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Slow Sun revenue growth surprises analysts

Analysts lower projections after Sun Microsystems misses revenue expectations, but most still believe the server maker will emerge strong from today's economic troubles.

Analysts expressed surprise Friday at how badly Sun Microsystems missed revenue expectations for its most recent quarter and lowered future projections accordingly, but most still believe the server maker will emerge strong from today's economic troubles.

"Again we're taking a meat cleaver to our (fourth-quarter) and fiscal 2002 estimates," said Merrill Lynch analyst Tom Kraemer in a report Friday. Analysts already had lowered their expectations after Sun halved profit expectations in mid-February.

On Thursday, the Palo Alto, Calif., company reported pro forma net income of $263 million, or 8 cents a share, on revenue of $4.1 billion, edging past analyst expectations of 7 cents per share. Analysts, though, had been expecting much more revenue.

Kraemer expected $4.4 billion in revenue, $300 million more than Sun actually garnered. Goldman Sachs' Laura Conigliaro's worst-case scenario still had $100 million more in revenue than Sun reported. Sun missed the estimate of Lehman Brothers' George Elling by more than $200 million.

The reason Sun managed to edge expectations, according to Toni Sacconaghi of Sanford Bernstein, was "Herculean expense management." Of the $240 million in administrative expenses Sun said it saved in the quarter, the largest factor was a reduction in the money Sun had earmarked for employee pay linked to Sun's performance.

Sun shares slid $1.01, or 5 percent, to $19.70 in midday trading Friday.

Analysts also expressed concern about the 6 percent slide in Sun's gross margin, a key measure of profitability. "The most alarming news from the (conference) call was the magnitude of gross margin erosion," Sacconaghi said. Sun said it expects gross margins to improve gradually in coming quarters.

Analysts typically compare financial performance with the same quarter a year ago. In Sun's case, that means its current results are being matched with times when Sun was riding the Internet wave and pitching itself as "the dot in dot-com."

Now, though, "being the dot in dot-com has its disadvantages," said UBS Warburg analyst Don Young. In addition to the dried-up Internet company customer base, Sun has been hurt by curtailed spending at telecommunications companies, which Conigliaro estimated was responsible for 35 percent of Sun's revenue at its peak.

There is hope, though.

"While a worldwide information technology spending upturn may be a few quarters away, in our view, Sun's shares are among those to own once the cycle turns," Elling said.

Conigliaro believes the worst troubles now are behind Sun. "We think it's reasonable to assume that Sun has probably hit the low point in its cycle," she said.