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Will Sun Rise Again?

Scott McNealy is betting on his No. 2 to turn Sun around.

 

When Ed Zander left Sun Microsystems for top billing at Motorola in 2002, Sun was already in serious trouble. By the time CEO Scott McNealy named Jonathan Schwartz as a highly visible president and COO, Sun’s slump had deepened into a hole that critics doubted it could dig out of. The conventional wisdom was that Sun was trapped in a no-win battle against open source software on the one hand and Microsoft’s push into the server market on the other.

But with two quarters of modest yet encouraging growth under his belt and a much touted, new and improved Solaris operating system ready to ship, the 39-year-old Schwartz is convincing some analysts that he really can help save the company.

From the start, Schwartz understood that the challenges he faced would go well beyond designing multiple turnaround plans for Sun’s hardware and software businesses. He would have to address a crisis of faith. “The No. 1 challenge Sun faces by far is perception, way more so now than ever before,” Schwartz says in an interview at Sun’s Sunnyvale, Calif., headquarters. After an in-depth discussion about its aggressive push to offer its Solaris operating system on cheaper, lower-margin computers€¦quot;a controversial and somewhat risky strategy that threatens to cannibalize other Sun technology€¦quot;Schwartz returns to his original point. “I don’t lie awake at night worrying about technology,” he says. “I worry about perception.”

Undoubtedly, it was more than perception that was rock bottom at Sun last spring when McNealy promoted Schwartz. Sun’s stock price had fallen below $4 from a peak of $60-plus during the dot-com boom, and there was a growing consensus that the company had squandered years of success by failing to adequately rein in costs during the recession or respond to customer demands for cheaper products. In the midst of the turmoil, Schwartz became something of a lightning rod. Some found it curious that McNealy would loosen the reins at such a critical juncture for the company. Others wondered about the choice of Schwartz, who had joined Sun in 1996 after Sun purchased his startup company, Lighthouse Design, and had worked in software rather than hardware divisions ever since. Still others focused on the most trivial detail about Schwartz: his ponytail, one of the few concessions he makes to Silicon Valley casual in an otherwise buttoned-down wardrobe featuring starched shirts and tailored suits.

Whether it’s the fruits of a new strategy that Schwartz helped put in place or just the kind of bounce that struggling businesses often experience from the depths, both perception and reality are looking up at Sun. In October, the company reported a narrower first-quarter loss and its second straight quarter of improved revenue. In mid-November, it unveiled its high-performing Solaris 10 operating system, receiving an enthusiastic response from Wall Street. “Certainly, it is very encouraging,” said SG Cowen analyst Richard Chu, who gives Schwartz much of the credit for the tentative turnaround. “He came in at a point when it was very clear there was turmoil in management, that Scott really needed to show there was somebody else at the reins. I had no idea it was going to be Jonathan Schwartz, but in retrospect it makes a lot of sense. He represents the part of Sun that is committed to software.”

That may be a nice way of saying that Schwartz, who has worked overtime to show he is open to new ideas, is the perfect foil for McNealy, who came under attack for being too reluctant to change. “You came knocking, and we didn’t have much to deliver,” Schwartz told a group of customers in September in an exceedingly apologetic address aimed at mending old rifts.

Without giving up control of the company he founded, McNealy has found in Schwartz the yin to his yang. The younger man focuses more on software than hardware, balances a long-standing emphasis on R&D with a healthy discussion of marketing and is conciliatory where McNealy has often been bullheaded. “Our strengths complement one another,” says McNealy. “I completely trust him to drive transparency and accountability throughout the organization.”

If fans of Schwartz talk a lot about his skill at honing the Sun message, it is not just idle praise. There are probably few companies in any industry where articulating a clear mission would be more challenging than it is at Sun, a business with so many moving parts and competitors to be reckoned with that even a simple discussion of its business requires drawing diagrams. Schwartz’s self-chosen task as cheerleader requires not only that he promote the company’s products but also offer a future vision of the high-tech landscape that suggests Sun’s innovations will play a critical role.

