non-GAAP net income was $20 million or $0.06 per share for the quarter and $93 million or $0.27 per share for the year. For the quarter, foreign currency exchange rates did not materially impact revenue and positively impacted operating expenses and operating loss by $1 million on a year-over-year basis.

For the year, FX positively impacted revenue by $22 million but negatively impacted operating expenses by $22 million. The net impact on operating income was neutral for the year.

Over the past two years, we’ve made some major changes to our business model. On the top line, the revenue mix has changed with a higher percentage comprised of product revenue that is more profitable. We achieved this by realigning our service business to focus on product revenue and the impact on revenue mix has been meaningful. Higher margin product revenue was 84% of total revenue in fiscal 2008, up from 79% last year.

Operating margins have also improved significantly due to the revenue mix change and improved cost efficiencies. For the year, Novell achieved 10% non-GAAP operating margins. Novell has not achieved double-digit margins in over eight years.

Now I will highlight some of our quarterly results by business unit. You can see the results on the revenue schedule on page 11 of our press release.

Within open platform solutions, Linux platform products revenue in the fourth quarter was $33 million, increasing 33% from the year-ago quarter. For the year, Linux platform products revenue was $120 million, up 38%, well above market growth rates. In the fourth quarter, Linux invoicing was $46 million, up 2%.

As mentioned last quarter, our Linux business continues to be dependent on large deals which may result in some fluctuations of quarterly invoicing levels, and while annual invoicing of $173 million was down 16% year over year, this was expected due to the tremendous initial start we enjoyed from our relationship with Microsoft when we invoiced a record $92 million in Q1 of ’07.

The impact of the Microsoft agreement has been a significant factor for the growth of product revenue, the increase in gross and operating margin for Novell. We will continue to benefit from this agreement in fiscal 2009. Largely all Microsoft certificate sales have been three-year arrangements, which will begin to be renewable in the first fiscal quarter of 2010.

The ongoing financial benefit to the company will be dependent on the deployment of these certificates, as well as the pricing in place at the time of the renewal. We will use pricing as a strategic tool to expand market share.

Within our identity and security management business unit, identity and access management had a good quarter. Revenue was $35 million in the fourth quarter, up 11% and invoicing increased 35%, significantly above market growth rates. The strength in invoicing was not associated with the particular deal but spread across multiple customers and countries.

For the year, identity and access management revenue was $124 million, up 15% compared to a year ago, while invoicing was up 25% year over year.

System and resource management revenue in the quarter was $45 million, up 15% from the year-ago quarter and invoicing was up 9%. For the year, revenue was $170 million, up 15% and invoicing was up 19%.

Last month we closed our acquisition of Managed Objects, which will be included in our SRM business unit. While we have not disclosed the financials associated with the deal, we don’t expect it to have a material effect on SRM revenue in the near-term, as it will take some time to integrate the acquisition.

For the year, workgroup revenue was $366 million, down 2%, and invoicing was up 1% excluding the impact from Microsoft.

Fourth quarter workgroup revenue was $92 million. Revenue and invoicing declined 6% compared to the year-ago quarter. The fourth quarter run-rate indicates some softness in workgroup, which may continue in fiscal 2009.

Within our workgroup category, the combined OES and network related revenue in the quarter was $55 million, down 4% from the year-ago quarter. For the year, OES and network related revenue was $217 million, down 4%. Combined OES and netware invoicing declined 6% in the quarter and was flat for the year.

Services revenues declined significantly this year due to the planned realignment of our services business to focus on product revenue. During the quarter, services revenue declined 26% to $35 million. While annual services revenue of $154 million declined 20% during the year, product revenue increased 8%. This change in revenue mix resulted in gross margin improvement of over three points. In fiscal 2009, aside from the macroeconomic uncertainty, we expect services revenue to be similar to the fourth quarter run-rate.

Now on to expenses -- for the quarter and the year, non-GAAP cost of sales and operating expenses were down compared to a year ago. Some cost savings, particularly sales and marketing, have been offset by additional expense from our Plate Spin and Site Scape acquisitions. The change of our revenue mix has benefited our gross margin, which is up significantly compared to a year ago.

We incurred $17 million of restructuring in the fourth quarter and total restructuring charges for the year were $29 million, higher than our estimated range of $15 million to $25 million. We are still evaluating what additional charges we may incur in fiscal 2009.

Total headcount at the end of the quarter was approximately 4,000, down from 4,100 last quarter, primarily due to restructuring activities.

Now turning to our balance sheet and cash flow, cash and short-term investments declined to $1.1 billion from $1.9 billion year over year, mostly due to the acquisitions and the repurchase of a portion of our debentures and shares outstanding. The current financial situation created an opportunity to buy back debentures at a meaningful discount. During the quarter, we used $314 million of cash to repurchase a portion of our debentures. We also used $22 million of cash to repurchase shares during the quarter.

