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Novell Inc. (NASDAQ:NOVL)

F4Q09 Earnings Call

December 3, 2009; 5:00 pm ET

Executives

Susan White - Director, Investor Relation

Dana Russell - Chief Financial Officer

Ron Hovsepian - President & Chief Executive Officer

Analysts

Abhey Lamba - ISI Group

Michael Turits - Raymond James

John DiFucci - JP Morgan

Katherine Egbert - Jefferies & Co.

Richard Williams - Cross Research

Nabil Elsheshai - Pacific Crest Securities

Brent Williams - Benchmark

Operator

Good afternoon. My name is Alicia and I will be your conference operator today. At this time, I would like to welcome everyone to the Novell fourth quarter and full fiscal year 2009 financial earnings release conference call. (Operator Instructions) I would now like to turn the call over to Miss White. Madam, you may begin your conference.

Susan White

Thank you and good afternoon, everyone and thanks for joining us. I’m 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 of 2009 and the year. If you don’t yet have our press release, you can access it by visiting our Investor Relations webpage at www.novell.com/company/ir. This call is also being broadcast through our website and will be archived on our website for a minimum of 12 months.

Before I turn the call over to Dana, I’d like to take a moment to say that we will be providing non-GAAP financial measures 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.

Management uses these same non-GAAP financial measures to evaluate performance, allocate resources and determine compensation. The non-GAAP financial measures do not replace the presentation of our GAAP financials but they eliminate expenses and gains that are excluded from most analyst consensus estimates that are unusual and/or that arise outside the ordinary course of business such as, but not limited to, those related to stock-based compensation, acquisition related intangible asset amortization, restructuring, asset impairments, litigation judgments and settlements, purchase in-process, research and development and the sale of business operations, long term investments, and property, plant and equipment.

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.

During our prepared remarks, we will mention some non-GAAP measures. The corresponding GAAP measures are fiscal 07 GAAP operating margin of negative 6%; fiscal 08 GAAP operating margin of 1%; and fiscal 09 GAAP operating margin of negative 24%.

We may also provide projections of our non-GAAP financial measures such as projected non-GAAP operating margin, projected non-GAAP tax rates and so forth. The corresponding forward-looking GAAP financial measures are not available and cannot be provided without undue effort because we are unable to accurately forecast information regarding expenses or gains such as, but not limited to, those previously described. We believe that the corresponding GAAP financial measure is not likely to be significant to an understanding of our business because there is likely to be substantial variability between projected and actual realization of the expenses and gains described above and/or that such expenses or gains are likely to arise outside of the ordinary course of business.

Finally, please note that during today’s call, we may make forward-looking statements. Forward-looking statements forecasting growth in financial metrics are predicated on assumptions regarding improvements in the overall economy and the markets served by the company and in which the company operates, the timing of which is impossible to accurately predict.

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 23, 2008 and in the press release we issued earlier today.

Forward-looking statements do not reflect the occurrence of unplanned or unanticipated events and cannot take into account unforeseen circumstances. Actual results for future periods may differ from those projected. Any forward-looking information that we provide in this call represents our outlook as of today, December 3, 2009, and we do not undertake any obligation to update our forward-looking statements except as may be required by the law.

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

Dana Russell

Thanks, Susan. Novell’s fourth fiscal quarter and 2009 annual results were released a short time ago. For the quarter, the company reported net revenue of $216 million. GAAP loss from operations was $259 million, which includes a $279 million non-cash impairment charge to goodwill and intangible assets.

Non-GAAP income from operations was $37 million. Foreign currency exchange rates negatively impacted revenue by $2 million and operating income by $1 million on a year-over-year basis.

For the year, revenue was $862 million. GAAP loss from operations was $206 million, and non-GAAP income from operations was $139 million. Foreign currency exchange rates negatively impacted revenue by $17 million and positively impacted operating expenses by $32 million and operating income by $15 million on a year-over-year basis.

