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Sun: Same song, second verse?

McNealy, Schwartz are cast from same mold, but some expect new CEO to begin layoffs his predecessor avoided.

A correction was made to this story. Read below for details.
news analysis When Sun Microsystems on Monday named Jonathan Schwartz its first new chief executive in 22 years, he and predecessor Scott McNealy predicted more of the same for the company. But that forecast might not come true.

McNealy and Schwartz said Sun's strategy will remain the same even as the former steps back to an active chairman role and the latter takes the company's reins. The Santa Clara, Calif.-based company will preserve its major research and development budget, and a large layoff isn't going to happen, Schwartz said Monday.

But the executives didn't persuade some outsiders who expect Schwartz eventually will have a different answer to the Wall Street cost-cutting pressure McNealy withstood for years. Sun's stock has been largely stagnant as the company struggled with inconsistent profitability and revenue growth, but Schwartz promised Monday that that would change.

"Jonathan will be more willing to make the kind of merciless cuts that Sun has needed for a while," said Technology Business Research analyst Martin Kariithi. "Their SG&A (selling, general and administrative) costs are 32 percent of revenue. That's way too high. It should be at most half of that. They will have to make major headcount reductions."

Scott McNealy Scott McNealy

Investors have driven up Sun's stock in recent months, but Sanford C. Bernstein analyst Toni Sacconaghi believes the company's valuation assumes a major cut of more than 25 percent of the 38,800 or so employees. "A workforce reduction of 10 to 15 percent (3,800 to 5,700 people) now seems more likely, but may not be enough to satisfy current investor expectations," Sacconaghi said in a Tuesday report.

Schwartz said Sun "prudently and responsibly...diminishes the investments that don't make sense anymore." But he added that "there's no plan whatever" for a major layoff. He preferred to direct attention not toward cost cuts but rather to revenue growth as a way to profitability. "We are going to be just as focused on that latter part of the equation as we are on the former," Schwartz said.

The technology strategy may be perturbed less, though. Indeed, much of that strategy--the widespread effort to make almost all Sun's software open source, for example--already belongs to Schwartz, who spent two years as president and chief operating officer as McNealy groomed his replacement.

And the new CEO already has shaped the high ranks of the company. Two years ago, after Schwartz was promoted to Sun president, he got free reign to pick the executives he wanted. "I'm making the decisions about the leaders that report to me," he said in a 2004 interview about reorganizing Sun's server groups.

Stay the course?
The magnitude of changes required likely will be tied to how well Sun fares in the near and medium term.

McNealy argued that the foundations have been laid for Sun's comeback. "Now, It's just a question of a few minor tweaks to the strategies, some strong execution and some creativity that I think Jonathan brings," McNealy said in an interview Monday.

Schwartz hinted that tactics might change even if the strategy doesn't. "Obviously, the strategy today versus 10 years ago may have the same theme--the network is the computer--but the roadmap is a pretty different beast," he said.

Before stepping down as CEO, McNealy said he wanted to make sure Sun launched the UltraSparc T1 "Niagara"-based servers, the "Galaxy" line of x86 servers and the more traditional servers using the UltraSparc IV+ processor. He also wanted to make sure Solaris 10 became open-source software and that "the Microsoft relationship was working well," McNealy said.

That accomplished, McNealy wanted to let Schwartz reap the benefits with a strong financial finish to the company's fiscal year at the end of June. "The only responsible thing is to let the new guy get all the triumph and glory," McNealy said.


Correction: This story misstated revenue generated by Sun's x86 server business. It brings in about $100 million per quarter.
But McNealy's bullish forecasts in recent quarters haven't been justified, Kariithi said. "They were eternally optimistic about their business model--optimistic to a fault," Kariithi said. "They always thought they were going to turn the quarter in the next quarter."

Sun's new server initiatives have showed some promise, though.

The x86 server business currently brings in about $100 million per quarter, Schwartz said, with shipments increasing 81 percent over last year to about 24,000--more than a quarter of the company's shipments.

And in the try-and-buy program that lets customers use an UltraSparc T1 machine free for 60 days, more than 50 percent of participants end up buying the system. Sun last week expanded the try-and-buy program to Galaxy servers, and Schwartz said more is to come: "We're going to roll it out across all the products we have at Sun."

Jonathan Schwartz Jonathan Schwartz

Even one of Sun's biggest competitors--Bill Zeitler, head of IBM's systems and technology group--gives the company credit for its recent moves.

"I think the move to OpenSolaris has been a good one. The move to open up their portfolio to Opteron (AMD's x86 server chip) and away from Sparc and moderate their investments there is a smart thing strategically," Zeitler said Tuesday. "Were I sitting there, those are the things I would have done."

There were bright financial spots as well, with $197 million in cash flow from operations despite Sun's $209 million loss in its most recent quarter. Revenue from the United States grew 35 percent, and even excluding revenue from the acquisitions of StorageTek and SeeBeyond, revenue grew at 12 percent, Chief Financial Officer Mike Lehman said. "This was the first quarter in nearly two years that we saw year-over-year growth in the former Sun stand-alone business. We do not believe it is a one-time occurrence," Lehman said.

Aligned and engaged
Even if Sun may change, McNealy and Schwartz are undoubtedly more similar than different.

"We're different people, but we have the same values," Schwartz said. "We both believe intellectual property is a source of differentiation. We both believe in simplicity as a competitive weapon. We both believe in building the largest community possible and sharing our intellectual property to ensure that market grows. We both believe in the value of innovation and value of innovators."

Because of that agreement, "We have been in lockstep on a number of issues in the last four or five years," Schwartz said.

McNealy agreed: "He and I can finish each other's sentences. We're very aligned strategically."

And they both hog the spotlight to advance Sun's agenda--McNealy with snarky one-liners and Schwartz with a high-profile executive blog. "I'm a lot more verbose. That's why I write a blog. It takes me seven screenfuls to get to the same conclusion," Schwartz said.

Schwartz explicitly said McNealy will continue to be closely involved in Sun affairs. For most people, "you love your job or you love your boss. I've been in the rare position of both," Schwartz said. Then, addressing McNealy, he added, "I admire the hell out of you, and I'm looking forward to your support for the next 10 years."

But Umesh Ramakrishnan, a vice chairman of executive search firm Christian & Timbers, believes market pressures will push Schwartz to the fore and McNealy into the shadows. "I think you'll see Jonathan singing a whole different tune"--one with "severe cost reduction" and "a more focused vision of the company," he said.

Schwartz is young but up to the challenge, Ramakrishnan said.

"This guy is a bright guy. Both on a strategic and tactical level he's proved himself," he said. "I certainly believe he's the right guy for the job."