It’s important to understand the location and constraints on our cash balance. First, approximately $400 million of our cash and short-term investments is in foreign jurisdictions, which would largely be subject to punitive taxation if repatriated. Second, our convertible debenture balance is $126 million, which we expect to settle on or before July 2009. As a result, our readily accessible net cash and short-term investment balance is about $540 million.

With the volatility of the financial and credit markets over the past several quarters, we will take a conservative view with respect to our cash strategy. Our sizable cash balance is an important asset as it provides flexibility to pursue acquisitions, which is our first priority, as well as continue our debenture repurchase program. We currently plan to continue only a maintenance program for share repurchases, so the number of shares outstanding does not increase due to stock-based compensation.

Cash flow from operations for the quarter was $67 million, down from $77 million a year ago. For the year, cash flow from operations was $53 million compared to $423 million a year ago. The fiscal 2007 figure is significantly higher due to the $348 million payment received from Microsoft.

Now I will turn the call over to Ron for an update on our business units as well as a progress report on our strategic initiatives and milestones.

Ronald W. Hovsepian

Thanks, Dana. Two years ago I outlined a strategy to achieve long-term sustainable profitability. To accomplish this, we sharpened our focus as an infrastructure software company in the Linux identity and systems management markets. We organized the company into four business units in order to improve market focus and management discipline, and we executed four initiatives to redesign our business.

It was hard work but we have been successful. Our Linux identity and systems management businesses are exhibiting good growth rates and workgroup has shown signs of stabilization. In addition, our full-year operating margin has doubled to 10% from 5% over the past two years.

While we are pleased with our annual and fourth quarter results, we are cautious about our outlook for 2009. IT market growth rates are expected to slow. Sales cycles are likely to extend and budgets for select IT investments may be reduced or delayed. But this uncertainty creates opportunities for us -- for example, as customers seek to leverage and extend their IT investments, we believe our open and interoperable Linux and data center management solutions address our customers’ needs for reducing operating and technology costs within the data center.

Additionally, the recent financial turmoil demands stricter requirements for regulation and audit, creating opportunities for our integrated compliance platform. So while we expect 2009 to be a challenging year, we have the right assets, an impressive install base, an excellent product portfolio, great partnerships, and a strong balance sheet to stay focused on the customer agenda.

Now let me update you on our business units -- beginning with open platform solutions, the goal for our Linux business is to acquire a large number of new customers to whom we can sell our complementary cross-platform management solutions, such as identity, security, and systems management. We have been very competitive in the Linux marketplace through compelling products and support, aggressive pricing, and key partnerships with companies like Microsoft and SAP.

According to IDC, all of these efforts translated into a three-point market share gain for our Linux business last year.

2008 was another strong year, building on the momentum created in 2007. We added over 3,000 new customers, many of which are larger enterprises who tend to be price sensitive. In fiscal 2009, we will continue our strategy to gain new customers through aggressive pricing and our channels.

Customer reaction to our Microsoft partnership and commitment to interoperability continues to be positive. To date, we have invoiced $195 million, or 81% of our original $240 million agreement. Earlier this year, we announced that Microsoft agreed to purchase up to $100 million of SUSE Linux enterprise serve certificates. Last month, Microsoft purchased the first $25 million tranche of these new certificates.

In line with our strategy to acquire new customers, we also expanded our relationship with SAP, in which SAP selected SUSE Linux enterprise server as the only Linux distribution to run SAP’s all-in-one solution, which is targeted for small and medium-sized companies. This announcement was a big win for Novell, our customers and partners.

SUSE Linux enterprise also achieved an important milestone. It has more than 2,500 independent software vendor certifications for the latest two versions of SUSE. We believe this is the most certifications for any Linux current -- current Linux distribution. Our efforts to increase ISV certifications have paid off and we plan to continue to make strides in 2009.

Turning to the desktop market, Novell is the only Linux provider to have a complete enterprise desktop-to-data center offering, and while the Linux desktop market is still in its infancy, in 2008 we made significant progress by signing deals with the major hardware manufacturers -- Dell, Lenovo, HP, Wise, and Micro Star International -- to offer PCs, laptops, and most recently netbooks preloaded with SUSE Linux enterprise desktop. While our desktop revenue is still modest, we are encouraged by these new distribution opportunities.

On to our identity and security management, in fiscal 2008 identity had a good year due to strong sales execution. Also contributing to our performance was the progress we made expanding our partner network with regional systems integrators as well as large consulting and systems integrators, such as ATOS Origin, Deloitte, and [WidPro].

Our 2009 pipeline is strong and I believe customers will continue to need identity and security solutions, regardless of the economic situation. In addition, we are poised to benefit from the changes in the identity and security management market. While the market is fragmented today, with the largest competitor having just 13% market share, the market is maturing. We plan to take advantage of this consolidation through our integrated toolset offering, which we believe will best meet customers’ ongoing governance, risk management, and compliance requirements.

