甲骨文 (ORCL) 2006 Q2 法說會逐字稿

(technical difficulty) Vice President of Investor Relations for Sun Microsystems.

Please go ahead, sir.

Good afternoon.

Thank you for joining in the Sun Microsystems quarterly conference call.

With me today is Scott McNealy, Sun's Chairman and Chief Executive Officer;

Jonathan Schwartz, Sun's President and Chief Operating Officer;

Steve McGowan, Sun's Chief Financial Officer and Executive Vice President, Corporate Resources.

The purpose of today's call is to discuss the results of Sun's fiscal year 2006 second quarter which ended on December 25, 2005.

During the last hour, we published a copy of the operations analysis data sheet with nine quarters of financial and operations information, including the quarter just completed.

If you have not received the earnings announcement or the detailed financial data sheet for any reason, or you wish to hear a live broadcast of this conference call, you may log on to our web site at sun.com\investors.

We have posted slides you can view on the Web which accompany our prepared remarks.

These slides may be viewed at the same URL, sun.com\investors.

Simply click on the link marked "Earnings Releases."

Finally, we will also post a transcript of our prepared financial remarks on our Website after the conclusion of this call.

The prepared remarks of our call today will last about 30 minutes, with the remaining 30 minutes devoted to the Q&A session.

During the course of this conference call, we will make projections or other forward-looking statements regarding expected future financial results and business opportunities.

Such statements are just predictions and involve risks and uncertainties such that actual results may differ materially.

I would like to refer you to Sun's periodic reports that are filed from time to time with the Securities and Exchange Commission, including the Company's annual report on Form 10-K for the fiscal year ended June 30, 2005, and the Company's quarterly report on Form 10-Q for the quarter ended September 25, 2005.

These documents contain and identify important factors that could cause the actual results to differ materially from those contained in our projections.

In addition, during the course of the conference call, we will describe certain non-GAAP financial measures, which should be considered in addition to, and not in lieu of, comparable GAAP financial measures.

Please refer to the earnings call financial slides and the operations analysis posted in the earnings release section of our Website at sun.com\investors for the most directly comparable GAAP financial measure and related reconciliation.

Please note that unless otherwise indicated, all reported results include the impact of the StorageTek and SeeBeyond acquisitions for the full quarter ended December 25, 2005.

I will also mention we will speak to a number of noteworthy items during the call this quarter.

These items include StorageTek and SeeBeyond purchase price accounting impact to Sun's operating results and net loss per share in Q2; the impact of FAS 123R, stock-based compensation expense, to Sun's net income and net loss per share in Q2; the impact of restructuring charges and related tax benefits and gains on equity investments; and the reclassification of certain geographical regions in the discussion of revenue and bookings by geography.

Now, let's get to the financials.

Sun's total revenue for the second quarter of fiscal 2006 was $3.337 billion, an increase of 17% as compared with the $2.841 billion in revenue reported for the second quarter of fiscal 2005.

We had an unfavorable currency impact on revenue of approximately 3% year over year, and an unfavorable impact of approximately 1% sequentially.

Total gross margin was 42.6% of revenue, an increase of 0.4 points over the gross margin for the second quarter of fiscal 2005.

Total R&D and SG&A expenses were $1.597 billion, an increase of $424 million year over year.

In the second quarter of fiscal 2006, we recorded a $76 million tax provision.

GAAP net loss for the second quarter of fiscal 2006 was $223 million, or a net loss of $0.07 per share, as compared with a net income of $4 million, or breakeven earnings per share, for the second quarter of fiscal 2005.

With respect to the accounting for the acquisitions completed during the first quarter of the fiscal year 2006, we've estimated the value of certain tangible and intangible assets acquired and liabilities assumed.

Some of these estimates are subject to change, and adjustment for these estimates will be included in the allocation of the purchase price which, under normal GAAP rules, are allowed for a period of 12 months following the close of the transaction.

GAAP net loss for the second quarter of fiscal year 2006 included approximately $145 million, or approximately $0.04 per share, in purchase price accounting adjustments and intangible asset amortization relating to the acquisition of StorageTek and SeeBeyond.

The impact of purchase-accounting-related items associated with our acquisitions of StorageTek and SeeBeyond are reflected in the following areas of the income statement -- a reduction of revenue of approximately $24 million compared to $14 million in the first quarter, primarily the result of adjustments made to reduce the acquired deferred revenue balances of StorageTek and SeeBeyond to fair value; a reduction in gross margin totaling approximately $84 million, compared to $43 million in the first quarter, principally resulting from the impact of deferred revenue adjusted adjustments, fair value adjustments to inventory, and a full quarter of amortization for acquisition-related intangibles related to [development of] technology; and an increase in operating expenses of approximately $61 million compared to $20 million in the first quarter resulting from a full quarter of amortization on other intangible assets established on acquisition.

For the quarter, total stock-based compensation expense was $55 million, or approximately $0.02 per share.

This expense was included in the following components of the P&L -- $3 million is charged to cost of sales for products; $7 million is charged to cost of sales for services; $18 million was included in R&D [and] expense; and $27 million was included in SG&A expense.

GAAP net loss for the second quarter of fiscal year 2006 includes restructuring charges of $10 million and a related tax benefit of $3 million and a gain on equity investments of $14 million.

Now, back to revenue metrics.

