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Sun's McNealy stares down the Internet wreck

PHOTO: BLOOMBERG

Scott McNealy, the founder of Sun Microsystems Inc, the server-computer maker that once proclaimed itself "the dot in dotcom," made a painful confession in May.

"We all thought we'd forever have twenty-something-year-olds with spiked hair and body piercings throwing dollar bills at us and saying, `Where's my server?'" he recalled at a conference. "It didn't continue on forever."

Sun, whose shares have tumbled 78 percent from a September record, suffered this year as trouble at telecommunications and Internet customers quashed demand for servers, software and storage gear. After trumpeting sales growth of 35 percent or more in four straight quarters, McNealy had to change his tone when Sun's fiscal third-quarter sales rose just 2 percent.

Analysts expect McNealy to paint a bleaker picture later today, when the company reports a fiscal fourth-quarter sales decline -- Sun's first since at least 1992.

Sun will report profit of US$0.03 a share on sales of US$3.96 billion, the average analyst estimates in a First Call/Thomson Financial survey. That's a 21 percent revenue drop from last year.

Scott McNealy, Sun founder Sun Microsystems was riding high when the Internet sector was booming. Now that communications companies have cut back spending, McNealy doesn't feel like such a "hero." To cope with the downturn, McNealy has realigned his sales force to focus on the healthcare, retail, automotive and energy industries. He's also reducing inventory levels, trimming more costs to bolster profit and improving the company's storage products. Still, he hasn't cut jobs like many rivals. McNealy remains confident Sun will come out on top. "The bear in the woods chasing the hikers doesn't get the leader of the pack," he says. "You don't have to outrun the bear -- you have to outrun the other hikers."

Intel Corp and Microsoft Corp are upgrading the chips and software that power some systems from rivals such as Hewlett-Packard Co and International Business Machines Corp. Competitors are trimming prices to win business during the economic slump.

McNealy has a plan. He's pushing executives to cut US$80 million in costs this quarter, pressing engineers to step up development in Sun's storage unit and overhauling the entire server lineup with a more powerful chip.

"Aside from the economic challenges, which are short-term, I'd give him an A," said Sunil Reddy, a fund manager at Fifth Third Bancorp, which owns 11.6 million Sun shares.

"He's a pretty aggressive player, and he's got a way of energizing his troops."

A year ago, the outlook seemed much different.

McNealy lambasted rivals for missing the Internet boom. Sun earned US$0.19 a share on sales of US$5.02 billion in the year-earlier period ended in June -- a 43 percent revenue jump from the fourth quarter of 1999.

"I was a hero last year," he said in May. "It's almost impossible to be a hero this year."

Palo Alto, California-based Sun said later that month that profit would be US$0.02 to US$0.04 a share in the period ended June 30, on sales of US$3.8 billion to US$4 billion.

Young companies are selling barely used Sun equipment to raise cash, and communications clients have slashed spending.

Older servers sell for US$0.20 on the dollar at auctions, with newer products getting US$0.50. About 15 percent to 20 percent of Sun's sales now come from communications companies, down from 35 percent last year, analysts said.

"Sun's customers really stopped the presses on spending," said Christian Koch, an analyst at Trusco Capital Management. "They're digging themselves into a deep hole, but the reason the hole is so deep is they did so well last year."

McNealy made a bet, picking the Unix operating system for its machines rather than Microsoft's Windows. Until this year, that strategy paid off. Sun was the fastest-growing server maker last year, and customers say its products are easier to stack up and don't crash as often as those from rivals.

The 46-year-old CEO got US$4.87 million in salary and bonus in fiscal 2000. He received an option grant worth US$63.7 million if the shares rise 10 percent a year over the next decade.

Those options are under water now. The stock has fallen 50 percent so far this year, compared with the 8.5 percent drop for the Standard & Poor's 500 Index and IBM's 23 percent gain.

McNealy has realigned his sales force to focus on the healthcare, retail, automotive and energy industries. He wants to reduce inventory levels, trim more costs to bolster profit.

Meanwhile, he has Sun upgrading its servers with a fresh chip, dubbed UltraSparc III. The first ones came out in September, with top-notch models due this year. After months of struggling to get enough chips to fill orders, supply is improving.
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