With respect to our systems and resource management business unit, our strategy is to provide a complete desktop-to-data center management offering, mirroring our Linux strategy and supporting our interoperability strategy with Windows and other platforms.

In 2008, we invested heavily in the data center market, with two key acquisitions -- in March, we acquired Plate Spin, which provides cross-platform virtualization, workload lifecycle management offerings. And last month we acquired managed objects, which strengthens our data center solutions and information technology infrastructure library, or ITIL, capabilities.

Managed objects provides the industry’s leading business services management solution, or BSM, that allows IT organizations to create a unified view of how IT resources across all vendors are used to meet business requirements and deliver application to end users.

We plan to utilize their technology and business services driven approach to enhance our workload management solutions. We are very excited about the capabilities these new assets bring and similar to the integration we accomplished in our identity business over the last two years, we are building an integrated, cross-platform data center solution which we believe customers will want. However, we will take some time to integrate these acquisitions into our portfolio and fully realize their potential.

Next, workgroup -- workgroup had better than expected results this year. We entered the year expecting double-digit revenue declines while actual fiscal 2008 revenue only declined 2%. We attributed this improved performance to our bundled offering, Novell open workgroup suite, continued performance from Group Wise, and focused efforts from our tele-sales team.

Going forward, it’s difficult to predict if these trends will continue. We saw some softness in the fourth quarter with a 6% revenue decline, which may extend into 2009, so we will continue to be cautious and monitor these trends closely.

Turning to our strategic initiatives, in fiscal 2008 we had four initiatives focused around sales model, R&D processes, back office optimization, and services business realignment. Here’s an update on each one.

Initiative one, sales model -- during the year, we continued to shift from a direct to an indirect coverage model and enhancing our capabilities we need to grow our customer base. First, our new tele-team was launched to take over our renewal activity from our direct sales force. I am pleased with the progress tele has made in just one year. This team was able to maintain renewal rates and now renewals happen in a more focused, consistent, and cost-efficient manner. In fiscal 2009, the tele-sales organization will have expanded responsibilities, which now include cross-selling and up-selling.

Second, we expanded our partner relationships with companies such as SAP, Microsoft, ATOS Origin, and hundreds of solution providers, CSIs, and ISVs. In 2008, we added over 1,800 new partners, a 23% increase, which should translate into meaningful shift in partner driven revenue in fiscal 2009, as we work to enable these partners.

Overall, these changes to the sales model are paying off. We gained 6,600 new customers and we grew product revenue 8% in fiscal 2008.

Initiative two -- R&D processes. Our initiative was to mature our integrated product development model. While this model is still evolving, we are starting to see a more efficient -- I’m sorry, a more effective process yielding higher quality products at lower cost. In fiscal 2008, our product development expense margin declined 170 basis points year over year, including the impact of our dilutive acquisition, Plate Spin.

Initiative three -- back office. We have substantially completed our transition of the finance and HR back office functions to a shared services model. This has resulted in a more efficient back-office and our annual G&A expense margin declined 80 basis points in fiscal 2008.

Initiative four -- services. During the year, we transformed our services business, resulting in more focus on product growth and additional services for our partners. In fiscal 2008, services revenue declined 20%, which is more than expected but product revenue increased 8% and we grew gross margins by more than three points. We will continue to monitor services revenue and adjust our costs accordingly.

With the successful execution of our strategic initiatives, our transformation is substantially complete. We have made great progress to be more efficient, focused, and competitive, and established a strong foundation for future success.

In order to track our progress on our initiatives, we have established five milestones for fiscal 2008. I am pleased that we achieved and in some cases over-achieved all milestones. Here’s an update on each one.

Number one -- achieve revenue of $940 million to $970 million. We achieved this milestone with total revenue of $957 million.

Two -- grow product revenue at or better than market growth rates for Linux, identity and access management, and systems management. Linux revenue grew 38%, much faster than the 22% market growth rate. Identity revenue was up 15%, exceeding the market growth rates of 11% to 13%, and SRM, including the impact of Plate Spin, grew 15%, above market growth rates of 6% to 8%. Excluding the impact of Plate Spin, SRM revenue increased 5% during the year.

Three -- achieve workgroup product revenue of at least $285 million to $300 million. We overachieved this milestone with workgroup revenue of $366 million.

Four -- expand relationships with one to two more global strategic partners. We achieved this milestone through expanded relationships with Microsoft, SAP, and HP.

Five -- achieve non-GAAP operating income margin of 8% to 10%. We achieved our upwardly revised milestone with non-GAAP operating margin of 10% in fiscal 2008.