Q2 products revenue totaled $2.108 billion, an increase of 14% year over year.

Within products revenue, computer systems products revenue was $1.438 billion, a decrease of 5% year over year.

Data management products revenue was $670 million, an increase of 100% year over year.

Q2 service revenue totaled $1.229 billion, and was up 23% year over year.

Within services revenue, support services revenue was $953 million, up 23% year over year.

Revenue from client solutions and educational services totaled $276 million, an increase of 22% year over year.

As part of our ongoing disclosure improvements, in the second quarter, we've adopted the following change to our geographical presentation of revenue and booking.

We will present disclosure for the U.S. -- the United States;

EMEA -- Europe, Middle East, and Africa;

APAC -- Japan, China, Southeast Asia, and Australia; and International Americas, which is Canada and Latin America.

In the past, we've disclosed Europe, U.S., Japan, and rest of world.

By geography, U.S. revenue was $1.373 billion, up 22% year over year.

EMEA revenue totaled $1.239 billion, an increase of 20% year over year.

APAC revenue was $531 million, an increase of 4% year over year.

International Americas revenue was $194 million, an increase of 18% year over year.

With respect the balance sheet, DSO was 62 days.

Excluding acquisitions, pending sales channel inventory was $366 million, or less than three weeks of supply, which is within desired levels.

We ended the quarter with a cash and marketable debt securities balance of $4.276 billion, and cash flow used in operations for the second quarter was $191 million.

With that, I will turn it over to Steve.

Great -- thank you, Bret, and welcome, everyone.

Let me start with a high-level summary of the quarter.

From the demand perspective, we saw a very positive trend in bookings and backlog growth across numerous server and data management product areas.

These trends indicate to us solid customer acceptance of our recently introduced products -- more about that a little bit later.

Gross margin performance was 42.6%, up 0.4 points, which continues to be strong and reflect the competitive advantage that we have with our product offerings.

And we came in directly in line with our R&D and SG&A expense guidance of $1.6 billion.

From a balance sheet perspective, we again improved our working capital management by driving the cash conversion cycle down to 31 days, and we finished the quarter with a cash and marketable debt securities position of approximately $4.3 billion.

For those of you who are able to follow the slide deck, I'm going to now turn to slide four -- we can talk about some demand metrics.

Our Q2 product bookings were 2.430 billion, an increase of approximately 23% as compared with a year ago.

And although most of this increase can be attributed to our acquisition of StorageTek, our traditional Sun business experienced an increase in product bookings of approximately 4%, which is the first such bookings increase since Q4 '04.

Much of this increase was driven by our UltraSPARC IV+ products, as well as recently announced Niagara and Galaxy products.

In fact, demand for UltraSPARC IV+ drove an increase in our ending backlog of approximately $100 million.

Turning to slides five and six in the metrics and revenue, total revenue grew 17% year over year as a result of our acquisition of StorageTek and SeeBeyond.

These acquisitions drove the revenue increases across many businesses.

And I will discuss those in just a couple of minutes.

And for clarity, the remarks I'm going to provide here are going to focus on the other key factors that contributed to our performance.

Let's start with product revenues.

They totaled $2.108 billion, an increase of 15% year over year.

And within the product revenue, computer system products revenue was $1.438 billion, a decrease of 5% year over year.

Year-over-year decline reflected both an unfavorable currency impact and an inability to fulfill UltraSPARC IV+ demand.

In line with recent quarters, approximately 75% of server revenue in Q2 FY'06 was derived from our one- to eight-way offerings.

The important message here is that we continue to generate solid product gross margins as we move our server sales into the larger, more rapidly growing one- to eight-way market segment.

During Q2 '06, we shipped approximately 83,000 computer system server units with almost 20,000 being x86 Opteron servers, an 87% year-over-year increase in Opteron server shipments.

From a software perspective, Java Enterprise Systems subscribers climbed 15% sequentially.

And we are delighted to report the cumulative JES count is now up to 1.105 million subscribers.

Looking now at our new data management products revenue -- it was $670 million for the quarter, an increase of 100% year over year.

StorageTek products contributed $368 million to this total.

Although these data management results were solid, they were negatively impacted by some weakness in demand for the entry-level storage offerings and, to a lesser extent, an unfavorable currency move.

And finally, we are seeing a mix shift towards our midrange and data center arrays, as well as strength in the entry-level SMB tape market.

Turning to our services business, overall, our services organization has continued to deliver solid performance at a very competitive environment.

In Q2, we've made excellent progress in improving productivity and in driving cost efficiencies with a more variable cost model.

Services revenue was $1.229 billion, an increase of approximately 23% year over year, including an unfavorable impact of currency.

StorageTek services contributed about $228 million to this total.

Within services, the support service revenue was $953 million, up 23% year over year.

And we are seeing a shift toward multivendor site support and managed service contract offerings and away from our traditional spectrum service contracts.

We believe this trend will have a long-term positive impact on our service margins.

Client solutions and educational service revenue was $276 million, an increase of 22% year over year.

And a bright spot in this growth was the growth of Solaris 10 training, an indication of the broadening acceptance of Solaris 10 within the marketplace.

Now, taking a look at revenue by geography, on slide seven, U.S. revenue was $1.373 billion, up 22% year over year.

The modest decrease in the Sun standalone business was more than offset by the increase that was attributed to the addition of StorageTek business.

