Sun Microsystems, Inc. F2Q08 (Qtr End 12/31/07) Earnings Call Transcript

Jan. 24, 2008 9:42 PM ETSun Microsystems Inc. (JAVA-OLD)
SA Transcripts profile picture
SA Transcripts

Sun Microsystems Inc. Q2 2008 Earnings Call January 24, 2008 4:30 PM ET


Bret Schaefer – Vice President of Investor Relations

Jonathan Schwartz – Chief Executive Officer and President

Michael Lehman – Chief Financial Officer and Executive Vice President of Corporate Resources


David Bailey – Goldman Sachs

Bill Shope – J.P. Morgan

Kathryn Huberty – Morgan Stanley

Richard Gardner – Citigroup

Andrew Ness – Bear Stearns

Ben Reitzes – UBS

Tony Sacconaghi -Stanford Bernstein

Louis Miscioscia - Cowen & Company

Bill Fearnley - FTN Midwest

Keith Bachman - Bank of Montreal


Good afternoon. My name is Kathy and I will be your conference facilitator. At this time, I would like to welcome everyone to the Sun Microsystems fiscal year 2008 second quarter results conference call.

All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question and answer period. (Operator Instructions)

I would now like to turn the call over to Mr. Bret Schaefer, Vice President of Investor Relations for Sun Microsystems.

Bret Schaefer

Good afternoon. Thank you for joining the Sun Microsystems quarterly conference call. I am Bret Schaefer, Sun Vice President of Investor Relations. With me today is Jonathan Schwartz, Sun’s CEO, and Michael Lehman, Chief Financial Officer and Executive Vice President of Corporate Resources.

The purpose of today’s call is to discuss the results of Sun’s fiscal year 2008 second quarter, which ended on December 30, 2007. In the last hour, we published a copy of the Operations Analysis data sheet, with nine quarters of financial and operations information, including the quarter completed on December 30, 2007.

If you have not received the announcement or the detailed financial data sheet for any reason, or you wish to hear the replay of this conference call, you may log onto our website at We posted slides you can view on the web which accompany our prepared remarks. These slides may be viewed at the same URL

After the prepared remarks of our call today, we will devote the remaining time to Q&A. During the course of this conference call, we will be making projections and other forward-looking statements regarding expected future financial results and business opportunities.

Our actual future results may be very different from our current expectations. We encourage you to read the 10Ks and 10Qs that we file periodically with the SEC. These documents contain a discussion of the risks facing our business, including factors that could cause these forward-looking statements not to come true. We do not currently intend to update these forward-looking statements.

In addition, during the course of the conference call, we may describe certain non-GAAP financial measures, which should be considered in addition to and not in lieu of comparable GAAP financial measures. Please refer to the Operations Analysis posted on our website at for the most directly comparable GAAP financial measure and related reconciliations.

We would also like to remind you of Sun’s upcoming analyst summit in San Francisco from February 4 to 6. Software and hardware financial analysts and portfolio managers are invited to attend by registering at Those who cannot attend in person may view and listen in via the Internet at

Let’s get to the financials. Sun’s total revenue for the second quarter of fiscal 2008 were $3.615 billion, an increase of approximately 1.4% as compared with $3.566 billion in revenue reported in the second quarter for fiscal 2007.

Total gross margin was 48.5% of revenue, an increase of 3.5 percentage points over the gross margin for the second quarter of fiscal year 2007. Total R&D and SG&A expenses were $1.458 billion, a decrease of $27 million year-over-year.

In the second quarter of fiscal 2008, we recorded $55 million tax provision. GAAP net income for the second quarter of fiscal year 2008 was $260 million or earnings per share of $0.31 as compared with a net income of $133 million or earnings per share of $0.15 for the second quarter of fiscal year 2007.

Q2 products revenues totaled $2.249 billion, a decrease of 0.5% year-over-year. Within products revenues, computer systems products revenue was $1.594 billion, a decrease of 2.4% year-over-year.

Storage products revenue was $655 million, an increase of 4.6% year-over-year. Q2 services revenues totaled $1.366 billion, up 4.6% year-over-year. Within services revenue, support services revenue was $1.41 billion, up 4% year-over-year. Revenue from professional services and educational services totaled $325 million, an increase of 6.6% year-over-year.

We ended the quarter with cash and marketable debt securities balance of $4.677 billion and generated positive cash flow from operations of $336 million. During Q2 2008 we repurchased 36.7 million shares of our common stock, which equates to approximately $750 million. Shares were repurchased at an average price of $20.44.

There is currently $800 million remaining of the $3 billion share repurchase program we announced in Q4 2007. With that, I will turn it over to Jonathan.

Jonathan Schwartz

Thanks Bret. Welcome everyone. As you heard last week in our preliminary results, we turned in a solid Q2, with GAAP operating margin above 7% heading into the back-half of the year. We saw strong demand at the end of the quarter, despite uncertainty in the U.S. economy, and delivered solid bookings growth, also a little over 7%.

We expect the momentum to continue as adoption of Solaris and OpenSolaris grows in emerging companies and emerging economies, also as we ramp up our Linux and Solaris stage Niagara 2 offerings and bring our Intel based products online. We continue to see competitive strength in our Solaris-based Enterprise UltraSPARC offering with technical performance and market acceptance above our initial estimate.

As we announced last week, we view the acquisition of MySQL as an accelerate to our growth strategy, amplifying the value of our platforms to our current customers who welcome an open source alternative to proprietary options, as well as extending our reach into the far-broader LAMP community that has yet to meet Sun’s server storage, software or services. At a top level, this acquisition will bring us an enormous breadth of new opportunity.

Now back to organic growth. We saw double digit growth in India, China, Latin America, Eastern Europe, the Middle East and Africa, where we are now amplifying our investments. We had several great wins within the quarter, and two I would like to highlight are CASCADE Limited, one of Asia’s largest technical services organizations, selected the Sun Blade 6000 to extend its service offerings.

Also notably, MTS or Mobile Telesystems, the largest mobile phone operator in Russia, selected and deployed Sun’s Project Blackbox across their service territories, enabling services in locations without Class A data centre facilities, and giving them a remote operations in management capability others were unable to meet.

Traditional CIOs are looking to alternatives and we believe Project Blackbox represents the most compelling such alternative supplied by a mainstream vendor.

In terms of product performance in Q2, our Niagara systems truly stood out, growing more than 100% year-over-year to approximately $285 million, with Niagara 2 based systems beginning to ship in December.

Solaris registered licenses reached 11.5 million in Q2, up approximately 65% year-over-year, with over 70% of those licenses reaching the broader hardware market outside of Sun’s own offerings.

Our infrastructure software business grew more than 12% year-over-year, along with our Enterprise servers, inclusive of mid-range and high-end platforms which grew 6% year-over-year, as the OPL based SPARC Enterprise M series continues its strong performance in the datacenter and our long-standing relationship with Fujitsu continues to bear fruit. Disc spaced storage grew 7% based on strong high-end and mid-range Array performance, and Sun Fire 4500 or Thumper billings were approximately 26 million in Q2.

Other items of note within the quarter, we signed a multi-year OEM agreement with Dell, making the Solaris operating system and support services available directly to their customers. With IBM and Dell signed, this leaves only one tier-1 vendor without such a relationship.

We did use the SPARC Enterprise 5120 and 5220 servers, the first Enterprise servers to use the UltraSPARC T2 processor, and these double the threads of Niagara 1 systems and have in support for floating point and advanced crypto and networking technology.

We unveiled the industry’s first open-sourced datacenter virtualization and management platform at Oracle OpenWorld, called Sun’s xVM Virtualization platform, along with our management platform xVM Ops Center.

And finally, we received three InfoWorld 2008 Technology of the Year awards, Most Innovative Server OS, Solaris 10; Best Storage File System, Solaris ZFS, and Best Storage Server, the Sun Fire X4500 or Thumper.

To close, I want to be clear that growth absolutely remains our number one priority. Based on our strong product lineup, as well as the news of our intent to acquire MySQL, among the fastest growing players in the $15 billion database market, I couldn’t be more positive about our prospects and momentum.

The response to the announcement to acquire MySQL has been tremendous. Every customer I have spoken to in the last week has offered their congratulations and confirm this gives them the option to deploy MySQL for the first time at the heart of their enterprise.

We are very excited to have MySQL as part of Sun, and we look forward to sharing more perspective on Sun’s position and prospects for growth at our upcoming analyst day on February 5 in San Francisco.

I would now like to pass it over to my office mate, Mr. Lehman for more details and specifics on our results.

Michael Lehman

Thank you, Jonathan. At the highest level I want to reiterate that our results in Q2 are quite satisfying and that they reflect a great deal of progress towards both our longer-term business model and our stated fiscal year 2008 financial goals.

Even further, despite a fair amount of economic uncertainty, we have begun to make incremental investments in key geographies where there are near-term market opportunity. This is based on the underlying confidence we have in our products and services and the teams that are bringing these to market.

I would now like to highlight a few additional points about our Q2 results. The strength of the underlying business can best be understood by looking at bookings and deferred revenues. As previously mentioned, bookings grew by more than 7% on a year-over-year basis in Q2 and deferred revenues grew by more than 24% on a year-over-year basis.

Product deferred revenues increased by approximately 47% on a year-over-year basis. Part of the increase in deferred revenues in Q2, reflects the impact of the switch to sellout for the U.S. and Asian channel development partners, which was approximately $120 million during the quarter.

Also notable, deferred service revenues increased by more than 16% on a year-over-year basis. These increases reflect that our customers are purchasing larger, more complex systems, which often require integration and professional services. These increases also reflect that our customers are purchasing combinations of systems, storage, software and services which require longer-term revenue recognition.

We are pleased with the increases in deferred revenues as these provide a more stable foundation for future periods revenues. With regard to Q2 revenues, a couple of things are worthy to note: first of all, it is worth repeating that the switch to sellout in the U.S. and Asia resulted in an approximate 3% reduction in revenues on the year-over-year basis. When you analyze revenues by geography, keep that in mind.

Our revenues in EMEA grew by 7% on a year-over-year basis; in Asia-Pacific, overall revenues grew by only 2% on a year-over-year basis; however, as in the recent past, that overall growth reflects strong growth in greater China, India, Korea and other geographies, which was offset by continued decreased revenues from Japan.

While we don’t report revenues by each of the sixteen geographies that we measure, as an example, Q2 year-over-year revenue growth was more than 25% in India and approximately 15% in both greater China and Korea.

Currency continues to provide a bit of a tailwind, principally to our EMEA-based revenues, as the U.S. dollar continued to weaken versus the euro. Generally speaking, our results include some benefit from exchange rate movement in both revenue and gross margin line items. As in the past, such benefits are largely offset by the negative impact of such currency movements on our operating expenses, as local currency based expenses are converted to U.S. dollars.

One further note about channel inventories in the fiscal year 2008 switch to sellout: as mentioned in our Q1 results conference call, we anticipate completion of the worldwide transition to sellout by the end of this fiscal year.

With the Q2 completion of conversion of our Asia-Pacific and major U.S. partners, that leaves greater India. We currently estimate that we will complete the EMEA switch to sellout in Q4 and anticipate that the impact on Q4 revenues will be a decrease of approximately $30 to $50 million in that quarter.

Turning to gross margin, as mentioned by Bret earlier, overall gross margin came in at 48.5%, which was essentially flat from Q1. From a product margins standpoint, as in Q1, we continued to benefit from component cost reductions. Such decreases were largely passed on to our customers in the form of price reductions and/or discounts. And we did not experience any unusual or surprising component cost reductions in the quarter.

In Q2, our product revenues reflected a slightly higher mix, of both higher-end systems and storage products which carry slightly higher gross margins, and a strong level of Niagara-based servers.

Services gross margins continue to benefit from slightly higher volumes and continued cost reductions, which were offset by an increasingly competitive pricing environment for support services and a slightly higher mix of professional services.

Total R&D and SG&A expenses at approximately $1.458 billion were right in line with our expectations and down about 1 to 2% on a year-over-year basis in Q2. The total decrease is masked a bit by the impact of currency noted above.

We have also chosen to make incremental investments in marketing programs and sales and partner coverage in certain geographies where we believe there is near-term opportunity. We remain committed to longer-term decreases in annual operating expenses, but we will also continue to focus on growth as our number one priority.

Our balance sheet remains solid. As noted earlier, we ended the quarter with approximately $4.7 billion in cash despite repurchasing approximately $750 million in stock during Q2. We have approximately $800 million remaining on our Board authorized stock repurchase program.

We do not expect the announcement of the MySQL acquisition to affect our plans to continue to repurchase stock. At the end of each quarter, we will update you as to the extent of our activity. Given how that acquisition has been structured, the cash component of the price represents about 2 to 3 quarters of cash flow from operations at our current pace.

In Q1, we began reporting a non-GAAP measure that we entitled adjusted EBITDA. We believe that it is important to look closely at our company’s fundamental value in addition to ways reported under generally accepted accounting principles. The principle measure that we use at Sun is adjusted EBITDA, and that measure effectively depicts the cost generating capability of our quarterly results. During Q2, our adjusted EBITDA was $510 million, an increase of $145 million on a year-over-year basis and an improvement of $206 million sequentially.

With regard to the acquisition of MySQL, we are not certain whether the acquisition will close in either Q3 or Q4 of this fiscal year. We currently expect to record a one-time charge in the quarter of close of approximately $30 to $50 million, which will reflect certain accounting adjustments such as the impact of purchased R&D.

We have not finalized our estimates of the impact of the purchase accounting adjustments at this time, as the valuation of the assets cannot be finalized in a short period.

Excluding the impact of this acquisition, we are essentially reiterating all previous guidance with regard to the current fiscal year. This guidance includes the following: we expect annual FY08 revenues to grow at low to mid-single digit rates over the prior year. Given our first half results, that implies that revenue growth in the second half will be at least 5%.

We expect annual gross margins to be in the range of 45 to 47%. The low end of this range has increased slightly from prior guidance to reflect the first half year’s results. We expect total R&D and SG&A expenses, given existing currency rates, to be in the range of $5.7 to $5.9 billion. The upper end of this range has increased slightly to reflect first half results and the impact of incremental investments noted above.

We expect operating income on a GAAP basis to be at least 8% in Q4 of fiscal 2008. We expect total stock-based compensation to be in the range of $215 to $240 million for fiscal 2008. We expect amortization of intangibles to be in the range of $250 to $300 million.

We expect net interest and other income to be in the range of $160 to $180 million. This has been lowered to reflect the anticipated acquisition outlays and to reflect the impact of the stock repurchase activity as well. We expect our fiscal year 2008 income tax provision to be in the range of $200 to $250 million.

Finally a few words about fiscal year 2009 guidance: as noted above, until we complete the accounting for the MySQL acquisition, we cannot be precise about the ongoing impact to our operating results. As most of you are aware, ongoing impacts of such an acquisition include: amortization of certain intangible assets and the incremental impact of stock-based compensation, to name a couple.

We do not currently expect the total impact on our FY2009 income statements to be huge or dramatic, but until we complete the analysis we cannot be too precise. It is fair to say that, other than the accounting impacts of this acquisition, we expect to be on track to achieve annual operating income of at least 10% on a GAAP basis.

Our team sees this acquisition as one of the keys of further top-line growth. We will keep you all up to date regarding this topic over the coming months.

With that, I will turn it back to Bret.

Bret Schaefer

Thank you, Michael and Jonathan. Before we begin the question and answer session, I would like to request that each of you ask just one question consisting of one part; this way he hope to get most of the questions in queue today. If there is time remaining, we will be happy to take your follow-up questions.

Operator, will you please start the question and answer session?

Question-and-Answer Session


Ladies and gentlemen, we will now begin the question and answer portion of today’s call. (Operator Instructions)

Our first question is from Ben Reitzes – UBS.

