The Open Road

At the recent Red Hat Summit, company CEO Jim Whitehurst quipped that "flat is the new up," but he clearly wasn't referring to Red Hat. On Wednesday Red Hat announced another strong quarter, with revenue of $183.6 million for the company's second fiscal quarter of 2010.

That's a rise of 12 percent compared with the same period last year. Despite the company's against-the-grain performance in a weak market, however, it may need to invest more in its middleware business to ensure future growth.

But first, the good news. Of Red Hat's total revenue, roughly 85 percent, or $156.3 million, came from subscription revenue. That's an increase of 15 percent compared with the year-ago period. Putting this into context, IDC projects Linux subscription revenue to top $1 billion by 2012. Red Hat should claim virtually all of this at its current pace of growth.

Customers seem content to pay Red Hat for free software that they could get more cheaply elsewhere. While recent IDC data hint at hard times to come for commercial Linux vendors, it hasn't hit Red Hat. Not yet. The company is still a darling with CIOs.

And it may not for some time, with Red Hat reporting deferred revenue of $581 million, up 17 percent compared with the same period last year. The company is increasingly profitable, too. It reported net income of $28.9 million, or 15 cents a share, compared with $21.1 million, or 10 cents a share, for the year-ago quarter.

As part of its quarterly earnings call, Red Hat executives revealed a range of reasons to think its business is on track:

• All top-25 customer accounts renewed, and at 120 percent of the prior year's value. Most customers are expanding their adoption of Red Hat, and more and more are upgrading to Advanced Platform.
• Only three of its top-300 customers up for renewal didn't renew in the quarter, and two of those have returned to Red Hat after the quarter closed.
• Two deals were over $5 million, while 10 deals hit $1 million. Red Hat EMEA (Europe, Middle East, Africa) closed its biggest deal ever in the quarter.
• Of the top 30 deals, 23 included Red Hat Enterprise Linux (RHEL) Advanced Platform, and five included a JBoss component. This suggests that Red Hat's big customers are upgrading to Advanced Platform, according to Red Hat CFO Charlie Peters.
• JBoss continues to grow much faster than the core RHEL business.
• Deal length extended to 22 months from 19 months last quarter, reflecting
• One former Red Hat customer, a large financial services company (almost certainly Credit Suisse), dropped Novell's SUSE Linux and returned to Red Hat with a big order in the quarter. Credit Suisse is one of the companies Novell pulled away from Red Hat by using Microsoft-subsidized coupons, but Peters indicated that the customer had returned because of Red Hat's superior value. It appears that Red Hat is a better value than free.
• Red Hat is taking share from its competitors rather than seeing an increase in net new server purchases.

Despite the mostly sunny skies, Red Hat's slowing revenue growth remains a concern. The trend kicked off in 2005 and has continued apace since then despite a brief respite in 2007, as The 451 Group reports.

Of course, as Red Hat gets bigger, and as the economy remains stagnant, it's normal that Red Hat's revenue growth will slow.

But it's also normal that as it slows, companies like Red Hat will look for increased growth beyond their core businesses. Oracle is perhaps the most obvious example of this.

Red Hat doesn't need to get into video game consoles (e.g., Microsoft's Xbox) or hardware (e.g., Oracle's pending acquisition of Sun) or a variety of businesses far afield from its core infrastructure business. After all, Red Hat clearly has a lot of room to grow its JBoss/middleware business, and arguably needn't acquire its way to that growth.

But it does need to significantly change the way it views its channel partners.

Red Hat's traditional Linux partners are absolutely the wrong group to be selling its middleware offerings, a fact that took Red Hat some time to digest. Now, however, Red Hat seems to be getting the picture and has launched its Catalyst Program to sell turnkey open-source solutions through a growing ecosystem of value-added resellers (VARs).

Catalyst, however, is still in its infancy. It remains to be seen whether this program will stick, as Red Hat has moved away from ecosystem efforts like its Red Hat Exchange in the past.