We did, however, see products booking growth in Sun standalone business of 15% year over year.

This is the highest bookings growth level since Q1 '03 in the U.S.

Sun's standalone product backlog grew $131 million, which is approximately 80% growth year over year.

And then looking at the industry verticals in the U.S. -- for the Sun standalone business, we saw strength in the telco sector, offset by some weakness in the financial services sector.

In EMEA, revenue was $1.239 billion, a year-over-year increase of 20%.

UK grew their revenue significantly, and was primarily driven by strength in Financial Services, government, and telco.

Eastern Europe and Russia continued to see growth with strong high-end server business, particularly in the telco and financial service areas, while Italy grew year over year with strength in the financial services and government sectors.

Asia-Pacific revenue was $531 million, an increase of 4% year over year.

And in APAC, most all regions were up modestly.

And finally, our International Americas -- revenue in International Americas was $194 million, up 18% year over year, primarily driven by solid performance in the Latin American regions, led by Mexico.

Now, let's take a look at the margin story.

If you look at slides eight and nine for margin, the total gross margin was 42.6%, an increase of 0.4 points year over year.

Product gross margin for the quarter was 42%, a sequential decrease of 1.3 points.

But if we look at the underlying components, [those are] like this -- we had a favorable impact from cost reductions of 1.8 points due to decreased costs for material -- primarily processors, disk, and memory, as well as reductions in supply chain costs primarily in the freight and warehousing areas; secondly, a favorable impact in volume and mix of 1.6 points due mainly to a higher mix of software.

And that was offset by unfavorable impact of pricing and discounting, which was 2.4 points, and unfavorable 1.9 points due to purchase price accounting, which Bret described earlier.

Services margin for the quarter was 43.6%, a decrease of 1.8 points quarter over quarter.

And the components of this decrease were a favorable impact due to mix of 1 point, offset by unfavorable impact from costs of 1.7 points, purchase price accounting of 0.7 points, and pricing and discounting of 0.4 points.

Let's move onto R&D and SG&A expenses, and some productivity and efficiencies on slide 10 and 11.

Total R&D and SG&A expense for Q2 were, as we guided, $1.597 billion, an increase of $424 million year over year.

However, of this increase, $332 million is from the recent acquisition of StorageTek and SeeBeyond, and $45 million is from the inclusion of FAS 123R, stock-based compensation expense.

Let me just say a few more words on purchase price accounting and stock-based compensation expense.

Due to the size of these charges in Q2 and their ongoing impact, we've shown on slide 12 and 13.

GAAP net loss for the second quarter of fiscal 2006 included approximately $145 million, or approximately $0.04 per share, in purchase price accounting adjustments relating to the acquisition of StorageTek and SeeBeyond.

Now, going forward, purchase price accounting related items are expected to affect our results of operations by approximately $75 million per quarter for the next 3.5 years.

And for the second quarter, total stock-based compensation expense was $55 million, or approximately $0.02 per share.

Going forward, we expect FAS 123R stock-based compensation expense to be approximately $60 million per quarter in Q3 and in Q4.

Moving on to the balance sheet, some of the core balance sheet items in slide 14 -- I'm pleased to say we ended the quarter with approximately $4.3 billion in cash and marketable debt securities and our cash flow used in operations was $191 million.

Now, our cash generation is typically lower in the second quarter of the fiscal year, driven by increased working capital as a result of a sequential increase in revenue from quarter to quarter.

Q2 cash flow is not an indication of a trend moving forward.

Although we used $191 million in Q2, our cash flow from operations was positive for the first half of FY '06.

And we are planning for positive cash flow from operations for the full year.

I will talk more about that when I get to the guidance section.

The overall cash conversion cycle in Q2 was 31 days, and excluding the cash conversion cycle attributed to our acquisition, our cash conversion cycle was 20 days, which is eight days better than Q2 '05, and three days better than Q1 '06.

We are very pleased with our performance in effectively managing our working capital needs.

In line with our guidance, last quarter, capital spending came in at $102 million.

Now, some comments looking forward.

The first comment -- I want to talk about acquisition integration update, and we will be doing this on a regular basis going forward.

The piece I want to address on this call is to make a few comments on the progress and integration in the area of cost improvements.

We are proceeding with our real estate field office consolidation, and we plan to close 160 redundant field offices by the end of calendar year 2006, with an annualized benefit of approximately $20 million -- and that's annual.

Secondly, we are underway with purchasing initiatives to leverage our buying power across the Company, with particular focus on direct materials and service delivery.

We look at Q3 -- in terms of R&D and SG&A, we anticipate that expense to total approximately $1.6 billion, or the same level as Q2 FY '06.

Now, included in that 1.6 billion, as a reminder, expect amortization of StorageTek and SeeBeyond will be approximately $75 million.

The components of this expense will be $35 million in COGS and approximately $40 million in R&D/SG&A.

Secondly, we expect total stock-based compensation of approximately $60 million in Q3 '06, with the components of that being $10 million in COGS and $50 million in R&D and SG&A.

Again, both the amortization and stock-based comp are in that 1.6 billion.

We anticipate interest income of approximately $20 million.

We continue to forecast the full-year tax provision to be between 200 and $250 million.

We're targeting a cash conversion cycle combined of 36 days by the end of the fiscal year.