In closing, we have made great progress over the two-year transformation. The company is stabilized and is much stronger than it was two years ago, and while the current global economic situation presents us with a challenging environment, I believe our value proposition positions us well to grow at or above market growth rates.

Over 60% of our revenue is recurring from our maintenance and subscription revenue streams. Our balance sheet is strong with over $1 billion of cash. Our partnerships are expanding and we have excellent products in broad and growing markets.

As many of you know, our style has been to share with you in a responsible and transparent manner our strategic outlook and progress during these calls, to tell you what we are going to do and then do it. Going forward, we believe the current economic environment does not provide the kind of visibility and predictability that lends itself to a responsible and detailed comments on our outlook. As a result, we are sharing with you what we can now and we will continue to reevaluate the content and scope of our outlook over the coming months. When we have better visibility, we will share this with you. In the meantime, we will remain focused on securing our progress and on the execution required to achieve long-term sustainable profitability. I’ll turn the call over to Dana for our outlook for the year.

Dana C. Russell

Thanks, Ron. At this point, we feel good about the first --

[Technical Difficulties]

-- seasonal fluctuations similar to historical trends. We are not providing annual expense guidance because if there are unexpected changes in revenue, we expect to adjust our cost structure accordingly. While we are not providing formal cash flow guidance, I wanted to highlight how the Microsoft agreement will impact cash flow from operations in fiscal 2009.

First the original Microsoft certificate revenue does not generate operating cash flow because we received all the cash up-front. As a result, revenue recognized from the Microsoft agreement does not generate any additional cash flow. Second, we received a $25 million payment from Microsoft for the first tranche of our extended agreement. Q109 cash flow will reflect this.

We are committed to being profitable and improving our margins and we believe we can continue to show improvement. However, in terms of non-GAAP operating margin guidance, we have higher expectations but are setting 10% as a floor, given the market uncertainty. We have worked hard to achieve double-digit operating margin in 2008 and we don’t want to slide backwards.

In terms of guidance for other items, we estimate stock-based compensation expenses to be in line with fiscal 2008 levels. Interest income, we expect interest rates to be about 1%, and non-GAAP effective tax rate to be 32% to 37%.

Now I will open the call for questions.

Ronald W. Hovsepian

Dana, your mic wasn’t on for the first two paragraphs, so it might be worth re-reading that for the callers here -- for the record.

Dana C. Russell

Okay. Let me start over and you guys can stop me when you feel like we’ve covered the --

Ronald W. Hovsepian

First two paragraphs -- I think we got there in time for the rest of it so just the first two paragraphs.

Dana C. Russell

Do I need to start out with the “Thanks, Ron” or can I start out with --

Ronald W. Hovsepian

Nah, I think you should skip that. I’d appreciate it, but --

Dana C. Russell

At this point, we feel good about the first quarter so from our current insight into the quarter looks good but we are uncertain about the overall economy and its impact on the next fiscal year. We don’t have confidence that we can provide accurate revenue or operating guidance for fiscal 2009. I will say consensus revenue estimates of $1 billion for fiscal 2009 don’t seem to have been adjusted for FX. While we experienced meaningful FX tailwinds in fiscal 2008, we expect to see FX headwinds of approximately $40 million in fiscal 2009, assuming current exchange rates hold.

While it’s challenging to provide revenue guidance, we expect the cost structure to be lower than Q408 levels due to the positive effect of FX and 2008 restructuring activities, which more than offset the acquisition of managed objects.

Specifically in Q109, if exchange rates remain constant, we expect cost of sales to be $1 million to $2 million lower and operating expenses to be $4 million to $8 million lower, resulting in a total reduction of $5 million to $10 million compared to Q408 levels. I expect our annual expense structure will have seasonal fluctuations similar to historical trends. We are not providing annual expense guidance because if there are unexpected changes in revenue, we expect to adjust our cost structure accordingly.

So with that, I will open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Abhey Lamba of UBS.

Abhey Lamba - UBS

Dana, can you talk a little bit about where did you end up with the exit rate margin for fiscal ’08? Did you hit your 12% to 15% target? And as we think about fiscal ’09, what are the various factors that could impact the ’09 margin expansion level? Is it just the revenue level or are there any other factors we should be thinking of?

Dana C. Russell

Let me make sure I got both parts of the question there -- so in terms of exit rate, I think you can look at the fourth quarter and it’s a fairly good representation of the way that we are entering fiscal 2009, so with operating income on a non-GAAP basis of approximately 13%, and so we feel pretty good about the way that we’ve been able to streamline our expense structure, as well as hold revenues.

I think if you are looking forward here and saying what additional synergies or efficiencies have we created, I think in the guidance that I gave we talked about where we are entering the year from what was reported in Q4, so if you look on the face of the financials there at the operating expenses as well as the cost of sales, we will be below those numbers and we can give you more specific guidance on that but I think what we said was the $5 million to $10 million is our guidance in terms of the entry rate into Q1.