For Red Hat's sake, it should stick with this one. Through Catalyst and other means, Red Hat needs to place more emphasis on the world outside of Linux. The company believes that virtualization and cloud computing are big opportunities, and they are, but these are mostly ways to build upon RHEL, rather than ways to extend its reach into fast-growing, diverse markets.

Red Hat is an execution machine and will undoubtedly be able to continue to grow its Linux business, and possibly to accelerate that growth again through enhanced investments in virtualization and cloud computing. But the real growth for the company is a bit higher up the stack in its middleware business.

Peters said that the company is investing significantly more in JBoss than RHEL, proportionate to the revenue each brings. That's good, but also obvious, given that Red Hat's JBoss business is comparatively small to its RHEL business. It may be time to invest even more in JBoss.

Red Hat on Wednesday announced that it has started offering migration tools to enable enterprises to abandon their proprietary middleware solutions for open-source Red Hat's JBoss product.

It's a new salvo in Red Hat's increasingly successful campaign to replicate its Linux operating system success in the application server market.

Importantly, the new JBoss Mass (migration assistance) program is not just about software. It's also a community effort, including system integrator partners such as RivetLogic and CityTech, which aims to "connect new JBoss customers with existing customers and partners who have extensive migration experience."

In my own experience with migrating customers from one system to another, this community involvement will be the critical ingredient to making JBoss Mass successful. No software tool can infallibly migrate enterprises from one product to another. Experienced consultants make a big, positive difference.

By recognizing and including this community of consultants and customers from the start, Red Hat is demonstrating the savvy that comes from spending years migrating customers off proprietary Unix servers to Red Hat Enterprise Linux servers.

It's paying off. As The VAR Guy recently noted, Red Hat has effectively dispelled the myth that there's no money in open source. Red Hat is the first open-source vendor to cross the $500 million in revenue mark, and it shows no signs of stopping.

Red Hat's JBoss business increasingly delivers significant revenue to Red Hat. Red Hat will be rolling out its JBoss Application Server 5.0 within the next few quarters, reports The Register, which, among other things, will even more effectively modularize the JBoss AS code, making it easier to run on "run on everything from Web servers and caching servers to the full-on Java Enterprise Edition application server."

Such innovation at a fair price, via a fair distribution and development model, is why JBoss is Red Hat's fastest-growing product by revenue. It's also paving the way for Red Hat to more diligently explore expansion of its product line beyond core infrastructure like the operating system and application server.

Red Hat continues to impress. Coming off its already-strong first quarter and higher guidance for its fiscal year, Red Hat announced on Wednesday 29 percent year-over-year growth for its fiscal second quarter and 5 percent growth over its first quarter.

Total revenue for its second quarter hit $164.4 million. Both revenue and profit came in above analyst expectations.

This was the first time in years that Red Hat's second-quarter billings exceeded its first quarter billings. Not bad for a company that gives away free software.

Importantly, Red Hat appears to be doing longer-term deals, as its total deferred revenue balance was $496.9 million, growing 32 percent year-over-year and 1 percent sequentially. This would suggest that Red Hat customers are increasingly comfortable making a long-term bet on Red Hat's future. Indeed, on the analyst call, Red Hat Chief Financial Officer Charlie Peters indicated that the average booking for Red Hat is 24 months and that 36 percent of its subscriptions are for a term greater than one year.

In selling longer-term deals, Red Hat is successfully blocking competitive pressure from Novell, Microsoft, and other companies that might want to cut into its accounts.

On the earnings call, Peters and CEO Jim Whitehurst identified several key trends:

Craig Muzilla,
vice president,
Red Hat

It has been a little over two years since Red Hat acquired JBoss. Despite a relaxed public spin, rumors at the time, and for long afterwards, persisted that Red Hat didn't understand middleware, had botched the integration of the JBoss employees and culture into Red Hat, and worse.