These days, the most closely watched part of Sun’s turnaround plan€¦quot;and a topic of considerable discussion on Schwartz’s “blog,” a Web log published on Sun.com€¦quot;is the move to make its Solaris operating system available on its low-end x86 processors, which are compatible with machines made by Intel and Advanced Micro Devices. The shift from linking Solaris closely to high-end Sun servers opens up a vast new market of customers seeking value, many of whom have abandoned Solaris in favor of cheaper operating systems based on the free Linux software. But this same strategy could also jeopardize Sun’s very own high-end server business. Schwartz won’t go into the tricky economics of such a strategy, but insists it is working just fine. “Customers are loving Solaris 10, and loving the innovation we’re putting in front of them, from our newest x86 and Sparc servers to our newest storage and networking products,” he says.

As for Sun’s Java programming language, Schwartz says it has become ubiquitous. “At last count, we had 350 million Java-enabled phones, more than 1.75 billion devices total,” he recently gushed on his blog. Listen to Schwartz long enough and you might forget Sun is a money-losing company with a shrinking work force that has suffered a dramatic loss of confidence. “Sun is the most important company in the world,” he says without a flinch.

Grand rhetoric aside, it seems clear that the company, whose products became so essential in Phase One of the Internet, headed down a path to obsolescence when it failed to meet the needs of customers who were seeking not just fancy technology, but value and service too. Belkin, which sells computer peripherals, is one of a number of former Sun customers that dropped Solaris in favor of a Hewlett-Packard Linux-based operating system.

Explaining the switch, Belkin echoes a familiar complaint, that there is more to technology than a lot of bells and whistles. “The biggest problem with Sun was that their support was lacking,” says John Adcock, Belkin’s director of network services. Perhaps more interesting, Hewlett-Packard does not dispute that Solaris may be the superior operating system. But it maintains the battle for market share will not be won on quality alone. “Even if Solaris were better than Linux, Linux is good enough at a lot of things at a much lower cost,” says Efrain Rovira, director of HP’s Linux marketing.

The subject of cost vs. technology causes Sun’s upper management to bristle. Greg Papadopoulos, Sun’s chief technology officer, argues that Sun customers have huge problems with efficiency, security, scale and predictability, “and we will continue to dedicate almost $2 billion a year to solve them.”

But further down on the food chain at Sun, some employees describe a company that is out of balance: bursting with engineering talent, yet lacking the skilled management to effectively execute. Sun, many of them say, spends aggressively on R&D, but skimps on things like marketing, so much so that divisions are often left vying against one another for the money to make good on promises. “Historically, Sun’s corporate personality has been one that values vision and undervalues execution,” says one recently departed executive. “There’s way too much promising, €˜We can get money out of this thing to give to this thing,’ and then no one does the math.”

Scratch the surface of any one of Sun’s most touted initiatives, the executive argues, and you’ll find a stunning lack of economic planning. Having its Java programming language running on 350 million devices sounds good, until you look at the investment in Java that Sun is trying to pay for, he adds. It will need a far larger presence to break even.

Part of the problem is that while Sun is moving toward a strategy of more open architecture, it’s not being that candid about the numbers. The strategy of pushing Sun’s Solaris onto cheaper servers may be an essential step, but it is not clear that Sun has calculated the impact this could have on its high-margin servers. Schwartz is not willing to disclose the math underlying its two-pronged strategy.

To Schwartz’s credit, he has worked hard to structure the sales force to minimize internal competition among those selling high-end and those selling low-end servers€¦quot;a key issue. As much as Schwartz loves tech talk, it’s clear that what really motivates him is winning in business. He is more than adept at matters of the bottom line and reveals none of that head-in-the-sand R&D mentality for which Sun has so often been criticized.

Analysts like SG Cowen’s Chu believe the turnaround at Sun is real. And, in fact, a recent survey by SG Cowen found that between March and September, Sun posted a lift in Unix market share while IBM’s fell slightly and HP’s dropped off sharply. But Chu also stresses the turnaround is embryonic. “They are being very vocal about their commitment to run Solaris on cheaper x86 boxes, but those numbers are infinitesimal. The amount of money generated from x86 sales is a drop in the bucket,” says Chu. “Sun has a view of their role as a generator of technology for the future, but when it comes to a road map of how they plan to become profitable, they don’t really tell you how.”

That means the jury is still out on whether McNealy has carried out a brilliant repositioning of his company or is just buying time with a loquacious No. 2 until demand recovers for Sun’s high-end gear. Or, in a scenario that still can’t be ruled out, McNealy may just be fiddling while the Linux fires rage on.

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