Sun Microsystems

May 8, 2006 (5.09) Quick notes

Notes from Annual Report 2005

1. Believes they have the best product line in their 23 year history.

October 17, 2003 (3.62) Preliminary Earnings Review

1. Sun reported earnings which were disappointing. Revenues of $2.54b and loss per share of ($0.09). The pro-forma loss was ($0.08).

2. Revenues declined 7.7% Y-O-Y, at the same time currency benefit improved by 3 points.

3. Sun did not give any guidance going forward.

4. We have seen sell side analysts adjust 2005 estimates of $10.5b to 12.07b in revenues and ($0.20) to $0.00 in eps.

5. Services segment reported 4% annual revenue growth.

6. Market capitalization is $11,729M based on 3,240m shares.

7. IT spending in alleged recovery, yet no improvement with Sun. Could be the shift from UNIX to LINUX. UNIX servers are Sun’s core business. Sun does now offer low end LINUX servers, but we don’t know if it is geared to be a major revenue source for Sun.

8. Negative cash flow from operations was ($49.0M), this was first negative cash flow in 36 quarters. On quick glance of Statement of Cash Flows, cash flow from operations looked clean (meaning true operational loss, not disguised with tax benefits and stock option items.

9. Sun mentioned they have a “perception problem.” Sun mentioned that clients like their strategy, yet Steven Milunovich from Merrill claims that his checks are saying otherwise. He wrote in a report dated today, “Once consultant told us users wouldn’t buy from Sun if it had the cure for cancer. Changing minds is real hard.”

10. Management indicated that the pricing environment was very competitive and that it did not see an improvement in the economy. Sun termed the industry pricing as “brutal”. McNealy said, “everybody’s got overcapacity and everyone is looking for an incremental gross margin…”

11. We need to keep an eye on Research and Development and how that may equate to new products and revenue flows. Of course when you are dealing with R&D, the potential exists that the money is wasted and forever sunk.

12. Management indicated that SG&A will trend higher in 2Q04, as variable expenses from sales increase.

13. Capex was $74M for the quarter.

14. Sun did not buy back shares during the quarter.

15. Product backlog is at $707M, compared to $705M at end of last quarter. Services backlog was $623M compared to $625M at the end of last quarter. Total backlog entering 2Q04 is $1.33M. Backlog is near the low of the last 18 quarters.

16. Management commented on revenues and business in the following regions:

United Kingdom……………….Strong
Italy ……………………………….Strong
Iberia …………………………….Strong
Germany ……………………….Weakened
Japan ……………………………Weakened

17. Sun indicated that Government vertical was a bright spot. Sun indicated customer wins in the educational and communications segment.

18. Lower gross margins exist on the low-end servers, yet technology advances are providing the shift to low end systems.

19. We will attempt to prepare some financial statement analysis as the 10Q is released.

October 15, 2003 Some Notes

1. Charge being taken for tax receivable on balance sheet. This is from SFAS 109. Non cash charge of $1.0b We have done a lot of work on deferred tax write-downs. We don’t know SUNW like we know some other companies who had SFAS 109, but we are generally favorable to balance sheet clean-ups. Keep in mind that this write-off is merely a Balance Sheet write-off and tax advantages are still available for SUNW. At the same time, we have seen analyst criticisms of the write-down because of different tone in business expectations. Again, we will further investigate this over time.

2. Company guided 1Q04 for loss of ($0.07) – ($0.10).

3. We have seen analyst estimates for F2004 to range from ($0.15) to $0.03.

4. We have seen analyst revenue estimates for 2004 at $10.3b to $10.8b. Prior to company statements, Value Line had ests of $12.5b. We have seen F2005 analyst revenue estimates to be flat YOY from F2004.

5. Merrill in its now famous letter to CEO Scott McNealy mentions the following :

a. wants product focus narrowed

b. looks for headcount reductions of 5000 to 7000

c. calls SUNW bloated, unfocused and underachieving

d. claims breakeven level is $3bil per quarter.

6. Industry sources and readings have claimed that SUNW research and development efforts will generate new product flow over the next few years.

7. Recent market data has shown that HPQ has taken market share in Unix servers.

8. SUNW generated $450m in Free Cash Flow in F2003. Buy back program is aggressive as it bought back nearly 1/2billion of stock in F2003.

9. Moody’s has recently downgraded SUNW two notches to Baa3, with a negative outlook. Moody’s cited “weakened earnings prospects”, “weakened margins” and increased competition.

10. Balance Sheet looks fairly strong. Will wait for further 10K review.

11. Morgan Stanley claims that they are “encouraged by Sun’s new f2004 product line”. Keep in mind that Morgan Stanley has an underweight, and considers the intrinsic value to be near cash value of $1.79.

12. Sun is losing market share to Intel based servers and proprietary UNIX competitors.

13. We need to determine why GP% dropped. We have read that reasons for drop were a combination of lower revenue and rising component prices. Perhaps the reason is industry pricing pressure and mix.