I think in terms of additional things that we are planning on, we don’t -- I think we are just evaluating at this point any additional restructures or activities that may take place in 2009 and those would be largely dependent on the overall economic condition and its impact to our revenues, if any.

Abhey Lamba - UBS

Thanks, Dana and Ron, if you could quickly talk about the impact of the economy on different business segments, how it impacts different business segments differently.

Ronald W. Hovsepian

I’m happy to do that. As we look at the market right now and we are looking hard obviously at Q1, what we see is in the Linux market, we are hopeful that that will generate more interest by the customers as we look at where they could spend their dollars. If overall IDC is projecting one to two points of general IT spend growth for next year, then what we have to figure out is okay, as they rebalance that spending, where can we get it? We feel good that Linux should be a winner on that. We are not sure if the -- when that will happen, meaning just timing of that but I actually feel good overall that Linux will be a key player for that as that market unfolds.

In the systems and resource management market, I actually feel very good about the data center investments that we have because as you know, they focus right in on virtualization, shrinking some of that cost, better leveraging all that IT resources there. So I feel decent about that.

And then on the identity business, we think compliance is going to hang in there for customers and businesses, so we like it. We think it’s going to come under more pricing pressure obviously and the customers will elongate the buying cycles, those sort of things. But as a market segment, we feel good about that and we want to be aggressive there about getting customers and being focused on that piece. So I really like that piece -- I like that piece of it.

And then finally in our collaboration space in the workgroup market space for us, obviously there’s a high switching cost for those customers and the market downturn, we think that should indicate, lead well for us there because our products are current. Our latest release of Group Wise 8 and OES 2 have a whole new set of features that the customers can take advantage of. So we are hopeful in that particular space, so whether by serendipity of our strategy or not, we actually feel decent about the markets that we are in and that we are serving that they are going to survive well in the market. Now what we have to do is execute in those markets appropriately.

Abhey Lamba - UBS

Okay. Thanks, guys.

Operator

Thank you. Your next question comes from Katherine Egbert of Jefferies.

Katherine Egbert - Jefferies & Company

Dana, I still didn’t fully get the guidance -- can you just go through what you said? You said cost of goods sold, $1 million to $2 million lower, and then what did you say after that?

Dana C. Russell

I just want to know whether you heard it the first time or --

Katherine Egbert - Jefferies & Company

I didn’t hear -- no one heard it the first time. I heard some of it the second time.

Dana C. Russell

Yeah, sorry about that. So Katherine, what was your question again? What specifically --

Katherine Egbert - Jefferies & Company

Can you just go through quickly just what you said in the guidance, just go through it again?

Dana C. Russell

Yeah, if you were to look at the face of the financials, Katherine, where we show the P&L there, and you look at the cost of sales and operating expenses and you take those items, what we are trying to do is give you some guidance from the fourth quarter as we enter into the first fiscal quarter here. And what we are saying is from the items listed there, we are expecting to see some improvement from fourth quarter to first quarter. In cost of sales, we are expecting cost of sales to be lower by $1 million to $2 million in the first quarter.

And on the operating expense lines, we expect about a $4 million to $8 million improvement, so total reductions from those fourth quarter expenses is somewhere in the $5 million to $10 million range as we enter the first quarter.

Katherine Egbert - Jefferies & Company

Okay, that’s very helpful. Thank you. And then I know you don’t want to guide to revenue but yet you are still saying you can get to double-digit margins for the year. Can you give us some type of sensitivity around that? Meaning if revenue is up 10%, do you go to 20% margin say? And if revenue is down 10%, does it go to low-single-digits? Just give us some sense of what that 10% contemplates.

Dana C. Russell

Well I think a 10% margin contemplates some impact from the economy and that we would actually have some degradation in the current revenue streams, and that’s about as much color as I can give you around that.

Katherine Egbert - Jefferies & Company

Okay, that’s helpful.

Ronald W. Hovsepian

I think the only other way to look at it is picking up on Dana’s prior comments of where we’ve got the cost structure. If good things were to happen with the revenue, obviously that would continue our positive improvements that we see. What we are trying to do is be responsible and say okay, here’s where we see which was, you know, that degradation as Dana said, in the revenue. We just don’t want to give up the good ground that we’ve taken, so as we’ve talked in the past, there’s only two levers and three approaches -- revenue and expense and you can take revenue -- if you take revenue down, I mean, revenue can grow, expense can go down or you do a little bit of both and all three levers are obviously available to us as we look at the market.

Dana C. Russell

We feel pretty good as far as we can see into the first quarter, Katherine, as I mentioned. But we just don’t have great insight. We are early in the quarter and we don’t have great insight into the rest of the year, so from what we see, we feel okay about things and I think the key point that we are making though is that if things do go against us, if we do see the overall IT environment really decline, that we will impact expenses to maintain operating profits.