We expect capital expenditures to be approximately $150 million in Q3.

And finally, we anticipate positive cash flow from operations for the full year '06, and remind you that we goal our management team on being cash flow positive from a free cash flow perspective for the year.

With that, let me turn it over to Scott.

Thanks, Steve.

And to reiterate very quickly -- again, stable performance in revenue, good improvements in gross margin, and a solid cash position with nearly $4.3 billion in cash.

But the big takeaway here is a resurgence of demand as evidenced by the strong bookings and backlog growth and deferred revenue.

We haven't witnessed backlog this high in years.

I do have a new year's resolution.

We just underestimated how attractive and popular the UltraSPARC IV+ product line would be, and we shipped above our plan and all the rest of it.

And TI is executing well to our order.

We just didn't order enough of it.

So the leadtimes are longer than we would like to be.

Yields are solid, and we expect to get caught back up, hopefully by the end of this quarter.

And certainly, at the beginning of next quarter, we should be back to a normal leadtimes.

It's a high-class problem.

But our new year's resolution is to not underestimate the popularity of some of our new products moving forward.

To detail the demand a little bit more, x86 server unit shipments up 87% gave us some fantastic customer wins -- NewEnergy, [tough U.S. technology], USC, the University of Alberta, have all chosen the product, and we just launched in September.

The x64 workstation business was up 337% year over year.

Services revenue up 23% year over year.

And that, combined with good, solid gross margin improvement of 43.7% for service year-over-year.

Software delivered nicely.

The Java Enterprise System subscriber numbers are on the rise -- up 15% sequentially.

A big win with American Express -- they are going to deliver a new, integrated software environment for their global IT infrastructure.

That brings the total users of JES to 1.1 million users.

Throw in Northwest University, Equifax -- we've got a ton of -- we've got an all-star list of subscribers to the Java Enterprise System.

Solaris 10 has now been up on the net for almost a year.

We have -- registered downloads reached 3.7 million at the end of Q2, and we're doing tens of thousands of downloads each week.

The most advanced operating system is literally flying off the Web shelves these days.

And I think if you go look now, we are pretty close to 4 million download registrations in less than a year.

So pretty stunning volume there.

In terms of products, the $2.2 billion or so of R&D continues to crank out a completely revamped product line.

The big highlight of Q2 is obviously the UltraSPARC T1 chip.

Some people still call it -- like our CFO, still call it Niagara.

But it is the new Sun Fire T1000 and T2000 servers using our CoolThreads technology.

They are off the charts -- exciting, and the benchmarking and the evaluations that are going on are making us very, very excited about the prospects of this product.

And with power usage -- I'm not talking about power performance, I'm talking about wattage -- being the number one issue in so many data centers, we think this is going to be very exciting.

The UltraSPARC IV+ I mentioned is backordered right now.

And that's a high-class problem.

What has happened is that this chip has put us on par or ahead of the game.

For the first time in a while, we've actually caught and leapfrogged the competition in the midrange and high-end markets.

And we're seeing some very, very interesting demand.

Now, we're going to be cranking -- we've got TI working overtime to try and deliver us more product there.

So that's a good step forward.

We also continued the march towards free and open source software.

You see our software revenues are growing nicely.

Our strategy of free is working, and we are finding some very effective ways to monetize that.

On November 30, we introduced the Solaris enterprise system, which integrates the Solaris 10 operating system with the Java Enterprise System with our N1 management software, [our tools], all into a single software distribution.

It's the only comprehensive and open infrastructure software platform available today.

And again -- get this -- we made it available at no cost for both developers and for deployment to drive volume and reduce the cost of entry.

And with open source, we reduce the cost of exit.

And we expect to monetize the growing community around Solaris and Java Enterprise System in the coming quarters through support contracts as customers deploy products built on this platform.

We also announced that we've incorporated into the Java Enterprise System open source Java database, so there should be no doubt about our commitment to the open source community.

We are basically open sourcing the bulk, if not all, of our middleware software.

Early in the quarter, we had SunForum, an event we hosted on the East Coast with 1,000 Sun customers, partners, media, and analysts as we introduced the new Data Management Group which combines Sun's storage environment with the StorageTek folks.

And we rolled out a new enterprise capacity tape drive, the T10000.

There will be more news -- there will be a heavy product calendar here on the storage side as the Data Management Group really kicks into high gear.

We've got a great product lineup today -- lots of new stuff coming, and a wonderful team now to go carry the ILM story out there in the marketplace.

Other big news in Q2 was we have set the bar for eco-responsible computing.

We had a summit on 21st century eco-responsibility, and rolled out the new T1-based CoolThreads servers -- high-performance, eco-responsible.

We refreshed our products for our partners.

In fact, at a recent show of support 40 ISVs, including BEA, Oracle, and Symantec all demonstrated an unprecedented endorsement of the Sun Fire T1000 and T2000 systems at our quarterly network computing event.

And most recently, just a few weeks ago, we kicked off the next phase of a 20-year partnership and alliance with Oracle.

Oracle reiterated that Solaris is its preferred x64 development platform, endorsed NetBeans as its development environment of choice, and recommitted to Java for another 10 years along with IBM -- so pretty stable and compatible non-fragmented environment for Java over the next 10 years.

And that's not all there is to that deal.

