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Sun: A "real stretch" to break even

Unexpectedly low sales in Europe and Japan mean a first-quarter profit is unlikely, the company says at its midquarter conference.

Unexpectedly low sales in Europe and Japan mean a first-quarter profit is unlikely, Sun Microsystems said Wednesday.

"This quarter has proved to be quite challenging," Chief Financial Officer Michael Lehman said during the company's midquarter conference call with analysts. "At this rate, it will be quite challenging for us to hit that breakeven point in revenue."

The server and storage maker's widely anticipated midquarter report indicated ongoing soft demand. Two months into the first quarter, demand in Europe and Japan has been less than expected, Lehman said. Demand in the United States is near expectations, he added.

Sun traded at $12.55 in after-hours activity on the Island ECN, following the conference call. The stock fell 13 cents at $13.43 in Wednesday's regular trading prior to the midquarter report.

Sun previously said it would need $3.7 billion in first-quarter revenue to break even. "It will take a very large month in September in terms of demand for us to meet the breakeven point," Lehman said.

Lehman declined to give a specific target for first-quarter sales.

"I do not want to give a revenue range for Q1 at this point, given how uncertain things have been in the last few months," he told analysts. "At this point, I'm just saying it's going to be a real stretch to meet that $3.7 billion number."

Analyst consensus was predicting a first-quarter profit of 2 cents per share on revenue of $3.8 billion, according to earnings tracking firm First Call. Sun's fiscal first quarter ends in September.

At least one market researcher has said Sun, Dell Computer and Compaq Computer recently lost market share in servers to IBM, but Lehman blamed the soft quarter entirely on a soft economy. "I just do not...hear us losing that many deals to anyone in particular," Lehman said. "It's obviously tough out there and every deal of any size is being bid and rebid...but I don't see any one company in particular gaining share during this time for any particular reason."

Competition is a "very minor" part of Sun's woes, said Dan Niles, analyst with Lehman Brothers. "I think it's primarily the macroeconomic environment," he said. "It's a negative for all of technology."

Server prices haven't changed much, the CFO said.

"While the pricing environment is tough, it is not dramatically tougher than it was last quarter," he said. "There's always this sort of high-level wrangling that goes in (contract bids)...but actually pricing per se, while it may be marginally a little tougher, is not dramatically different."

Low expectations
Wall Street wasn't expecting uplifting news. Shares of Sun fell more than 10 percent since Friday, as at least six analysts lowered their first-quarter estimates for Sun over the past week.

Yet Wednesday's report was even worse than expected, Niles said. Many Wall Street observers were anticipating that Sun would at least hit its breakeven target of $3.7 billion in sales; now Sun is likely to generate first-quarter revenue of about $3.6 billion, Niles said.

In his research note previewing the midquarter report, Merrill Lynch analyst Thomas Kraemer said he believes Sun might have to cut costs, including jobs.

"With demand remaining anemic, Sun will likely be closer to doing layoffs and a restructuring than at any time in its history," Kraemer wrote Wednesday. "We will have to see. It would seem that a smaller expense structure might be appropriate since the timing of a recovery in demand looks uncertain."

Sun recently announced plans to eliminate hundreds of positions, although the company refused to characterize them as layoffs. The company will end the September quarter with about 500 fewer workers than in it had in June, Lehman said. Sun has more than 43,000 employees.

The company plans to stick with its current expense plans at this point, Lehman said. Sun is planning for first-quarter operating costs of about $1.6 billion, about the same as in the fourth quarter.

"We are still going ahead with the overall kind of cost structure that I mentioned," Lehman said. "We obviously look at that very regularly, but at this point, are reaffirming that this is the direction that we are going."