Schwartz’s Sun Rising

Andy PatrizioReporter’s Notebook: When Scott McNealy stepped down as the head of Sun Microsystems last April to make way for Jonathan Schwartz in the CEO role, skeptics didn’t give the ponytail-sporting executive much of a chance.

Eight months later, Sun  is pulling out of its earnings spiral, and, though it’s not soaring at the same altitude as some of its competition, its cost-cutting and strategic moves are making a difference.

It hasn’t been easy. Schwartz took over a company with a recent history of spotty earnings results, including two straight years of net losses, $107 million in fiscal year 2005 (on $11 billion in revenues) and $864 million in fiscal year 2006 (on $13 billion in annual revenues), according to Sun’s full-year earnings statements.

But yesterday’s results are helping to write a new chapter that suggests Schwartz’s Sun is rising. The company posted a profit of $126 million (3 cents per share) for its second fiscal quarter of 2007, compared to net loss of $223 million (7 cents per share) during the same, year-ago quarter.

Revenues grew by 7 percent to $3.6 billion, an increase of 7 percent as compared with $3.3 billion for the second quarter of fiscal 2006.

This week, Schwartz announced a deal with Intel that includes shipping Sun servers with optimized Xeon systems. The deal is thawing the chilly relations between the two firms, and adding more fuel Sun’s turnaround strategies.

Wall Street, which has been skeptical of Sun in the recent past, is warming up to the firm’s stock. Shares of Sun were hovering around $4 when Schwartz took over eight months ago. Lately it’s been in the $6 range, a 50 percent gain.

Cost cuts have done their part, too. One whole campus and 5,000 people were cut loose. Changes in operating expenses have strengthened the bottom line, and, more importantly, the company is enjoying renewed customer favor.

“I think a lot of people have been surprised about how effective [Schwartz] has been,” said Merv Adrian, senior vice president at Forrester Research. “A lot of people thought it was a classic case of putting the smartest guy in the room in charge, like putting the best salesman in charge of sales, when the two skill sets are not mutually compatible.”

Adrian credits Schwartz with being pragmatic and being willing to gore a few sacred cows to get things done. One of the more obvious examples was Sun’s embrace of AMD’s  Opteron chips. A long-held assumption was that Sun’s SPARC chips were sacred cows and no alternatives were possible.

But there’s more to a Sun Fire server than a CPU. Even though Opteron-based Sun Fires don’t make as much money as SPARC-based ones, the fact is they sell, and Sun can sell them because it knows how to build good hardware.

Ancillary to this is that, sometimes, big changes can only come about with a change of personalities. It was only after the acerbic McNealy stepped aside, for example, that Sun and Intel could make peace and reach their deal.

At the announcement of the deal, Schwartz talked about how he called up Otellini shortly after becoming CEO of Sun and the two went to a casual dinner, which eventually culminated in the agreement. It makes one wonder what could happen if Ballmer ever leaves Microsoft.

Schwartz also rejected the notion that it was impossible to open source Sun’s intellectual property. Sun clung to that notion for too long, said Adrian. “The conventional wisdom when Sun made these decisions [pre-GPL] was that Sun has made a terrible error at not figuring out how to monetize Java,” he said.

Instead, Sun has done an about-face and is now using the GNU General Public License (GPL) to release OpenSolaris and Java. It’s resulted in very happy open source advocates and is turning into an opportunity to sell the expensive hardware.

So using Java almost like a loss leader, Sun has used that as the toe in the door to build further relationships with customers. This was made clear in its recent Solaris announcements. Sun sees Solaris as a mature operating system for anyone considering open source and is now positioning Solaris against Linux.

In other ways, though, Schwartz is the beneficiary of very good timing. The market is falling into line with its strategy more than the other way around. The emergence of the Web 2.0 phenomenon and aggressive, small startups looking to get up and running fast is perfect for a company that specializes in turnkey Internet solutions that can get an Internet company up and running almost as soon as it plugs in the hardware.

For skeptics who thought that McNealy simply stepped away because he’d become too much of a liability, and Schwartz was an ideal puppet, forget it. “My perception is that Jonathan’s in charge,” said Adrian. “Scott is busy and happy and enough of a pragmatist that he looks at what’s going on, sees it’s going well and is happy with that.”

In hindsight, Sun’s embrace of the GPL may turn out to be the most radical decision its made. Ok, so it may have cost the company a major talent, but they gained favor in the open source community.

There is still work to be done. The jury is still out on Sun’s portable datacenter, The Blackbox. Its services and storage divisions run well behind HP and IBM’s services and EMC’s storage.

And while Sun has done a fine job of capturing the hearts and minds of Java developers, it still needs to make money off that, because Java programmers don’t make buying decisions.

But for now, Sun appears to be enjoying a turn-around of decent fortune, not quite on par with AMD and HP, but far better than the fate of the many dot coms that bought its hardware in the past decade.

Andy Patrizio is a senior editor in the San Francisco bureau of

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