As an OEM, Sun is bundling the server, the storage, the licensing and support into an Oracle database package at an unbeatable price, effectively allowing you to get a Sun computing environment with Oracle at effectively no extra charge, and no IBM Global Services required -- pretty cool deal, and really brings down the effective cost of delivering the Oracle database platform on UltraSPARC IV and IV+ technology down significantly.

And our field is so excited about that.

We've got the Google partnership, the Oracle partnership.

We've got IBM shipping Solaris on BladeCenter.

And I even saw a little leak of an internal HP memo that they're supporting explicitly -- I don't know if it that's true, it's just a rumor -- but they are supporting Solaris on their Opteron products.

So we've got partnerships we don't even know about out there.

But, anyhow, we will continue to partner like crazy, offer choice and innovation like never before.

To customers -- I thought I'd run through some of the customers in the financial services.

Obviously, American Express is the biggie with the Java Enterprise System.

But we won or expanded contracts in Q2 with Equifax, the Philly Stock Exchange, and Ping An Insurance in China.

In the government space, the Mexico Ministry of Education, we have -- the team in Mexico did a great job closing a $400 million contract to provide the Ministry of Education with Sun Ultra 20 workstations with a five-year services contract for their public schools.

The province of Nova Scotia is adding Sun Fire T2000 product running on Solaris 10 to its efforts.

Guangdong Mobile in NingBo Bird are two excellence wins in the communications space that shows we are experiencing momentum in the Asia-Pacific market.

Retail -- we had a big presence at the most recent national retail show.

Harrods -- for those of you who haven't been to London, you might not know about this.

But if you have been there, you have probably been to Harrods.

The London department store selected the Java Integration Suite to enhance its multichannel retail operations.

NewEnergy in the energy and utilities space chose Sun Fire servers for its good computing processing or performance and power saving.

And in education, we got a couple of big wins.

The one I am very excited about is the Tokyo Institute of Technology, TITECH awarded Sun the contract to build its supercomputer campus grid infrastructure system.

We are back on track and back in the game in high-performance computing.

Japan takes supercomputing very seriously, and Tokyo Institute of Technology is a lead dog in that hunt to be the fastest supercomputer out there.

And they've chosen our products to go drive that.

Big wins with Scripps Florida, UCLA, USC -- and again, we're gaining traction in our core markets.

We're getting new design wins and getting other traditional customers to [re-up].

So with all of that -- you know, we've got the integration going along.

It's going along very well, as planned, if not better.

We are realizing at least as many synergies, if not more, on the cost front, and we are starting to see the revenue synergies flow through.

But there is a lot more to come.

And you know, we are really going to need the next two to four quarters to execute on all the costs and revenue synergies.

But again, we are on plan from an execution perspective, both on cost and revenue synergies.

You will hear more as we go forward here.

We've got a strong product calendar from an R&D perspective.

You will see more initiatives on January 31.

We're going to partner with the EPA to host the global conference on enterprise efficiency in the data center.

We will be talking about what customers can do to improve data center efficiency and measure power consumption.

Next month on the 1st and 2nd of February, we have the annual analyst conference.

We will have a highly informative event for the analyst community, and set the tone for how to think about and measure Sun's progress moving forward.

And again, lots of new products which I can't share with you right now.

But we will have a heavy product calendar here in Q3 and Q4.

So, Bret, back to you.

Okay, thanks, Scott and Steve.

Now, let's take some questions.

Derek, will you please start the question-and-answer session?

(Operator Instructions) Laura Conigliaro, Goldman Sachs.

A couple of things, please.

So, based on what you said with the backlog and a lot of emphasis on that, that would suggest that your March quarter should be nonseasonal, since much of it is already booked.

Can you comment on that?

Also, it would look from the numbers that you gave us that StorageTek missed based on the kinds of progressions they typically have.

Can you tell us what's going on there, and what you would expect as far as the business picking up, and the kinds of patterns you would expect from them?

Can you also give us the percentage that software represents right now?

So with respect to Q3, we are, again, just not in a position to speculate as to -- we're trying to share with you as much as we know.

Anecdotally, the business center is full, the pipelines are solid, and there is a lot of positive activity.

And we're getting a lot of good positive buzz from the customer.

We've got to translate that into revenue, though, and that's the challenge.

I would not (multiple speakers)

Scott, Scott -- I mean, if we can't use the -- since you missed in revenue, and a lot of the other metrics that we could see on the P&L, if we can't use the visibility coming from backlog or bookings as a guideline for how business is likely to develop, what should we be using?

You can use the data we've given you.

I'm just not going to interpret it for you.

That's why we share what we know.

And backlog is up, deferred revenue is up.

We had a 1.1 book-to-bill.

And Laura, the other thing I would add to your question around the StorageTek is we certainly don't view it as a miss.

A couple of things to keep in mind with the StorageTek results over the last quarter, and the reason we broke them out and the reason we broke out purchase price accounting so clearly is, as you know, with purchase price accounting, we had to -- we take down the deferred revenue.

We did that over the [stub] period, and we did the remaining portion this quarter.

So that's not in the revenue numbers according to GAAP.

And the second thing is, obviously, the intercompany eliminations.

And currency also had an impact there as well.

So we don't view the numbers with StorageTek, because of those situations, as a miss.

And for software, Laura, right now with the actual revenue numbers for software, we're not going to segment report that yet.