Ben Reitzes – UBS

With regard to the United States, your revenues decelerated for the second quarter and you had a really good growth in Europe. I think there was a hit from the inventory obviously and whatnot, but can you just talk about the growth in the United States a little bit more?

You talked about the international economy; it doesn’t look like you are seeing anything. Just a little bit more about what’s going on exactly in the U.S. and how that is going to get better, in addition to channel inventory change and whatnot.

Jonathan Schwartz

Within the U.S., bear in mind we took out $120 million or so from the channel, so that was straight off the top line and obviously gave us pretty satisfactory growth. We are pleased that we are starting to grow there again.

And in terms of the macro picture we see, depending upon the industry, it obviously varies. Financial services companies you see in the press are those that are the most conservative right now about their IT budget. On the other hand, that is not the only sector we serve; we serve communications companies, network service companies, retail companies – many of whom are seeing sharp growth and frankly are looking toward the kind of technology that Sun builds to get more efficiency, more automation and reach more customers.

Again, notwithstanding the channel changes in the U.S., we had, what we viewed, as a pretty solid quarter. Mike, I don’t know if you have anything to add to that?

Michael Lehman

Actually I think that says it very well. Just to let people in the line know, Jonathan and I are in different locations this time, so we have to pass this back and forth verbally, instead of our usual short hand-off by looking at each other. I am confident that you described the U.S. business well.


Our next question comes from Andrew Ness – Bear Stearns.

Andrew Ness – Bear Stearns

I just want to go through the chart where you go through the server unit growth, and you’ve had some pick-up in that area, the server units growing from a negative to a positive – still fairly anemic. Can you go into that in a little more detail what’s behind the server units? It’s 2% - how much of that is reflected by what you did in terms of the channel? What would that be like without the channel changes; just give us a better sense of what’s behind those numbers.

Michael Lehman

I don’t have a specific breakdown for you on which units were backed up in the channel. I will tell you we are seeing a smaller number of more richly configured systems. Customers are looking to higher-scale systems as they move away from hundreds and hundreds of single-socket one-way servers and end up virtualizing and consolidating onto what are traditionally looked at as symmetric multi-processing machines, with multiple sockets, with multiple core platforms, with large amounts of disc and memory.

Certainly that was the most significant trend we saw within the quarter.

Bret Schaefer

I would say that the trend is a positive one. We see that strength in units improving as we do more Blade business, as we get further into the Intel architecture business, that trend is going to improve.

Andrew Ness – Bear Stearns

Would that be a processor basis or a box basis?

Michael Lehman

We’re probably not going to breakout the processor basis because then you are going to get into counting cores and counting threads and it all begins to lose the point. I think the most important point we can make is one we’ve been making for a long time: the server business, the storage business, the Blade business, the networking business – they are all converging around highly-scaled, highly-integrated systems which are best represented to customers in terms of how valuable they are by our gross margin line.

So we obviously want to see an outstanding top line but we also want to make sure we are getting the value we are putting into engineering and that is what differentiates the platforms that Sun builds.


Our next question comes from Richard Gardner – Citigroup.

Richard Gardner – Citigroup

I was hoping you could give us an update on your various different cost reduction initiatives. In particular, the 1500 person headcount cut that you announced a quarter ago. It didn’t look like headcount was down a lot, maybe 550 employees in the quarter. Should we think about that 1500 being more of a gross number as opposed to a net number now that you are starting to make investments in incremental growth areas?

Jonathan Schwartz

In short, the answer is yes. The other thing to keep in mind is that when the restructuring was announced we gave a range and that is a headcount number that people centered on, but we actually didn’t give a specific number. It is certainly in that range. That is a gross number versus a net number and as we make some targeted investments in that increased coverage, we will use up some of that.

The other thing to remember though is that once an announcement like that is made, oftentimes the headcount reduction doesn’t even happen for two to three quarters after that, depending on the geography in which the reduction will take place.

We are continuing to lower the headcount and you can see there was a net few hundred in the quarter and it will probably continue down a little bit but as we pointed out and as you recognize, we are going to make certain targeted investments.


Our next question comes from Kathryn Huberty – Morgan Stanley.

Kathryn Huberty – Morgan Stanley

I just want to go back to the discussion around growth and guidance, because to accelerate to 5% growth in the March quarter would require you to see lower seasonal decline in revenues in a period that is typically tough and layered on top of that a more cautious spending environment. If you take the metrics that you see in your term backlog, plus the data points you’ve picked up thus far in January, are you comfortable Mike with the acceleration back to mid-single digit growth in the March quarter? Should we think about growth as being even more back-end loaded than that?

Michael Lehman

I was desperately trying to avoid quarterly guidance. I thought I weaned myself off of that a quarter or two ago, but it is fair to say that we do expect greater than 5% growth in the second half of the year, given the bookings that we saw, the channel inventory reductions that we accomplished in Q2, and the products that are rolling out, it is fair to say we don’t expect all the growth to happen in Q4.


Our next question comes from Bill Shope – J.P. Morgan.

Bill Shope – J.P. Morgan

Can you give us an update on how you are looking at your storage strategy going forward? Obviously you have seen some improvement there this quarter; in particular, how do you look at the strategy of OEM technology versus your own internal technology, and are you open to new OEM partnerships as you try to kick-start the business while you ramp the homegrown technology?

Jonathan Schwartz

I think we are very happy with the performance of the storage business this quarter and that is both the performance of the OEM businesses as well as more homegrown technologies. I think broadly speaking, we are interested in capturing customers and being able to deliver to them a compelling roadmap that engages in a life-cycle of business with Sun that yield that greatest value to both of us over a long period of time.

I think we certainly looked at and look at VFS and the core open source file system that I think has been generally recognized as a pretty disruptive innovation in the storage marketplace, giving us an opportunity to have a fundamentally different discussion with customers, which is the same open source revolution that created opportunity for Linux and for the evolution of a very different server architecture and is now available to storage customers who might want to pay a lot less but get a lot more performance and a lot more flexibility.

We are interested in building out our product line; we are going to be careful about how we go do it and we are always interested in building new OEM relationships, where there is value for both parties.


Our next question comes from David Bailey – Goldman Sachs.

David Bailey – Goldman Sachs

Given the gross margin performance that you saw in the first half, can you talk a little bit about what the drivers are behind your targets for the full year and why you’re expecting it to come down? Is it pricing or mix or conservatism?

Michael Lehman

There is a mix of all of those, I would suggest. Certainly as we talked about we expect the Intel-based systems to be shipping more in volume in the second half of the year. We just announced some new low end disk products that will be more accepted in the second half of the year.

So part of it is certainly mix, part of it is that we don’t expect continued component cost decreases at the same rate that we have seen them over the last six months. So that’s partly based upon working with our partners and suppliers and partly a little bit of conservatism.

And then I also mentioned that we do expect continued pricing pressure on the support services part of the business and that is factored into our view of the second half of the year. So it’s all three.


Your next question comes from Tony Sacconaghi -Stanford Bernstein.

Tony Sacconaghi -Stanford Bernstein

At your analyst day at the start of the fiscal year, your presentation was entitled “Accelerating Growth” and you gave the guidance that you would be looking for 3% to 5% revenue growth, but I think at the time you appeared optimistic that you could actually do better than that.

If you did a 5% or 6% growth you’re going to be at the very low end range of that. It is also going to be down from the 6% growth you actually did last year. So going back to the theme of accelerating growth, did something change in the first half of this year relative to your expectations in September, or do you actually think being at the high end of that range or accelerating growth year over year is possible?

Michael Lehman

No I think we’re pretty comfortable with the guidance we gave at the beginning of the year that as the product line flushed out and as the market continued to emerge that we would divest position to get real momentum, not just growth within the quarter, but also good leading indicators to what happens next.

So I think nothing has really changed in our view of that plan and if anything I think the bookings growth that we saw in Q2 gives us even more confidence that we are going to be able to deliver in the back half of the year.

But again, there is a reason why we give a range is because we’re not seers of the future, we’re going to do our best to go after as much of that market is possible.