Katherine Egbert - Jefferies & Company

Okay, perfect. And then two quick ones -- there’s a 10% margin, are you already including the $40 million foreign exchange headwind? And then your tax rate for the November quarter was substantially lower than what you guided. Can you just address that? Is that sustainable going forward? Thanks.

Dana C. Russell

The FX impact will be neutral in terms of operating income, so we wouldn’t expect it -- you know, it will impact revenue but it will also impact expenses in an offsetting manner.

Ronald W. Hovsepian

Katherine, your question, is that dialed into the guidance that we gave you already?

Katherine Egbert - Jefferies & Company

Yes, yes.

Dana C. Russell

So what we are saying is from a guidance standpoint, it doesn’t really -- it’s not really a factor.

Katherine Egbert - Jefferies & Company

Okay, and then what about the tax rate? It was around 30%, which is a little bit lower than what you guided to.

Dana C. Russell

Yeah, the tax rate going forward here on a non-GAAP basis, we’re looking at 32% to 37%, so I think that’s -- we still have a valuation allowance. It’s still going to be spiky or have a variation from quarter to quarter, which is going to be hard to articulate but I think on an annual basis, it’s going to be somewhere in that range. That’s the best guidance that I can give you.

Katherine Egbert - Jefferies & Company

Thanks so much.

Operator

Your next question comes from Mark Murphy of Piper Jaffray.

Brendan Trent - Piper Jaffray

This is Brendan Trent for Mark Murphy. On the Linux business, can you talk about geographically, are you seeing any geographic stand-out in terms of adoption in different regions for the Linux business?

Ronald W. Hovsepian

Are we seeing any variation in the geographic adoption of Linux and our general answer would be no, I didn’t see anything significant up or down in any of them, in any of the particular market segments that were unique. I think we had a very strong performance in Americas this past quarter but other than that, there was nothing that I would point out that would be a big variable.

Brendan Trent - Piper Jaffray

Okay. Any change to the competition landscape?

Ronald W. Hovsepian

In terms of the competitive landscape, no, in terms of the two big server players, it’s us and Red Hat, as you know, and then I think in terms of the desktop, it’s a different group of characters varying by geography. There’s just different ones by geography but no, I’d say there’s nothing that’s a big change inside of that world at this point.

Brendan Trent - Piper Jaffray

Okay, and the next question is for Dana -- if we were to normalize Microsoft contributions, should we expect the cash flow to be roughly the same, higher or lower for fiscal year ’09?

Dana C. Russell

Well, all things being considered, our expectation that our cash flow would improve. Now in terms of the normalization of Microsoft, I think what we are seeing here is that Microsoft will be a larger contributor in terms of profitability in 2009 than it was in 2008. So it will be more of an impact when you look at the operating profit. So in other words, our expectation without the uncertainty in the economic environment here would have been that operating profit would go up and a portion of that increase would have been as a result of the Microsoft impact. So to give you a bit of an indication about that, I think if you look on the schedules that we have there, the press release schedules, you will see that revenue from Microsoft was approximately $70 million in 2008 and what we would be thinking about in 2009 in terms of what we know, what’s already being invoiced and going to be rolling out in terms of revenue is closer to $90 million. So there’s a $20 million impact to operating income, which will not be generating cash.

Brendan Trent - Piper Jaffray

Okay, and the last question is did you talk about what the revenue contribution is from Managed Object for next year?

Dana C. Russell

We won’t give specific numbers about that. I think that Managed Objects, many of you are familiar with that in terms of the revenue run-rate there and somewhere between $20 million to $30 million over the past number of years with Managed Objects. We believe that we will be less than that, substantially less than that and so -- and I think that’s a result of acquiring them and integrating and doing things that we have to do there, as well as the main focus is the utilization of those technical assets in our total product portfolio. So that’s about as clear as I can be on that.

Brendan Trent - Piper Jaffray

Okay, thank you.

Operator

(Operator Instructions) Your next question comes from the line of Kirk Materne of Banc of America.

Kirk Materne - Banc of America

Ron, you mentioned that the U.S. had a pretty good quarter relative to sort of Linux invoicing -- can you just talk about sort of the dynamics behind that? Obviously we’ve seen server sales slow up across the board. Are you guys taking share, I guess? Do you believe Linux is taking share against other operating platforms? Do you guys think you are taking share against your customers? I’m just trying to get a sense on where you think the growth comes from in that market, given the fact that I would imaging hardware deployments next year on a net-net basis are going to -- you are not going to see a whole lot of growth there, so I’m just trying to get a sense on what’s driving that right now?

Ronald W. Hovsepian

Yeah, a fair question -- we’re digging into all of that. I think the big things that we need to watch, and I don’t have a clean answer for you, Kirk, but what I would look at would be what servers end up getting repurposed inside the customer’s environment, so I think you are going to see a lot of repurposing of the Intel base or X86 based chips inside of their from a chipset of those customers getting repurposed inside of their, which to your point is leading to aiding in some of that decline. So from my perspective, repurposing is going to be one category to look at and then obviously the new servers and where they are landing is the other category to look at. So some of it would be natural growth in the customer and then some of it would be just getting into new customers for us candidly. We are still new into a lot of these environments, as I said earlier in the call.

Kirk Materne - Banc of America

Okay, and maybe just a more broader question for you, Ron -- I know you spend a lot of time with customers. Could you just talk about the level or I guess where you see customers with their budgeting process this year say versus last year? The sense I get from a lot of people is that budgets, given everything that’s going on from a macro standpoint, are being set later in the year and I’m just trying to get a sense on does that make January a more back-end loaded month? Does it just make the calendar year for I guess you all and others just get off to a slower start potentially?

Ronald W. Hovsepian

Fair question -- so the IDC data says one to two points next year in terms of overall IT spend and I know, I think Gardner came out with some but again, low-single-digit. I actually think that’s appropriate and I think it may get adjusted as the year goes on. In terms of the seasonality that you are picking up on, I personally do have that concern that the calendar year for the customer who is on a regular calendar year is going to be lighter spending. I think the customers are going to be reserved in their judgments through Q1 on the calendar so I think for us, where we have that January end and an April end, it’s going to be some stuff that we have to manage through as a business. But I think just your question about where is the customer’s psyche, I do believe that’s really where and how they are going to look at things as they go through the year and they will parse their spending accordingly. And IDC, you know, they may reset their numbers once again as the year goes on.

Again, for us, I feel good that where the markets we are playing in affords us a new opportunity with that pressure that it puts on the CIO around the spending.

Kirk Materne - Banc of America

Perfect. Thanks for the color, Ron.

Operator

Your next question comes from Brian Denyeau of Oppenheimer & Company.

Brian Denyeau - Oppenheimer & Company

So going through each of the businesses, most of them came kind of in line with what I was expecting, except for SRM in the quarter. Did anything particularly odd happen there in the quarter? Were you guys pleased with it or was there some room for improvement?

Dana C. Russell

What were you expecting, Brian?

Brian Denyeau - Oppenheimer & Company

Probably a little more growth in the license front, so I’m wondering if that’s my expectation that was off or did it meet yours?

Ronald W. Hovsepian

Overall in terms of SRM, I for the year, let me put it in a year perspective -- a little less in the quarter -- from my perspective on an annual basis, I was pleased with the Plate Spin progress. I was satisfied but would have liked to have seen much more ground taken on what we call the Zen Works, the ZZM products, Zen Works Configuration Management. That was a market that I had referred to that only grew at 5%. So from my perspective there, we went through a re-architecture of a product and a relaunch of that product and from my point of view, that plus some sales execution hurt us in that particular category, and that’s something that we are very focused on right now.

Brian Denyeau - Oppenheimer & Company

Okay. And then as you talk about fiscal ’09, it sounds like it’s gotten off to a decent start. I mean, as you get in, got through November, starting in December, have you seen any fundamental change, given from what you ended the year at fiscal ’08 at, or is it kind of staying steady with what you have seen through October?

Ronald W. Hovsepian

Is that from a revenue perspective?

Brian Denyeau - Oppenheimer & Company

Or just overall in terms of reaction from customers getting deals done the way you expected them to.

Ronald W. Hovsepian

Definitely customers know that every dollar that gets spent has a much greater price sensitivity with all the vendors out there right now, so from that perspective I think there is natural push that’s going to be there to elongate some of the sales cycles with the customer. So from that perspective, I would say in the quarter we are seeing that the pipeline still has the right dimensions to it, where we were at this point and last year but like most software companies, we do most of our business in the last two weeks of each quarter and I don’t have anything that changes that, so what we call our weekly progression in the pipe that we look at, we are seeing the right indicators at this point in time. But I wouldn’t -- you know, obviously we are apprehensive and we are looking at it closely, given everything that’s going on in the world.

Brian Denyeau - Oppenheimer & Company

Right, and then geographically, last quarter you had kind of pointed to Europe as a place that you are keeping a close eye on. Anything change in terms of what you are focusing on geographically at this point in terms of potential weakness?

Ronald W. Hovsepian

No, no -- it’s -- we just need more sales execution across the board as we go into 2009 and I think that from my point of view is what I want us to get to, as we -- as I said, we significantly or substantially did most of the transformational work and what we were planning on prior to the excitement in the economy was really to get the company focused on its growth trajectory and those are still our long-term intentions, so we have to just manage this thing very tightly in my opinion, as Dana and I have projected to you all. We understand where we want to go. We still want to get there and we are just going to manage it very tightly month-by-month, quarter-by-quarter, to make sure that we get ourselves there both at the -- first and foremost at the bottom line, as Dana had said, and hopefully over time in the top line.

Brian Denyeau - Oppenheimer & Company

Great, and then just a final question -- you know, clearly you -- acquisitions remain your top priority for your cash. Have you seen the pricing environment for acquisitions change yet or are people still clinging to unreasonable valuations?

Dana C. Russell

I think as we look out there, certainly the expectations have been reset a bit but I do believe that people are still clinging to thoughts of more lofty expectations and I think that’s -- but I think that’s changing.

Ronald W. Hovsepian

I think in this time of year, I think we could say there still are some visions of sugar plums.

Brian Denyeau - Oppenheimer & Company

Great. Thanks, guys.

Operator

Your next question comes from the line of James Gilman of Cross Research.

James Gilman - Cross Research

Good afternoon, gentlemen, Ron and Dana -- congratulations on achieving your milestones for the year. I do have a but though in that, and in reference more so on the quarter, following up on the last caller’s question on the resource management. That was also an area that was a little bit on the weak side --

Dana C. Russell

James, I’m kind of having a hard time hearing you. Maybe you are just paying me back for not having my mic on in the first part of my script but --

James Gilman - Cross Research

I’ll use that as my excuse. Is that any better?

Dana C. Russell

Yeah, I can hear you better now.

James Gilman - Cross Research

Okay, great. Sorry about that -- first I was saying congrats on achieving your yearly milestones; however, there was a but in there and that is in reference to the quarterly results, following up on the previous caller’s question about, or comment on the resource management. That was also an area that was a little bit weaker than we thought. You commented that was on the Zen Works front, but did we see any maybe weakness in the plate spin during the period, maybe from free ware products that were out there?

Ronald W. Hovsepian

Yeah, if you are referring specifically to VMWare’s planning tool, yes, of course. As you saw, you may not have seen, we made some pretty good announcements in my opinion at the data center conference at Gardner over the last two days and I think the team has done a nice job addressing the customer’s desires and needs in this market, in this market space from my perspective. So the team’s reacted pretty quickly and I am overall pleased with where it’s going and what we can do to add that value but yes, specifically VMWare giving away their capacity planning tool, it obviously has had some impact there but I am still not terribly worried about that at this particular point.

James Gilman - Cross Research

Okay. Another area that was a little bit weaker than I thought was on the collaboration front. But I attribute that to Group Wise 8, or coming in at or being released here after the quarter. Would that be -- or I guess another way to look at it, do you expect an up-tick with your collaboration now that Group Wise 8 is out?

Ronald W. Hovsepian

I think that’s a legitimate hypothesis to look at, that the customers pause to get that latest release, both with Group Wise and with OES. I’m not sure. I hope that’s it but I’m not sure of that at this point in time, so you guys know Dana and myself -- we’ve tried to be appropriately balanced in our points of view on these things, so at this point I am not going to say it’s that. I would like it to be that. At this point, I want to get into the quarter a little deeper with the products out there and give you some better color on that as we see it.

Last question is in reference to the overall markets, you feel confident with the markets you are in -- what about the verticals? Do you feel that the verticals that you serve are -- will help benefit you? I’m under the -- while you do not break out by vertical, I’m under the belief that you are predominantly in the government sectors and educational and healthcare. Can you -- would you comment on that, please?

Ronald W. Hovsepian

Yeah, at a macro level, we have a healthy portion of our revenue, a significant portion of the revenue, I should say, a significant minority I guess it would be, roughly around 40% come from public sector, so we do feel good in that piece of it. By each market, it does vary, though. You know, Linux is for example more aggressive in the traditional Unix markets, so things like financial services we would run higher. Now overall financial services only makes up roughly single-digit percentages, 10% roughly, I’m sorry, of our revenue in totality but it varies by each market, so we have little blips by each market by vertical, to answer your question. So we do expect some pain obviously in the financial services sector and that one in particular has probably got a little more Linux weighting to it as part of it.

Dana C. Russell

James, as Ron mentioned, we’ve announced some pretty large deals in Linux in the financial verticals there, and so it does have a more heavy -- have a heavier weighting for us in terms of our historical recognized revenues. Now, I think on a go-forward basis, it may not be weighted that heavily, just from the standpoint that some of the early very large deals were in that sector.

James Gilman - Cross Research

Thanks for taking my questions.

Ronald W. Hovsepian

With that, we’ll say thank you, Operator -- we’ll say thank you to the Operator and thanks to you all and close the call.

Operator

This concludes today’s Novell fourth quarter and full year fiscal 2008 financial release conference call. You may now disconnect.

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