We continue to look at that in terms of -- as the size gets larger, we will continue to break out JES, the numbers of subscribers.

We will break out the downloads.

This time, we are breaking out training on Solaris 10 that we're seeing in our training part of the service organization.

But as the software business grows in its overall size and reaches that materiality level, we will actually break it out in addition to these other software metrics that we are providing.

But, Steve, software is still -- would you say if it's still in the single digits as a percent?

Yes, well it hasn't gotten to that stage of materiality yet.

You know, the discussion we had in terms of our software -- at one stage, it was, quote, combined with our systems solution that included the server, the chip, the SPARC chip, the software, the whole -- it was a system sale, and it was really hard to break that out.

We now are offering the Solaris in a whole multitude of different architectures.

It is widely adopted.

We do provide it, as you know, for free, and then -- as Scott mentioned earlier, and we are starting to get some nice revenues on the contracts that follow that.

As that becomes material, absolutely going to look to break that out.

And as we've said before, when that gets big enough, we're probably going to break it out -- we'll even start looking at platforms it may be on.

But right now, the disclosure for that is going to -- is basically staying wrapped up in that sales figure we have in terms of revenue for products.

Richard Farmer, Merrill Lynch.

A bit of a follow-up on supply constraints -- Scott, you mentioned that UltraSPARC IV+ leadtimes were too long.

How long are they, and where should they be when they're normal?

And then, more broadly, for the Galaxy and the Niagara product lines, to what degree do you think you had supply constraints in those in the December quarter?

And what could have been revenue in the December quarter if you hadn't had those supply constraints?

The leadtimes on the T1 and the Sun Fire x64 servers are pretty much on target with what we want them to be.

So I think we are in pretty reasonable balance there.

We've built about $100 million worth of backlog on the UltraSPARC IV+ last quarter that, had we had enough chips, we probably could have shipped the bulk of that.

We expect to get back down to the normal two- to four-week kinds of leadtimes on those kinds of servers.

At the low end, it might be shorter -- but one- to four-week kind of leadtimes by the end of this quarter, early next quarter.

In general, on the bottom end of the product line, we can get the systems to the customers as soon as they want them, from everything -- overnight to the one to two weeks.

On the higher-end systems, that's usually not the case.

But two to four weeks is kind of the standard leadtime.

Thank you.

And then on Niagara, thinking about the competitive position, now that you've had a chance to sell a fair number of the boxes -- when you look at what customers are choosing Niagara over -- in other words, what's the next nearest option, either in the case of a competitive box or within your own SPARC and Galaxy portfolio, what are you finding that customers are substituting out of to go into the T1 boxes?

And what is does that suggest about the potential for cannibalization as people adopt the T1?

So a couple of big pools of demand -- certainly, the biggest pool is the dead UNIX platform -- so the end of life HP PA-RISC platforms; customers that are still running IBM POWER -- on the Web tier, the economics just don't solve there.

And so there is really a migration away from the UNIXs that don't run on volume industry-standard servers first and foremost.

And that's been kind of a global trend to move towards open source.

Given that Solaris is open source, it runs on Niagara or it runs on Opteron.

That's really a consolidation platform for the older UNIXs.

Secondly, there was a big buildout of Linux running on Intel.

And frankly, given the price/performance benefit we can deliver for WebLOADs, Niagara is really targeted at that tier, because if you are running a single instance of an OS that's single threaded on a single-threaded chip, you are wasting a lot of physical real estate, electricity, and manpower, not to mention money.

And so we can really go consolidate the Web tier back in.

So given the performance metrics, we are seeing kind of 5x the performance at a quarter of the price.

That obviously represents a pretty significant consolidation opportunity on the Intel side, as well as back again into the legacy UNIXs that are really at this point kind of fading away with no unit volume.

Within your own base, what do you find for the customers that would have purchased an UltraSPARC box and now are choosing a Niagara box -- what's the average selling price comparison of what they would have purchased, but now are going with Niagara?

So on the low end, Niagara is a $3,000 entry-level box.

And they are not changing like for like, because in all likelihood, if they are moving to Niagara, it's because they are seeing a huge upsurge in preshopping or video streaming, and they need the infrastructure.

So for the most part, the migration from the older UltraSPARC systems has, frankly, occurred.

And what we're looking at doing is really displacing those segments of the marketplace that did not have an option before, like the older UNIXs, as well as going after the Xeon and Linux on Intel crowd.

To reiterate, I would say most of the cannibalization of our low-end SPARC Web services business have been (multiple speakers)

We are [pre-]cannibalized.

We are pre-cannibalized.

Now, in the database space, this becomes a very, very interesting database engine, and with some very aggressive -- [0.25] license fees per core for Oracle, for instance, you get a very, very cost-effective Oracle engine, or using the open source Sun [VB], you can have some very powerful database environments.

We see some kind of opportunities to cannibalize not only our own database position, which we have stayed very strong in, but also again, the dead UNIXs, as Jonathan calls them, as people move off of the HP-UX and AIX onto Oracle on Solaris 10.

Just one more very quick follow-up on that, if I could.

Jonathan mentioned the shopping and video streaming workloads -- if you think about the workloads that are out there in the server market, [how do] they pertain to these new products?

And particularly with Niagara, how would you size that workload today -- some version of Web serving without floating point map, I suppose.

