Sun’s Near-Term Outlook Is Not Too Bright

Sun Microsystems tried to put the best spin it could on a 73 percent drop in profit for the most recent quarter, but investors and analysts aren’t buying it as the company’s stock was hammered throughout the day.

The server and storage vendor took the unusual task of announcing its fourth quarter and year-end numbers before the open of the market, and held the conference call at 5 am Pacific time.

Sun (NASDAQ: JAVA) earned $88 million, or 11 cents per share, in the fourth quarter of its fiscal year ended June 30, 2008. That’s quite a drop from the $329 million, or 36 cents per share, it reported in the June 30, 2007 quarter. Analysts had been expecting 25 cents per share of profit.

Sales were $3.78 billion, a one percent decline from $3.84 billion last year. That was in line with analyst estimates. For the full 2008 fiscal year, Sun earned $403 million on $13.9 billion in sales.

Like he did last quarter, CEO Jonathan Schwartz said the problem was due to weakness in the U.S. offsetting growth around the world. Around 40 percent of Sun’s business is in the U.S., compared with around 20 percent for Intel and IBM. Sun’s U.S. sales were off by eight percent year-over-year.

“There’s no question the challenging U.S. macroeconomic environment has hindered our ability to grow the top line, and we have a greater share of our business in the U.S. than our peers,” Schwartz told a conference call of financial analysts.

The emerging markets simply aren’t emerging fast enough. Revenue in 2008 in EMEA (Europe/Middle East/Africa) grew five percent year-over-year, Asia-Pacific grew three percent, and the Americas 16 percent. In particular, Brazil was up 20 percent, Russia up 12 percent, India up 30 percent and China up 13 percent.

The storage business grew 3.9 percent year-over-year while services, a $1.394 billion annual business, was up 3.8 percent. Schwartz said that as more Sun intellectual property replaces licensed property, its gross margins will rise. Gross margins fell 2.9 points to 44.3 percent, which is also worrisome to analysts because it means the company is making less money off each sale.

Gushing for Niagara

Still, Schwartz was particularly bullish on the growth of the UltraSPARC T2 “Niagara” product line, which grew 60 percent in 4Q08 over the same quarter last year, and 80 percent in fiscal 08 over fiscal 07 to become a $1.1 billion business in 2008.

“Niagara and open source products represent how the company is being rebuilt,” said Schwartz. “People moving to Niagara are doing so because they are constrained by their electrical budget or are dealing with space constraints in their datacenters and need maximum power and performance efficiency.”

Wall Street didn’t share his optimism. Sun’s shares sank 13 percent during the trading day, in part due to weak guidance going forward. Chief Financial Officer Michael Lehman said he expect FY09 Q1 revenues to decline year-over-year and be down in the U.S. for the first half of the fiscal year.

“We don’t expect of growth until second half of the year and don’t expect a lot then,” said Lehman. “Growth is coming in other areas.”

However, he said the company was confident it could remain cash flow positive, and pointed to the fact that the board had authorized a buyback of $1 billion in shares.

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