However, in an interview Wednesday with Craig Muzilla, vice president of the Red Hat middleware business line, it became clear that JBoss--which includes all of Red Hat's middleware product line, including MetaMatrix--has finally come into its own at Red Hat. I had been hearing from different corners of Red Hat, as well as from Red Hat's competitors, that JBoss has been on a massive growth boom of late--rumors that Muzilla was happy to confirm.

JBoss is growing at twice the rate of Red Hat Enterprise Linux (RHEL). Translation? Rocket, meet bat out of hell.

The big question for Red Hat going forward is how this JBoss success will alter Red Hat's product priorities going forward. How long will Red Hat be content to be thought of as "that Linux vendor" when an ever-increasing percentage of its revenue derives from middleware?

Asay: Can you give me an update on Red Hat's middleware business?

Muzilla: We're now 26 months past the JBoss acquisition by Red Hat. Initially there were some hiccups, but we are now firing on all cylinders.

While Red Hat initially tried to use its existing RHEL sales force to sell JBoss, we learned that we needed to do some things a little differently with JBoss. So now we have dedicated sales experts for JBoss. We also went through an extensive amount of training for Red Hat's general sales team and others within Red Hat to ensure we were selling the value of JBoss.

Additionally, though Red Hat has a very strong channel business, with around 60 percent of our revenue coming through the channel, it quickly became apparent that Red Hat's existing RHEL channel wasn't right for selling JBoss. So we've beefed up our channel to work better with the type of partners that make sense to middleware, particularly system integrators.

In fact, in recognition of the need for greater understanding of and expertise in systems integration, we acquired Amentra, a leading JBoss systems integrator, earlier this year. Amentra gives us a core competency to be much more solutions driven, which has been a key to our rapidly growing JBoss business.

The result? Charlie Peters, our CFO, has disclosed that our middleware business is growing at twice the rate of our traditional RHEL operating system business.

Asay: Given the success of Red Hat in its JBoss middleware business, does this suggest Red Hat should be focusing more there, or even further up the stack?

Muzilla: Certainly people expect JBoss to be a growth engine for Red Hat. We'll continue to focus on growing this core mission of Red Hat. As [Red Hat CEO] Jim Whitehurst has stated, we have barely scratched the surface in our infrastructure business. We see a lot of promise in RHEL and JBoss.

Asay: Are there particular applications--proprietary or otherwise--that JBoss tends to get deployed alongside, similar to how Oracle was the early driver for much of Red Hat's Linux business?

Muzilla: We have a lot of commerce and transactional applications out there like Travelocity with which we work. We're strong in hospitality, financial services, government, among others, and are also seeing some interesting point of sale applications. We span horizontally across many industries.

One significant new trend, however, is how we're being considered within organizations where we've long played a relatively minor role. Five to six years ago in our Linux business, there was an inflection point when our RHEL adoption went from technical adoption of Linux to a more strategic decision to take a platform approach to RHEL. We became a platform standard within organizations.

We're at the front-end of that inflection point in our middleware business. JBoss started off as an organic, developer-driven phenomenon. We were used in departmental deployments.

Enterprises are now looking at us on a much larger, much more strategic scale. Something like 90 percent of the Fortune 2000 have JBoss somewhere in their organizations. JBoss is being used pretty much everywhere.

But now what is happening is that these organizations are looking at JBoss as a strategic platform, not simply a one-off. These conversations aren't about, "Give us support for our small project." The conversations are now, "If we're considering using JBoss as a stratetgic platform, how can Red Hat help us with this?" Twenty-four months ago we weren't having those converstions. Today, we are.

I'm sure this phenomenon isn't isolated to Red Hat. We're likely going to see other open-source software go through similar inflection points.

Asay: Fascinating. So just at the point that JBoss becomes old news in the media, it becomes hugely interesting business news to CIOs.

Muzilla: Exactly. Seven years ago you'd see CIOs awash in a number of different operating systems, but then IT organizations decided to consolidate into just a few systems, and the second alternative to whatever the dominant proprietary product tended to be open source. That strategic platform is RHEL in operating systems, and is becoming JBoss in middleware. Maybe soon it will also be an open-source CRM system, ECM system, etc.