And how fast do you think that category of workload is growing, relative to others?

So if you go talk to Google or eBay or Amazon, you will find they don't have any floating point at all.

And so the fact that we are light on floating point performance in the UltraSPARC T1 platform really isn't an impediment in the marketplace.

I mean, you're not going to go simulate a bomb on a Niagara system.

The market that we are really targeting is database transactions, Web serving, video streaming.

And frankly, that's the side of the market where we see really aggressive growth, because, again, the simulations marketplace, the marketplace for high-performance computing, is relatively small compared to the marketplace for the Internet.

And so all the workloads that you see being driven to the front end of a financial institution, whether it's transactional workloads or Web serving, we see them -- voice-over-IP, video-over-IP, all of this is really contributing to the next wave of the Internet buildout.

That's where UltraSPARC T1 systems are really focused, and that's where we see the belly of the opportunity.

We announced, for instance, eBay as a new customer.

And every eBay trade can be handled by an UltraSPARC T1 thread.

So it's a very nice application.

Keith Bachman, Banc of America.

I have two questions, if I could.

Steve, start with you -- I just want to make sure I understand the quarter in terms of trying to normalize the data for growth.

Steve, I think you said that StorageTek was 368 million.

Was that product revenue, or was that both products and services?

We've got a schedule in there, Keith, that is going to break that out in the earnings [ex] (multiple speakers)

I'm sorry, Steve;

I can't hear you.

(multiple speakers) We've got a slide in the deck there where we've provided more specific guidance on the revenue.

Let me just ask my team right there -- total revenue?

Steve, this is Bret.

The number for product is 368, and the services number is 228.

Okay, and is SeeBeyond -- I don't see that particular slide.

But was SeeBeyond also broken out?

No.

Can you tell us what the magnitude of the impact was for SeeBeyond, just so we could normalize to try to understand the growth trajectory?

We haven't broken that out.

That's a very -- their business was not that material, even in total before.

So the quarterly number is very small.

Jonathan, to you, if I could, or to Scott.

In terms of the Opteron-based systems that have been out -- had very good growth quarter.

I was wondering where -- if you could help us understand where the growth from those particular systems is?

In particular, as it relates to the potential for cannibalization of your own low end -- we are seeing that in some of the installed base, but just was wondering if you could tell us -- give us a little bit more color about the cannibalization there versus the organic side?

So again, I think the cannibalization that occurred, it's -- we look at it as we are [pre-]cannibalized.

What we're doing now is we're going back into the PA-RISC end of life installed base, which is a 100 plus billion dollar installed base.

We're going into the IBM POWER base -- especially with Galaxy, and just blowing away based on raw floating point performance and computing performance, and winning deals like the TITECH deal.

So this is not to us about -- how do we cannibalized our installed base?

This is about -- how do we grow the market to get into the installed bases that are, frankly, more vulnerable.

I think you're beginning to see very significant customers move off of HP-UX now, because their only route forward is to adopt Itanium.

And Itanium, frankly, is so fragile in the marketplace right now that it is leading to instability in Hewlett-Packard's PA-RISC installed base, because that's their only route forward.

So that's where we're targeting both the UltraSPARC T1 systems as well as the Opteron systems, and leaving it up to the customer to figure out how -- have they architected their system, to pick whether they want a Galaxy box or a Niagara box. (multiple speakers)

And Jonathan, just to follow-up, if I could -- also interested in your perspective on the Linux dichotomy, because I think a lot of those systems on the low end are potentially targeted to Linux.

And how are you finding that competitive markets, versus Linux on something x86, versus Solaris on the Opteron side?

So a couple of things.

One, we're going to be running Linux on Niagara systems as well as [VSE], so they will be multi-operating-system systems.

So we're going to go after the same marketplace.

It's going to be up to customers to figure out how they architected their apps.

Secondly, on the Opteron side, we're seeing about -- and I will have to check the numbers, about a third of the units ordered with Solaris.

And the remainder ordered with either Microsoft Windows, Red Hat Linux, or no OS specified.

So that's actually good news from a couple of vantage points.

One, we're seeing the adoption of Solaris on Opteron grow quite aggressively.

But the second is the growth of the overall Opteron business exceeds the growth of the Solaris opportunity, which means we're getting into the Windows base and the Linux base, which again is just more revenue and opportunity for everything else that we ship and sell.

Yes, I think that's the point I was going to make, is that we are playing -- we've never before played in the Windows marketplace, and we are now.

The other point I would make is that there was a low barrier to exit from Solaris over the last five years to Linux.

And in fact, you talk to any of the customers, they were able to move very smoothly, and without hardly breaking a sweat in getting to the Linux environment.

I can tell you the barrier to exit from Linux back to Solaris 10 is even lower than the original barrier from Solaris.

And if we put the Linux libraries into a Solaris container, where you can actually run your Linux binaries native and add all of the features, capabilities, and carrier-grade secure and less expensive characteristics of Solaris 10 with a really, really wonderful Opteron product line, we think that that's there for the taking.

As that stuff comes off of lease, or gets fully depreciated, we think it is there for the taking.

Tony Sacconaghi, Sanford Bernstein.

I have a couple of questions as well, please.

Maybe you can just help confirm or refute some analysis.