This was a challenging year for many companies, Novell included. We focused on what we could control and we did a good job managing expenses. As a result, annual non-GAAP operating margins improved to 16%, from 10% last year despite declines in license and service revenue. Maintenance revenue held steady due to consistent renewal rates.

Business unit revenue information is available on page 11 in the financial schedules of our press release.

Moving on to invoicing by business units, Linux platform product invoicing was $44 million in the quarter, down 8% and annual invoicing was $145 million, down 18%, largely due to invoicing associated with the Microsoft certificates. We have now invoiced essentially all of the remaining balance of our original $240 million agreement with Microsoft.

In the other business units, invoicing generally tracked the revenue trends over the course of the year. On the expense side, we worked hard to improve our cost structure and we saw the greatest improvement in cost of revenue and sales and marketing expenses.

Total headcount at the end of the quarter was 3,600, down from 3,700 in the prior quarter, as a result of restructuring activities. Restructuring expenses were $25 million for the year and $9 million in the fourth quarter.

Turning to the balance sheet and cash flow, cash and short term investments were $983 million, up from the prior quarter. Cash flow from operations was $69 million for the year, up from $56 million a year ago.

Finally I want to discuss our outlook on 2010. We have good visibility on our Q1 revenue performance but it is challenging to have a firm commitment on the whole year. Our pipeline has increased and we are seeing signs of improved momentum. The sales cycles haven’t shortened yet, so it remains difficult to forecast the top line over a longer time period.

In the first quarter of 2010, we expect revenue to be between $200 million and $210 million, down from Q4 levels due to weak invoicing from prior quarters. We do feel good about first quarter invoicing. We are seeing positive trends in our key growth markets and we expect invoicing to be stronger than last year.

On the expense side, we expect our cost structure to be similar to 2009 levels but we expect first quarter expenses to be at or slightly lower than fourth quarter levels.

Turning to operating margins, we remain committed to long-term profitability and improving our operating margins. We've worked hard to improve our cost structure and we have consistently expanded our non-GAAP operating margins. Additional margin improvement will be dependent on our revenue growth. As a result, margins may erode slightly in the near term if revenues decline. In the first quarter of 2010, we expect non-GAAP operating margins of 14% to 16%.

Due to the fact that we are not providing guidance for annual income, we are not providing cash flow guidance. However, we expect CapEx to be $25 million to $30 million in 2010.

In terms of other guidance, we expect other income to be between $5 million to $8 million for the year, annual tax rate to be 24%, and shares outstanding to remain near current levels.

With that, I’ll turn the call over to Ron.

Ron Hovsepian

Thanks, Dana. I feel good about how we have executed in a very tough environment. Without a doubt, it was a challenging year in terms of revenue, but we have accomplished a lot and I would like to highlight the progress we have made in three areas -- financial discipline, innovation, and partners.

As we move into 2010, our focus shifts to invoicing growth in our growth segments as the economy improves. First, we've worked hard to improve our operating margins. We've done this by focusing our resources and making strategic decisions about how we run our business.

I am pleased with the results. Our non-GAAP operating margin has consistently improved from 5% in 2007 to 16% in 2009. We remain committed to our long-term goal of 20% operating margin and with our current cost structure in place, top line growth will positively impact the bottom line.

Next, we continue to deliver innovative solutions that are being well-received by the market. During this year, we announced several exciting new technologies, including Novell cloud security service and the [SUSA] appliance program. Novell's cloud security service enables cloud and hosting providers to offer customized security to their enterprise customers, thus addressing the number one barrier to cloud computing.

By mitigating security and compliance concerns, we believe Novell cloud security service has the potential to accelerate the widespread adoption of cloud computing.

The [SUSA] appliance program allows independent software vendors, or ISVs, to rapidly and easily create customized software appliances. This expands the overall market for ISVs while shortening their sales cycles, reducing support costs, and extending existing applications to the cloud. Reaction has exceeded our expectations, with nearly 4,500 registered ISV users creating more than 100,000 software appliances.

In addition to the positive reception, IDC has recognized Novell as a leader for virtual appliances. While the appliance market is still in its infancy, IDC projects over $1 billion of software appliances will be sold worldwide by 2012.

