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Stephen Shankland

Staff Writer, CNET

Sun Microsystems reported on Thursday a profit of $19 million, or 1 cent per share, for the last quarter of 2004, but the server and software company’s revenues once again declined.

For the quarters ended June and September 2004, Sun’s revenues grew, a positive sign for a company that had experienced three years of declines. But for the quarter ended Dec. 26, revenue shrank 1.6 percent from $2.89 billion to $2.84 billion compared with the year-earlier period.

Sun has several ambitious efforts in the works to regain prominence.

Net income was $19 million, or $28 million including several one-time charges and gains. The profit of 1 cent per share–compared with a loss of 4 cents a year earlier–met average expectations of analysts surveyed by Thompson/First Call, but the revenue was less than the $2.93 billion they projected.

Sun generated $52 million in cash from operations, increasing its cash and marketable securities balance to $7.46 billion.

In the late 1990s, Sun was a dominant seller of powerful, networked computers called servers. However, since the Internet bubble burst and the economy slumped, the Santa Clara, Calif.-based company has struggled to return to that position of strength. Rivals including IBM and Dell continue to gain market share at Sun’s expense.

But Sun has several ambitious efforts in the works to regain prominence. Among them: aggressive promotion of a 64-bit version of the Solaris operating system that runs on servers using x86 chips such as Intel’s Xeon and Advanced Micro Devices’ Opteron; the Java Enterprise System collection of server software whose annual cost is $100 times the number of employees a customer has; a service to rent its computers for $1 per processor per hour; a partnership to share Sparc processor and server designs with Fujitsu; the upcoming release of Solaris as open-source, no-cost software; and a partnership with Microsoft to ensure the rivals’ software works together smoothly.

On a conference call with analysts, Chief Executive Scott McNealy defended his company’s position and performance.

“There’s no free fall. There’s no 10, 15, 20 percent down year-over-year (for revenue). This is quite a stable demand picture, an improving gross margin picture, a fantastically improved cost structure and break-even story,” he said.

Sun is trying to increase the fraction of its revenue that recurs quarter after quarter through long-term agreements such as Java Enterprise System subscriptions or support agreements. Currently, 35 percent of Sun’s revenue is recurring, but the company wants to reach at least 67 percent, Chief Financial Officer Steve McGowan said in an interview.

Recurring revenue is increasing. Sun’s deferred revenue backlog–the money customers have pledged to spend but that Sun hasn’t yet booked–increased 9 percent in the quarter compared with the previous year, McGowan said.

Sun still is only getting its feet wet in the x86 market, and Linux has been more popular than Solaris there for Sun customers, according to Gartner statistics highlighted by Sanford C. Bernstein analyst Toni Sacconaghi in a Thursday report. The company shipped 13,002 servers with Intel’s Xeon processor in the first nine months of 2004, of which 58 percent used Linux. For Opteron servers, Sun shipped 10,566, of which 73 percent used Linux. For x86 servers overall, 65 percent shipped with Linux.

But in a statement Thursday, the first positive news McNealy chose to spotlight was increased x86 server growth.

Shipments of x86 servers, while not materially significant, increased 160 percent compared with the year-earlier quarter. “We attribute most of that to Solaris 10 opening dialogues” with customers, Sun President Jonathan Schwartz said. Sun’s Solaris 10 version of Unix will go on sale by the end of January, he added.

Sun’s Java Enterprise System pricing may be simpler or less expensive in some ways than competition such as IBM WebSphere, but that doesn’t mean the software is taking off. JES sales continue to grow but at a slower rate. In the quarter ended last June, Sun sold 129,000 new subscriptions, but in the next quarter, that dropped to about 42,000.

“Our channel (sales partner) checks indicated that Sun’s Java Enterprise System is struggling, as evidenced by a decline in year-over-year subscriber growth last quarter, despite only the fifth quarter of JES availability,” Sacconaghi said.

Things turned around somewhat in the most recent quarter, with 73,000 new JES subscriptions. There are now 418,000 total JES subscribers.

Among those customers are Taiwan Semiconductor Manufacturing Company; French Vodafone subsidiary SFR; and Hewitt Associates, which purchased a 19,000-employee subscription.

Schwartz said Sun is happy with JES but is examining a modification that would allow customers to buy JES for use within departments or other subsets of the entire employee population. Currently customers must pay based on their entire employee population. “The pipeline is good, and we see a lot of attraction,” Schwartz said.

The reason for the slower growth rate: Sun got an initial purchasing surge from existing software customers. “After the first six or nine months, building new customers is harder than satisfying what you have in hand,” Schwartz said.

Sun doesn’t plan to keep its $7.46 billion in cash. The company plans to use the money to acquire other companies, to repurchases its own shares, and to subsidize the company’s per-employee, per-CPU-hour and per-week pricing, McNealy said.