My sense is that if you look at Sun plus StorageTek plus SeeBeyond last year, collectively, those companies delivered 3.55 billion in revenue.

That would suggest that year over year, as an integrated Sun, the revenues were down more than 6%.

If I give you full credit for the backlog increase of 228 million that you experienced this year versus last year, and I add that back to your revenues, the revenues for integrated Sun would be perfectly flat year over year.

So one, can you confirm that Steve?

And secondly, given that that's the case, even backlog adjusted, you are at flat revenues year over year, and you are down non-backlog-adjusted.

How are you confident that there is a resurgence in demand occurring, as opposed to -- uneven demand in the quarter, and you've got a lot of demand at the end of the quarter, and accordingly your backlog is up, but fundamentally when you make the adjustments, it is unclear, even adjusting for backlog, if the growth rate has materially changed.

So maybe you could help me with that, please?

I will just start, and turn it over to Scott and Jonathan.

So yes, your analysis is correct.

The one piece that you could add to that is, as I mentioned to Laura earlier, is to keep in mind the impact of the purchase price accounting on the reduction in the deferred revenue that we are required to take, and also the elimination of some intercompany that we had between Sun and StorageTek.

But that analysis you've come up with is fundamentally accurate.

And then as far as demand, let me turn that to Scott or Jonathan and see if they want to comment on the demand picture.

By the way, on revenue, there was a little headwind this quarter on currency, too, which would change the numbers a little bit also.

Jonathan (multiple speakers) do you want to talk to demand?

Yes, I think from the overall demand perspective, we are definitely seeing an uptick in demand, and especially on the core UltraSPARC systems and the high-end systems.

So I think in aggregate, after purchase price accounting and the elimination and the currency effect, our view is we are seeing an increased competitiveness.

And you are seeing that reflected in an increasing gross margin line.

So the fact that we are able to price the products -- and certainly revenue [where it's] flat -- but again, you are seeing a fair amount of bookings growth to show you that the demand is there, and the margin shows you that we are able to compete and win the business without having to go dive on products.

But, Jonathan, that brings me to my second question on margins.

Again, StorageTek margins typically in this quarter are extremely high and accretive, and you can see it from Steve's mix calculations.

I think if you back out the impact of StorageTek being added to the business, the margins were down year over year, and they were certainly down sequentially.

Your discounting was also quite high, which seems incongruous with the fact that you have products that are really hotly in demand, and that you have refreshed a lot of your line.

So a, again, can you reconcile -- if you normalize for StorageTek, are the margins not down on a year-over-year basis?

And then secondly, given how significant the discounting was in the quarter in terms of your gross margin attribution, why would that be the case, if ultimately -- you know, US IV seems to be booming, and obviously, you have the new products, Niagara and Galaxy, which one would think wouldn't be discounted at all?

So, first of all, the mix shift was towards software.

And look, when we sell, we don't sell piece parts.

When Dell goes in and sells a box, they just sell the box.

They don't own any of the intellectual property inside it.

When we go in, we're going to sell a total systems picture.

And so the discounting on a particular part may not be reflective of the overall margin of the total deal.

So the increase in software -- the software is not being sold standalone.

It's being sold as a part of a total systems package.

That is where we're able to get higher margin, because we've got the complete portfolio.

And the discounting?

Again, there's nothing out of the ordinary in the discounting.

If anything, we saw a little bit less of that, because we've got far more competitive products now.

And I think that, Tony, with the discounting, the impact of 1.9 points unfavorable on price for products and 0.4 points unfavorable for services probably does again reflect the competitiveness that we have.

That would almost go against an argument that we would be holding prices high to get these margins.

So I would say despite that kind of aggressive pricing that we take, we went to be a price leader.

We're still getting good margins.

Tony, one other thing just to keep in mind when you do a comparison on the margins -- in Q2 -- and there's a schedule on the deck;

I think it's page 18 -- there's $84 million of purchase price accounting in the gross margin line.

So 24 of it, by the way, is revenue related -- the deferred revenue.

So keep in mind that that's -- and you heard the guidance on how that's going to drop in Q3 going forward.

That's why I was very explicit on how much purchase price accounting.

So any comparisons with a year ago, that anchor was not being dragged a year ago.

Okay.

And then finally, if I may, it looks like the StorageTek business overall was down 10% year over year, and down 13% on the product side.

Scott, I heard you in terms of integration plans.

But was there really the expectation that revenues would be down double digits, and should investors be expecting that kind of decline while the integration is taking place?

I don't know where you got your numbers.

But that's not the numbers that we have.

We're not breaking out StorageTek.

We are at Sun now, and we've got the data management practice.

We are breaking that out, and the teams are jointly selling.

But, there's a lot more work here with purchase price accounting and eliminations and currency and other factors here.

We could spend all day long and our whole life talking about classic Sun versus StorageTek or SeeBeyond at this point.

We're presenting the storage business as a whole.

And I stand by my statement that we are very comfortable with how the integration is going, both on the revenue as well as the cost synergies perspective.

Tony, this is Bret.

I would just point you back to the slide in the deck that refers to purchase accounting impact.

If you look at the Q2 '06, there's $24 million of impact on the revenue line, and $84 million of impact on gross margin.

So when you're looking at the margin percentages, when you're looking at the revenue growth, it goes into account.

At this time, you have no further questions.

Okay, thank you very much.

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