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Novell's Linux Business Still Not Profitable

Novell (NASDAQ: NOVL) is managing to grow its Linux business despite a difficult economy, but is it profitable? The answer, according to both Novell's CEO and its CFO, is not yet.

"We have invested heavily in our Linux business to gain market share and acquire new customers," Novell CFO Dana Russell said on the company's quarterly conference call last night. "While the business is not yet profitable, we are making steady progress and plan for it to be break-even no later than 12 to 18 months from today."

Novell entered the Linux business in 2003 with the acquisition of SUSE Linux for $210 million and Linux desktop vendor Ximian.

Novell reported its second quarter fiscal 2009 results after the market close yesterday, with net revenue for the quarter coming in at $216 million, a decline from the $236 million reported for the second quarter of 2008 and just below Wall Street estimates.

On the net income side of the books, Novell reported $16 million ($0.05 per share) for the second quarter of 2009 which is an increase over the $6 million ($0.02 per share) for the second fiscal quarter of 2008. The company's pro forma earnings -– factoring out certain charges – came in above the Thomson Reuters consensus forecast.

During the quarter, Novell's Linux platform products were strong performers, with sales hitting $37 million, representing a growth of 25 percent on a year-over-year basis. A good chunk of Novell's Linux success comes as a result of its partnership deal with Microsoft (NASDAQ: MSFT), which resells Novell's SUSE Linux.

Russell noted that so far, Novell has invoiced $213 million, or 89 percent of the original $240 million agreement with Microsoft. That invoiced figure represents an increase of $14 million over the $199 million invoiced that Russell reported for Novell's first quarter 2009 results. Last August, Microsoft took out an option to expand the partnership by an additional $100 million.

"We continue to gain traction in the Linux market and we are pleased with our progress," Russell said. "We had several competitive wins during the quarter and are encouraged by our success and ability to compete in the marketplace."

Novell CEO Ron Hovsepian explained that part of his company's Linux growth is coming by way of an expanded partner program that is driving more deals through the channel.

"We are encouraged by the quality and quantity of deals registered in the partner pipeline and expect this to be an important sales channel in the future," Hovsepian said.

Novell is also making progress in moving its NetWare customers over to the Linux-based Open Enterprise Server (OES). OES enables Novell's NetWare users to run NetWare in a paravirtualized environment on top of SUSE Linux Enterprise Server. According to Hovsepian, the most recent migration survey indicates that 75 percent of NetWare users have migrated some portion of their product servers to OES Linux.

While Linux is not the only line of business that Novell offers, it is strategically important.

"While our Linux business serves an important role in acquiring new customers and selling our complementary cross-platform management solutions and Identity and Systems Resource Management, its strategic importance as an enabling technology platform will allow us to deliver our solutions in a variety of traditional, appliance, public and private cloud environments," Hovsepian said.

During the call, Hovsepian was asked about his views on how the pending acquisition of Sun (NASDAQ: JAVA) by Oracle (NASDAQ: ORCL) might impact Novell's business.

"Assuming everything Oracle has said publicly about keeping all the pieces, I think it actually raises some interesting opportunities for ourselves," Hovsepian said.

He added that once the acquisition closes, Oracle will have two identity management businesses. In his view, one of those groups of customers might be available to transition to Novell.

"We do see it as an opportunity again because of the change, and we are convinced the customers will just want some more choices there," Hovsepian said.

Novell shares traded lower by about 5 percent this morning on the company's results.