Your next question comes from Louis Miscioscia - Cowen & Company.

Louis Miscioscia - Cowen & Company

If you look at the different geographies of Europe and Asia Pacific, obviously the growth numbers that you just delivered are below. IBM and HP which had anywhere from 5X to 10X some of the growth area numbers.

Now would you say it’s mostly the products that you have to get out? What we talked about before, the Intel products and everything else, or you had also talked about more OpEx spending. Is there something else that you have to do in order to get your growth there an awful lot higher? Can you be specific about what you need to do? is it hiring sales people or partners or what could it be?

Jonathan Schwartz

I’m not quite sure what you’re talking about when you have referenced 10X our growth. For example, in our Niagara product line --

Louis Miscioscia - Cowen & Company

Your Asia Pacific grew 2% and HP’s grew 20%, so it is 10X.

Jonathan Schwartz

I think when you are looking under the covers, as Mike had pointed out, we saw double-digit growth in India and China and again we saw revenue decline in Japan. So I think what we are seeing is robust adoption of the core platforms that are really at the heart of our business and that is everything from our core operating systems to the systems infrastructure and developer offerings we build around it.

What we have to do is just continue to execute against the growth we saw in the quarter. Again, I think there are more specific dynamics in Japan that may take longer to play out but I think we are pretty confident in the growth that we see more broadly beyond that and not just there but also throughout South and Central America and Eastern Europe as well.


Our next question comes from Bill Fearnley - FTN Midwest.

Bill Fearnley - FTN Midwest

Jonathan, you had mentioned the high scale systems before. Could you give anymore color on what you’re seeing in terms of the dynamics there in terms of transactions size, length of negotiations and/or also new or existing customer capture? Any other details in the high scale systems would be helpful. Thanks.

Jonathan Schwartz

Probably the single most important dialogue we have with customers in high scale systems is just the popularity of our core operating system, Solaris, and the fact that we don’t lock them into one hardware architecture and can run that operating system on a diversity of vendor platforms.

So the appeal of our high scale systems comes as a result of two things: number one, the OPL systems we built in concert with Fujitsu are delivering performance that were significantly above our original estimates and we are just winning based on benchmark.

Secondarily, the fact that Solaris is spreading awareness of Sun into non-traditional Sun accounts means we are opening up new customers as well. So it is a little bit of both, I think when you’re operating at the scale of some of our customers in terms of the types of transactions they run, they care not just about performance today, they care about the road map going forward.

I think at the end of the day that’s probably the best selling proposition. We’ve got a very strong, very robust microelectronics roadmap around not only Niagara but also Victoria Falls and some of the upcoming enhancements. I think that’s ultimately what customers buy.

Bill Fearnley - FTN Midwest

Are you doing better with new or existing customers?

Jonathan Schwartz

We are doing well with both. We have seen in the last quarter the addition of nearly a thousand new customers and these are new customers buying Niagara systems, buying our x64 systems. We are again focused not just on growing in our installed base, we are growing in lots of installed bases and doing our best to make sure that we don’t trap ourselves by just trying to grow within our current customers or within our current products.


Your next question comes from Keith Bachman - Bank of Montreal.

Keith Bachman - Bank of Montreal

Jonathan, I didn’t hear you talk about the current run rate of the Galaxy family or x86. Could you talk a little bit about what the run rate is and how you think that contributes to the acceleration of growth that you are calling for in the next quarters? Specifically, is Niagara a bigger deal or is Galaxy a bigger deal? I am just trying to frame the opportunity.

Jonathan Schwartz

We didn’t see the growth that we wanted within the quarter on our x64 business and there are a few reasons for that. Obviously the Barcelona shipment date, pushing some customers out so we saw some softness on the AMD side. The new Intel systems are just coming into their own now so we’ve got lots and lots of demand and are feeling pretty positive about Q3.

But in general in terms of the growth that we are seeing in terms of new customers as opposed to significant revenue growth is on Edge systems, people who are building out horizontally-scaled platforms and that’s certainly where the Niagara systems, which again had 100% year-over-year growth to about 285 million as well as the x64 systems tend to play.