Asay: What about the near-term product roadmap? Anything in particular that's coming down the pike soon?

Muzilla: For this I'd encourage you to read Sacha Labourey's blog on the topic. He goes into a lot of detail. A hugely significant value that we're providing in JBoss 5.0 is the ability to separate the base runtime from the middleware services from the API/programming layer. [Sacha writes:]

JBoss AS 5.0 is the first release which will give us the ability to cleanly separate those three layers. The JBoss Microcontainer abstracts us from the runtime environment and our core enterprise services have been completely componentized and aspectized so they can be fully leveraged from any higher level framework/API/language.

This new architecture means your investment in JBoss is a long term one. Our core architecture is not dependent on any fashionable spec or language du jour: personalities can be plugged in and out, a la carte, you don't have to make a bet on which API is "the" API you need, and then be locked in one of the few AS implementations that implement such API--possibly relying on weaker core middleware services.

That's the near-term vision for JBoss Application Server. Our philosophy for our next release is choice and flexibility. If you want to use Spring as a Java framework with JBoss, you will be able to do that. If you want to use our own complete stack, you can do that, too. It's up to the customer to decide, not us.

Our strategy is to focus on the application server and the application platform, but at the end of the day we need to have more components so that we have a full reference architecture. Our goal is to offer the best complete package for our customers. In some cases we may not have "The Best ESB" or some other individual component, but in terms of the overall package, we are the best.

Asay: What's your chief competitive weapon as you battle the big ecosystem vendors like Oracle that provide end-to-end software stacks?

Muzilla: Value is our primary competitive differentiator. Beyond that, we're also driving significant innovation. We are technically superior in significant ways to our proprietary competition that they simply can't match due to their closed-source code or their legacy code constraints. Is BEA rock solid? Sure. But it's lacking in other attributes--value, flexibility, innovation--and this void is driving customers to look to Red Hat.

It sounds like an exciting time to be at Red Hat. Its operating systems business continues to thrive, while its middleware business heads into overdrive. Red Hat is putting itself into a position that it could move in a number of different directions (e.g., dramatically building out its middleware business, adding applications, etc.). Success does that for a company.

Where it will end up is anyone's guess. But for now, it's great to see JBoss return to the industry as one of open source's crown jewels, rather than the wreckage of a failed acquisition.

Red Hat's JBoss division has big plans for the future. Fortunately, it's not squandering its development pool to get there.

JBoss was always an ambitious project and company. It would appear that not much has changed now that JBoss is a division within Red Hat, as Red Hat announced today its intention to push JBoss into 50 percent of enterprise middleware workloads by 2015. This isn't 50 percent of all installed middleware, but rather than half of every new enterprise middleware deployments in 2015 will be JBoss.

That's pretty impressive, even if only aspirational at this point.

Much more interesting to me than this marketing aspiration (as this really is all such a number can be at this point, given that we're eight years away from being able to measure the claim) is the fact that the JBoss development team is still intact. For Red Hat to reach its ambitions, it has to retain good employees that contribute to that vision, and specifically the developers who lead and develop the projects.

During Red Hat's press conference on JBoss today, therefore, I asked if the reported JBoss defections had hurt JBoss' momentum.

It's nice to see Red Hat investing in JBoss. It's good for the company and, I believe, good for JBoss.

In the first formal offering of the JBoss Application Platform with an OEM, Red Hat and Dell today announced that Dell will be shipping its PowerEdge servers with the JBoss Enterprise Application Platform or the Red Hat Application Stack, which includes Red Hat Enterprise Linux, JBoss Enterprise Application Platform and MySQL.

Most interestingly (though not surprisingly), you can get JBoss Enteprise Application Platform preintegrated and bundled with Windows, too.

The Dell/Red Hat offering features three solutions: