April 14, 2005 4:11 PM PDT

Sun misses revenue, profit targets

Sun Microsystems reported shrinking revenue on Thursday for its most recent quarter, while its net loss was deeper than analysts expected.

The server and software maker reported break-even earnings per share for its fiscal third quarter, which ended March 27. Revenue dropped 1 percent from $2.65 billion a year ago to $2.63 billion.

Excluding several unusual charges and gains, the company had a net loss of $61 million, or 2 cents per share. On that basis, analysts surveyed by First Call had expected break-even results and also had expected revenue to increase to $2.74 billion.

"We've got to get the revenue moving, now that we've got the cost structure way more in line."
--Scott McNealy
Sun CEO

Sun shares closed at $3.96, but dropped 18 cents to $3.78 in after-hours trading.

Sun has embarked on a plan to increase the prominence of its software products and to build new machines with Advanced Micro Devices' Opteron processor. But the efforts so far haven't yet triggered a consistent recovery of either the company's stock or revenue growth.

"We've got to get the revenue moving, now that we've got the cost structure way more in line," Chief Executive Scott McNealy said in a conference call. But no one doubts the company's long-term viability, he said. "What has gone away is the question, 'Are you going to make it?' That question doesn't get asked anymore."

But others remain skeptical. "Despite several steps in the right direction (cost-cutting, settlement with Microsoft, cooperation with Fujitsu, movement to a subscription-based revenue model, etc.), we have not seen an appreciable change in Sun's business or leading indicators to be willing to make an active bet that the company's financials are likely to materially improve over the next several quarters," Sanford C. Bernstein analyst Toni Sacconaghi said in a report Wednesday.

Among the rosy signs McNealy observed: a narrower loss than the previous year's quarter, stable revenue in the first three quarters of 2005, improving profit margins and reduced operating expenses. He also said servers using x86 processors such as Opteron are increasing and that shipments of the company's new version 10 of the Solaris operating system exceeded expectations.

Jonathan Schwartz, who just celebrated his first anniversary as Sun's president, acknowledged the disappointing revenue figures, but said the company is managing its transition well.

"Contrary to some predictions, our gross margin has been consistent as we move to this new profile based on low-end systems and recurring revenue," Schwartz said.

Low-end and midrange servers sold well, but Sun said there was a downside, arguing that the success there crimped revenue from high-end servers and the storage systems that often are sold at the same time.

By the numbers
Solaris now may be obtained at no cost and shortly will be open-source software. Since the release of Solaris 10 in January, more than 1.1 million copies have been downloaded, Schwartz said.

Linux has shown that free downloads can help seed a market, but Schwartz wouldn't predict how many Solaris downloads will lead to support subscriptions. But there will be some: "Large-scale enterprises don't put products into deployment without a service contract. I don't care how free they are," he said.

Rich Napolitano
Rich Napolitano

For the first time, Sun disclosed unit shipment numbers for its x86 server sales. Of the roughly 80,000 servers the company sold in the quarter, about 12,000 were x86 models, according to a company chart. The x86 shipments grew 197 percent compared with the year-earlier quarter, which compares with 8 percent unit growth for servers overall.

About 20 percent of the x86 servers ship with Solaris, Schwartz said.

Less strong was growth in sales of the Java Enterprise Systems server software. Sun sells subscriptions that permit a company to use a suite of software on as many computers as desired, with payments based solely on the number of employees in the company.

The company sold 15,000 new JES subscriptions, the lowest growth since Sun began the program nearly two years ago. Tthe total number of JES subscriptions has now reached about 433,000, Sun said.

Another weak spot was North America, where revenue shrank 5 percent. In response, Sun has named a new head of North American sales, Rich Napolitano, who came to Sun through its acquisition of Pirus Networks.

 

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