We are excited by its long-term opportunities.

And finally, we have significantly expanded our global and regional partner ecosystem this year. On the global front, we announced a groundbreaking partnership with ACS, in which ACS has agreed to purchase at least $30 million of Novell products and services over the next three years to resell to its customers and enhance its global data center operations. ACS provides a broad distribution channel as a partner and becomes an important customer for our integrated technology from our identity and security and systems and resource management business units to deliver the ACS management platform.

Our extended partnership with SAP around governance, risk compliance, risk and compliance and our CMDB technology includes both technical and go-to-market collaboration, which will help Novell acquire new customers and expand our footprint in security, identity and systems and resource markets.

Our recent partnership with Dell will make PlateSpin the tool of choice for Dell's professional services organization, which conducts thousands of virtualization assessments a year. This means more opportunity for Novell to sell solutions for server consolidation, capacity management, and workload migration.

On the regional front, we launched our new partner program, which has been well-received. During the year, we saw a meaningful increase in key partner metrics, such as recruitment, training, and deal registration. Overall I am pleased with the progress we have made with our partners, which should translate into increased traction in the channel.

As we move into 2010, our focus shifts from cost containment to invoicing growth. We compete in attractive markets such as the Linux market, which IDC predicts will grow in the double digits, and the identity and access market, which is projected to grow at 7%. We are targeting invoicing in our growth markets to grow at or better than these market rates.

Going forward, we see exciting opportunities in the intelligent workload management. The emerging market of securely managing workloads within and across physical, virtual, and cloud environments. I believe there is a new market for solutions that address the risks and challenges for computing securely across multiple environments. This need plays to the strengths of Novell -- identity and security, systems and resource management, and our new [SUSA] appliance program.

We can enable customers to build, secure, manage and measure workloads in a policy driven and compliant manner on any platform.

Let me explain how our current product portfolio fits into these four areas, starting with build. By build, we mean the ability to configure and build secure workloads with ISV and corporate developers. We do this with the SUSA appliance program that we launched earlier this year. We are a leader in creating a workload consisting of an integrated operating system, middleware, and application image and formatting it for multiple physical and virtual environments.

Next, turning to secure, we have the solutions that provision users in secure workload usage, report, and monitor events and manage data center policies for these workloads. We are leaders in this area. Gardner placed us in multiple leader quadrants for identity management and coupled with the Novell cloud security service, we can extend our enterprise security umbrella to the cloud.

Intelligent workload management comes together at the [managing measure]. With our PlateSpin workload management solutions, our business service management solutions, and our Novell's N-Works N-point management solutions, we have the tools that discover, optimally manage, migrate, and measure workloads.

Our current product portfolio, recent innovations, and development pipeline are focused to support our intelligent workload management strategy. This is a very exciting market opportunity and Novell has a unique set of assets to leverage into a leadership position. You will hear more about this in a press release on December 8th.

In closing, we worked hard in 2009 to improve our operating margins, to create innovative technologies, and to expand our partner ecosystem. We have built a solid foundation for future growth.

We currently compete in attractive growth markets. We've invested in key technologies that help secure our leadership position in the emerging market of intelligent workload management. Our current and future opportunities give me confidence for our prospects.

With that, we are ready for your questions. Operator, please open the line for our listeners.

Susan White

Operator, we're ready for questions.

Question-and-Answer Session

Operator

Our first question is going to come from the line of Abhey Lamba with ISI Group.

Abhey Lamba - ISI Group

Thank you. Ron, can you give us qualitatively as the economy improves how should different business segments perform? And also what type of a lag should we see in revenue growth from invoicing -- because you expect to start seeing invoicing go up from Q1 but revenue is still going to be down here.

Ron Hovsepian

As you are appropriately pointing out, there is a lag time or a conversion rate from the invoicing to the revenue and it obviously varies by contract and a whole bunch of other variables that go into that. But the delay that you are pointing out is absolutely correct.

In terms of the invoicing and where we see that, as Dana said in his remarks, we do see improvement there. And the business segments that I see us focusing on are really in the growth segments that we've talked about, so the identity and security management pieces of it, the Linux parts of it as well as in our SRM pieces of the equation.

So those segments we would also focus on to see the growth.

Abhey Lamba - ISI Group

And Dana, can you comment about what should we expect for expenses for the full year 09 and any update on Linux and identity management profitability targets?

Dana Russell

I think if you are looking for the expense structure, I think we gave the guidance that the first quarter reflects largely where we exit in the fourth quarter and we don’t expect big changes to the expense structure throughout the year, so that should give you some help there in terms of your model around the expense structure.

With respect to profitability for the open source and the identity access and compliance management business units, we still feel good about being on target with them. Obviously we are cautiously optimistic about what is going on in terms of the economic environment and Novell's position there, so some of that is related to what potential revenue growth the entire industry sees. But given that caveat, we still feel like we are very much on track with what we have said before.

Abhey Lamba - ISI Group

Thank you.

Operator

Your next question comes from the line of Michael Turits with Raymond James.

Michael Turits - Raymond James

A couple of questions -- it looks like you had by my calculations, it looks like your non-Microsoft Linux invoicing picked up pretty nicely and you saw some good growth there. So the first question is what are the trends in that and how is that happening, what's positive and working for you there? And am I right? I get it up like 10% year over year if I back out the Microsoft piece.

Ron Hovsepian

I think we have, as we've talked about, we've been very focused on trying to get channel activities, especially around our open source business geared up and working well. I think the invoicing in that area of our core non-Microsoft, Q4, you know we have seen some improvement there. And that's a continued focus, so we will continue to work on that. That's part of the overall transition that we are making with our sales organization and we are going to continue to press on those things as we go forward.

Michael Turits - Raymond James

And then are you -- is anything happening with the other $50 million tranche of Microsoft certificates or should I start baking those into the model for those to start turning over?

Dana Russell

Well actually, we are through the original agreement that we have with Microsoft of $100 million and subsequent to that, we signed another agreement but there is -- we actually have -- it's in tranches of $25 million, so the -- so it's a total possible amount of $100 million, which is in $25 million tranches.

We started into that agreement. We have had some sales against those certificates and we will continue to update you as we see transactions there.

Michael Turits - Raymond James

And then lastly --

Ron Hovsepian

I just want to make sure I am clear -- Dana said we are nearly through the $100 million, I believe, and it's actually the 240, and then there is -- so we are nearly through the 240.

Dana Russell

Okay, sorry if I said $100 million.

Ron Hovsepian

No, I just want to make sure we are clear -- we are nearly through that whole 240 and then everything Dana said after that was right on the money on the $100 million. So I just want to make sure we didn’t confuse people on that one.

Michael Turits - Raymond James

And lastly, I mean, usually you give us a breakout of your invoicing in your other segments. Any chance you can run through that for us?

Dana Russell

Well, what we said was take a look at the revenue schedules there and the invoicing for the year basically followed suit fairly closely with the recognized revenue, so there wasn’t dramatic differences between invoicing and recognized revenue.

Michael Turits - Raymond James

Okay, so the dollar amounts of invoicing and recognized revenue are about the same in the other segments?

Dana Russell

Yes, relatively speaking, they are about the same.

Michael Turits - Raymond James

Okay, and I guess just one clarification -- sorry to take up extra questions -- you said almost through the 240 -- does that mean you are real close, like 239 or something, or is it $4 million or $5 million or something?

Dana Russell

That's what that means, yes.

Michael Turits - Raymond James

Okay, thanks, appreciate it.

Operator

Your next question comes from the line of John DiFucci with JP Morgan.

John DiFucci - JP Morgan

It looks like foreign exchange effects accounted for, the way I look at it, anyway, just about all your operating margin improvement this past year, maybe a little bit not from that when you back out what you say are your effects on both the top line and operating expenses. So I guess if that reverses next year, which if rates stay the way they are, that's probably what's going to happen, what kind of effect is it -- I mean, all else equal, it's going to have a negative effect on operating margins but do you have other things that you are planning on doing, Dana? You gave some -- a little bit of guidance there on the next quarter. Are you talking about excluding foreign exchange effects or do you think -- do you guys have other things you can do to offset any negative hit on operating margins due to foreign exchange?

Dana Russell

John, I think we did actually have a fairly substantial improvement irrespective of foreign exchange rates there. I think if we were to do the calculation, it was roughly 14% operating income versus the 16% we reported for the full year. However, you are correct that it does have a significant impact and as exchange rates shift around there, we do have a fair amount of exposure, especially with the expense structure because we have a lot of non-U.S. dollar expenses now, especially with our development teams.

So I think the best that we can do is just continue to try to manage that. We don’t have any magic bullets there in terms of being able to manage it any different than anyone else and we will continue to pay attention to our expense structure and there could be swings given changes to exchange rates.

John DiFucci - JP Morgan

Okay, thanks. And as you point out, I guess that's going to affect everyone. And secondly, you said next quarter you expect invoicing to increase year over year and on the revenue side, anyway, it's the first -- nothing's easy these days but I think a relatively easy comp. Is it safe to say that this will be the first time you see invoicing increasing and will that be the first time in five quarters?

Dana Russell

Yeah, I think that would be the first time in five quarters. I'd have to check on that but I believe that's actually the case, yes -- first time in five quarters.

John DiFucci - JP Morgan

Okay, great and just one last quick one -- on sales and marketing, there was a drop this quarter and I just wonder, you actually had a little bit better license revenue than we were looking for and a little bit better than you have been doing and I'm just curious if that sales and marketing, if that's sustainable.

Dana Russell

You know, the mix of our expenses may change a bit here as we go forward, so we gave you total numbers in terms of operating expenses and cost of sales for guidance for the first quarter. I do expect that we will have fluctuations and that sales and marketing expenses could go up and probably will go up. We'll have other expenses that will go down but the overall mix should be relatively consistent.

John DiFucci - JP Morgan

Okay, great. Thanks.

Dana Russell

-- [overall] total expenses should be relatively consistent.

John DiFucci - JP Morgan

Okay, great, thanks a lot, guys.

Operator

Your next question comes from the line of Katherine Egbert with Jefferies.

Katherine Egbert - Jefferies & Co.

A couple of things -- why are you feeling better about the invoicing trends as you are headed into the current quarter and to the new fiscal year? Can you just give us some color?

Dana Russell

Well, I think the pipeline looks stronger than it has looked. Like we said, we are still cautiously optimistic that we will be able to see the realization of those deals. We do feel like the first quarter this year is stronger from an invoicing standpoint. How that translates into the rest of the year, we're not confident enough to give a firm guidance on that but feeling relatively good.

I will say, Kathryn, in the fourth quarter we saw some reasonably strong activities in Asia-Pacific and we did fairly well in Europe as well, and we hope that we can see some continued momentum throughout the year.

Katherine Egbert - Jefferies & Co.

But what about by product line? What areas are you seeing better pipeline in invoicing?

Dana Russell

Well, I think all of our growth areas, we feel a little bit better about them. We certainly did as we entered into 2009, so the identity, access compliance management, our systems and resource management areas in particular, also feeling quite good about our core invoicing opportunities around Linux.

Katherine Egbert - Jefferies & Co.

Okay, and on that note, what are you expecting -- you know, you are about to hit first year the renewals of Microsoft certificates -- can you give us some color as to what you are thinking there?

Dana Russell

Yeah, there's no question that we are going to have a significant drop-off from the value that we see from those certificates as we begin to invoice those back in 2007, so here's a key point -- we invoiced approximately half of the $240 million in 2007 and in fact, we did about 30% of the total in the first quarter. And if you will recall, we've been quite open about talking about some of those accounts and some of the accounts were involved in a fair amount of economic turbulence and their position and what they have done since or even their existence has changed. So we do expect to be much different in terms of the invoicing or the renewals around those certificates and a key point would be that 2007, 2008, and 2009 obviously benefited in terms of recognized revenue associated with that invoicing that occurred in that first quarter of 2007. So even though we feel good about the invoicing, most of that invoicing was three years, and so the invoicing that occurs in the first quarter of 2010, probably not going to make up for the revenue declines that we could see as a result of the fall-off there from invoicing, especially we had that large invoicing in the first quarter of 2007.

Katherine Egbert - Jefferies & Co.

Are you going to give us any renewal rates or any color on that as you move through 2010?

Dana Russell

I think in terms of color, that's probably about as much color as we will give out there. I think overall, we feel like if you are looking at the revenues, I can say that we would say that in terms of total Linux revenues, you could be fairly flat with the prior year, even though you may have an increase in invoicing in 2010 over 2009. That should give you more color.

Katherine Egbert - Jefferies & Co.

Yes, that helps. Thanks a lot, Dana.

Operator

Your next question comes from the line of Richard Williams with Cross Research.

Richard Williams - Cross Research

Thank you. Could you give us a little more color on the product breakout by geography and also as you [inaudible] geographies [inaudible], the tone of business, how the economies are trending? Thank you.

Ron Hovsepian

You faded a little bit in the middle there -- we couldn’t quite hear you. Maybe we heard the front-end and the back-end, a little bit of breakout by geography for some of the product and I lost you in the middle. I'm sorry.

Richard Williams - Cross Research

No problem -- tone of business in each of the geographies, whether you see the economies getting better or getting worse, that kind of thing.

Ron Hovsepian

In terms of what we are seeing, and I think Dana touched on it, is that we saw good uptake in Asia-Pacific, albeit that's a smaller slice of our business. We did see good up-tick inside of the Asian marketplace. Obviously that varies by country over there to a much greater degree.

And then in terms of Europe, we did see a very good performance out of our European team -- again, there is some country by country commentary that we could get into but when I look at the geographies, the Asian market is operating in still a -- you know, in general in a growth mode with the exception of probably Japan, which has just been generally flat. The rest of the markets are still showing GDP growth and therefore the tone moves with that.

Dana Russell

I think you asked for general trends of products by geography -- that would be a little hard for me to give you a whole lot of description around that. I'd say that the trends basically between Western Europe and North America are generally the same, so when you are looking at the total revenues that we display on our press release schedules, you will see relatively similar trends in both geographies for all of those product groups. Now, we do have a little bit more variation in Asia-Pacific but generally the trends would be relatively consistent throughout our geographies for those products.

Richard Williams - Cross Research

Okay, thanks, guys.

Operator

Your next question comes from the line of Nabil Elsheshai with Pacific Crest Securities.

Nabil Elsheshai - Pacific Crest Securities

Last quarter you had mentioned a little bit of pressure on contract length. I was wondering if you had seen any improvement there, or if things had remained roughly where they were.

Dana Russell

The contract length is still an issue. I think people are still -- even though we are optimistic about improving invoicing in the first quarter from the invoicing in the prior year, same quarter, our contract lengths have shortened and we are still seeing pressure on that. So no real changes there.

Nabil Elsheshai - Pacific Crest Securities

Okay. Do you expect or have any sense on the terms of the Microsoft invoices renew at? Do you think those will be one-year renewals?

Dana Russell

I would suspect -- you know, we've largely done three year transactions with most of our core and non-core, or you know, Microsoft or core non-Microsoft activity there and I would expect any renewals would follow that same length, so mostly three years.

Nabil Elsheshai - Pacific Crest Securities

Okay, great. And then the world did shift a little bit on the virtualization management world with some tools getting included for free and it seemed like you were adjusting the PlateSpin go-to-market. Any updates there or how is that market looking for the management tools?

Ron Hovsepian

Yeah, some of the packaging was on the planning tool, in particular, and from that perspective, some of that was getting bundled into the market, as you appropriately put it. The good news is we were able to get Dell's professional services organization to standardize on our tool and begin to use our capacity planning tool for literally thousands of assessments, virtualization assessments that they do.

In terms of the PlateSpin migrate product, you are also correct -- some components to that have been bundled inside of other packaging routines. The real key for us in that market is the multiple hypervisors showing up at the customer sites, or the multiple virtualization platforms is really where that part of the product was designed for. And what the team has done is we've improved some of our cycle times and focused on improving where we can go with that product and some of the bundling of how we package those pieces up, so I think as we go into next year, calendar next year, I do expect as we hit those releases that that will aid in our ability to sell more of that product.

Nabil Elsheshai - Pacific Crest Securities

I am curious -- I mean, what are you seeing in terms of heterogeneous versus a company standardizing on a single virtualization platform? Any trends?

Ron Hovsepian

Yeah, we are definitely seeing more penetration by multiple vendors. Obviously Microsoft being the other big one, you know, VMWare has got the lead position and again, our desire is to work with all the hypervisors out there, all the virtual platforms out there. And Microsoft definitely is having a -- playing a role in the market, obviously VMWare continues to play a role. And Zen continues to play a role in certain segments within the marketplace, so we see those pieces out there. So we are starting to see them show up in some of the larger shops for the customer and starting to see some of that positioning that we want to happen occur now in the market. So it's still early, in my opinion -- we were probably a little early with that product set.

Nabil Elsheshai - Pacific Crest Securities

Okay. And then last question on the appliance, Linux appliance -- could you help me understand a little bit the business model or revenue model and how that might vary from your traditional, more direct model for Linux?

Ron Hovsepian

Yeah, the business model design is actually quite straightforward and simple. As someone builds a virtual appliance, they will be building in on a [SUSA] Linux operating system that gets embedded as part of the OS, and then the price gets bundled in or embedded into the customer and there's a traditional volume agreement there for those ISVs, so the more they push through, the lower the price is for them.

Nabil Elsheshai - Pacific Crest Securities

Okay. Are they doing first line support and then you guys would do support for the ISV or how would that work?

Ron Hovsepian

In terms of we do the first line support, we'll guarantee it. Now what happens a lot of times is when an application goes down, the customer -- I mean, the ISV will get the phone call first and try to deal with it, so certain ISVs want to have that first line support and second line and so we have the ability in our agreements to do it in either fashion.

Operator

Your next question comes from the line of Brent Williams with Benchmark.

Brent Williams - Benchmark

Actually, my question was going to build on the one that Nabil just asked on the appliance side -- is there any difference on the R&D expense or on the field sales cycles or sales support, so on the expense side is this just all kind of heavier up-front sales expense because it's an OEM sale downstream, with maybe larger margin contributions downstream or how does that work?

Ron Hovsepian

I'll take that as an option if I could have that as one. The core strategy is leveraging the resources and the sales expenses that we have now, so I do not anticipate increases there. In a positive scenario, what this does is it complements our offering to both the ISV and to the corporate developer, so that they may be running standard distributions in their environment for regular physical workloads, as well as then they will be able to put the virtual appliance out there as well and get that support that they want, or build their own virtual appliances in-house. So we will allow them to do that in either format.

The distinction that I would draw is that what we have rolled out right now has been the ISV tool only out into the marketplace. In the calendar Q1, we will ship the customer on-site version and the one addition there is that will be an -- it will have more of an enterprise tool pricing dimension to it for the customer.

Brent Williams - Benchmark

Okay, great. And then sort of to go back in and sorry to nit-pick on the minor semantics here and there, I think you said that you are sort of doing some of the money off of the new $100 million Microsoft slug, is there any material amount there?

Dana Russell

So far, we have not had -- it has not been significant, so that's the piece that we will be working on in this next fiscal year.

Brent Williams - Benchmark

Okay. Those are my questions. Thanks.

Susan White

Okay, it looks like we are done with our questions. I want to thank everyone for joining us this evening and we'll talk to you soon. Bye-bye.

Operator

This does conclude today's conference call. You may now disconnect.

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Source: Novell F4Q09 (Qtr End 10/31/09) Earnings Call Transcript
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