So, I think nothing changed about our expectations. That’s a business that we are brand new in and it’s now roughly a billion-dollar business on the x64 side. We think there is lots and lots of upside. We can now go after 100% of the market and not just with a couple of products, but with a completely built-out platform of offerings for everything from a small business to the largest scale supercomputers.

Keith Bachman - Bank of Montreal

Jonathan, as you think about it do you think Niagara is a bigger contributor to growth or the Galaxy side?

Jonathan Schwartz

I think innovation is the biggest contributor to growth and I don’t mean to avoid the question, I can’t predict at that level of specificity what’s going to be growing more rapidly. On the one hand Niagara is being built off a bigger base and has a ton of momentum. On the other hand, on the x64 side we have got a lot of momentum built up into Q3 and now that we have the product, I think we’ll be spending a lot of time being busy fulfilling that demand. We’ll see at the end of the quarter.


Our next question comes from Kathryn Huberty - Morgan Stanley.

Kathryn Huberty - Morgan Stanley

Jonathan, is there an argument to be made that spending related to things like power efficient systems and virtualization actually accelerates with tighter budgets? More importantly, have you seen either or both of these initiatives move higher on CIOs wishlists in the current environment?

Jonathan Schwartz

There is no question in my mind that when CIOs are put under pressure they turn to innovation and change as a vehicle to change their spending. They tend to look at everything. I mean everything that wasn’t stable and running along they didn’t actually want to pay attention to. If your budget gets cut and you go back and look at your investments, what can I do to try to save money?

Virtualization plays a very strong role in that as does consolidation, as does more efficient management. Frankly, as does swapping out old systems to get the newer lower footprint system.

So we’ve certainly believed that when CIOs come under pressure they tend to turn towards innovation; they turn towards those that can deliver new innovations to help them achieve a different cost profile and we are definitely seeing more activity in terms of customers interested in change than we were a year ago. Now they have got a great motivator for change; it may not be a positive motivator, but there’s a lot more motivation there.


We will now take our final question from Louis Miscioscia - Cowen & Company.

Louis Miscioscia - Cowen & Company

As we look back quite a while ago, so let’s say the March quarter of 2001, many companies didn’t see the tech slowdown coming and I wonder in hindsight a lot of big tech companies missed it back then and if you think back was there anything that maybe we could have saw to catch it? Are there any parallels today that we are seeing as obviously we are all rather concerned about the economy?

Jonathan Schwartz

I think when we go back and look at our own history, the slowdown that we saw in the 2001 timeframe really had it roots in the 1998-1999 timeframe which is that developers began to move away from our platform.

On the one hand, there was certainly a slowdown in venture investing in the financial services sector and telecommunications certainly had their slowdown, but our single biggest issue in 2001 was we were seriously and strategically mispositioned. We just didn’t have product that customers wanted.

I think as we look at some of the anxiety around the economy now, we look at both our current product line as well as acquisitions we are making as well as new investments we are making; we feel very, very confident that our products are really are at the front of the line in terms of what CIOs are looking at.

In the event of a slowdown, my view is people tend to turn toward technology to get more efficiency to automate or to go after more customers. You all tend to spend your time in the financial services sector -- which is a little depressing at times -- but when you come spend time with some of the core customers that we are engaging -- communications company, social networking companies, energy companies… oil at a $100 a barrel pays for an awful lot of high-performance computing.

We are just seeing growth everywhere, the biggest challenge for us is making sure we are in the right place to go after. But we certainly have the right products to go deliver growth and again to the extent that there is some bucketing as a result of the slowdown in economy over the next, we are not worried about the relevance of our core technology for the network going forward.

Bret Schaefer

Thank you for joining us today. Investor relations personnel will be back in our offices shortly to respond to any further question. You may contact us through our Investor Relations main number at 408-404-8427.

Recommended For You


To ensure this doesn’t happen in the future, please enable Javascript and cookies in your browser.
Is this happening to you frequently? Please report it on our feedback forum.
If you have an ad-blocker enabled you may be blocked from proceeding. Please disable your ad-blocker and refresh.