SCOs Revenue Plummets as Legal Costs Mount

By Steven Vaughan-Nichols  |  Posted 2004-06-10

SCOs Revenue Plummets as Legal Costs Mount

Mounting legal costs and dwindling license revenues drove The SCO Group back into the red for its second fiscal quarter, as it poured money into its legal fight claiming that the Linux operating system infringes on its intellectual property.

For the quarter, ended April 30, The SCO Group Inc. on Thursday reported its revenue decreasing by more than half to $10.1 million, down from $21.4 million in the same quarter last year. The company said it expects its third-quarter revenue to be between $10 million and $12 million.

It reported a $7.9 million loss, or $1.06 per diluted common share. In the same period last year, SCO reported a net profit of $4.5 million, or 33 cents per share.

Lindon, Utah-based SCO blamed the sharp drop primarily on the lack of revenue from its SCOsource division, which makes money by licensing SCOs Unix intellectual property.

While SCOsources revenue was $8.25 million in the same quarter last year, this quarters revenue came to a mere $11,000.

"Our licensing program did not take off as we had hoped," Darl McBride, president and CEO, said in a news conference.

SCO didnt break the numbers down, but most of the revenue in the earlier quarter came from one-time Unix licensing deals with Microsoft Corp. and Sun Microsystems Inc.

Looking ahead, SCO said it expects to do slightly better in the next quarter if revenues materialize from its SCOsource division. McBride declined to offer a figure, saying SCOs legal cases have led potential customers to question whether they need to pay it a licensing fee for Linux. McBride made a point of singling out Novell Inc., which is contesting SCOs Unix copyrights.

The company reported a net loss of $9.4 million from operations this quarter. This included a $682,000 write-off for the general and administrative costs of streamlining SCOs Unix business operations, which consisted of the company laying off about two dozen employees.

In what may be a foreshadowing of more employee cuts to come in the third quarter, SCO said it expects operating expenses related to its Unix division to decrease to $10 million a quarter.

SCO also wrote off $2.1 million in good will and intangible assets because its acquisition last year of Vultus Inc. failed to realize any significant revenue.

Over the fiscal year to date, SCO reported a net loss applicable to common stockholders of $17.2 million, or $1.23 per diluted common share, compared with a net income of $3.8 million, or 29 cents per diluted common share, for the first two quarters of fiscal year 2003.

Next Page: SCOs cash position remains strong, CFO says.

Strong Cash Position

Despite the losses reported, SCOs cash and its available-for-sale securities position remained strong, totaling $61.3 million as of April 30.

Even after the company retires BayStar Capital Management LLCs 40,000 shares of Series A-1 Convertible Preferred Stock for a cash payment of $13 million, and after the issuance of 2.1 million shares of common stock valued at $13 a share, "SCO will have $48.3 million in cash," said Bert Young, chief financial officer at SCO.

"$5 million of that comes from our balance sheet before we started the IBM case, $8 million from cash generated from business operations, and $33 million as the net effect of capital from BayStar."

BayStar spokesman Jeremy Zweig reiterated that BayStar thinks the repurchase transaction will benefit the company and its shareholders.

In any case, Young continued, "After the cash payment to BayStar, we believe we will still have sufficient cash reserves to effectively pursue our intellectual property claims."

Young said SCO is spending $4.4 million a quarter on its legal efforts against IBM, Novell, Red Hat, AutoZone and DaimlerChrysler.

Darl McBride, SCOs president and CEO, said the company was expecting its second-quarter figures.

"Our revenue for the second quarter was consistent with our expectation," McBride said in a statement. He touched on areas in which SCO aims to improve during the rest of the year.

"As the company looks forward to the last two quarters of fiscal year 2004, we are committed to increasing shareholder value through profitable operations and increasing cash flow from our Unix division, as well as remaining focused on our intellectual property lawsuits and licensing strategies," he said.

McBride said SCO is working on making its Unix division more efficient, and he did not rule out layoffs as one way that could be done. Despite this, McBride says that SCO will continue to release new editions of its core Unix operating systems.

SCO hopes that a combination of improved performance in its Unix division, the release of an updated version of UnixWare and other programs in the near future, and the eventual release of OpenServer Legend in the first quarter of 2005—which will bring UnixWare and OpenServer into one operating system—will lead its Unix division into becoming profitable.

But SCOs hopes are pinned on the great profits that would come from a successful outcome in its cases against Novell and IBM. A victory in the first case would show that it, and not Novell, owns the copyrights to Unix; a second win would show that IBM illegally placed Unix source code into Linux.

"The foundation of the company is on Unix IP," McBride said. "As the cases are resolved [in SCOs favor], we will reach a tipping point."

As to doubts that SCO will win, McBride insisted that SCO, not IBM, wants a quick resolution of the case and said it has already shown the courts and IBM, in sealed documents, proof positive that Unix IP-protected code is in Linux.

SCO filed this week for a five-month delay in the case. McBride said everyone will be able to see that SCO was in the right when all of the evidence is finally made public, adding, "Its important not to confuse IBMs positioning with the reality of the case."

In the meantime, though, shares of SCOs stock dropped by 9.37 percent to $4.93 by early afternoon on heavier-than-usual trading.

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