SCO Finally Files Its Fiscal 2004 Results

by Timothy Prickett Morgan

Unix software supplier The SCO Group has finally rejiggered its books and closed out its fiscal 2004 (ended in October 2004) to the satisfaction of its auditors. SCO is still facing the prospect of a delisting from the NASDAQ National Market stock exchange, however, since it has not yet filed its 10Q report for the first quarter of fiscal 2005. SCO also announced a program this week to give its partners big margins if they sell SCO's own services.

Back in February, SCO appealed to the NASDAQ for an extension that will allow its shares to remain on the exchange. In a statement February 17, SCO said it was taking time to go over its stock compensation plans that were put in place in 2000 before making its final 10-K filing for the year. On March 3, SCO said it would get a March 17 hearing with NASDAQ, and it would explain that SCO and its auditors, KPMG, discovered that some tricky elements of its finances were booked incorrectly in past quarters. The items seemed relatively minor, but SCO is under close scrutiny these days because of its $3 billion lawsuit against IBM.

Specifically, in the first, second, and third fiscal quarters of 2004, SCO said it booked stock compensation of $272,000, $231,000, and $557,000 without registering those sales properly with state and federal authorities; this stock compensation will have to be reclassified and its books rejiggered so it can rebook the stock sale properly. Another $233,000 of stock compensation that was recorded in the second quarter was actually incurred in the first quarter. And finally, some accrued dividends worth just under $2.5 million that were related to its buyout of investor Baystar Capital have to be reclassified; these dividends were never paid and in some convoluted way that only accountants can understand are recorded as equity.

Now that SCO has filed its 10K report, we can take a deeper look at its financial state. SCO had $42.8 million in sales in fiscal 2004, down 46 percent. In 2003, SCO booked some pretty big Unix intellectual property licensing contracts after it threatened (more or less) to sue Linux and AIX shops for being in violation of their licensing agreements. Even with a bumper year in fiscal 2003, SCO only brought $5.3 million to the bottom line. In fiscal 2004, because of declining Unix software sales, hardly any Unix intellectual property licensing sales (only $829,000, compared to $25.9 million in 2003), and big lawyer bills from the IBM and related lawsuits with Red Hat and Novell, SCO had a loss from operations of $28.6 million and a net loss of $16.2 million.

SCO said that Unix software licensing sales (as distinct from intellectual property and services) in fiscal 2004 were just under $35.4 million, down 21 percent, while services relating to its UnixWare and OpenServer platforms for X86 servers were $6.6 million, down 21 percent as well. Overall Unix-related sales were just under $42 million, down by $11.4 million or 21 percent compared to fiscal 2003.

SCO's filing with the Securities and Exchange Commission said that the decline in Unix sales was primarily the result of competitive pressures, particularly from Linux. It is hard to believe that in fiscal 2002, before the lawsuits started, SCO was spending $70.1 million to create and sell its Unix products and that it has had to slash costs to $42.3 million in fiscal 2004. The cost cuts came from layoffs and the closing of offices, and even without the lawsuits, absorbing such a drastic change in cost structure would have hurt any company. SCO had 340 full-time Unix employees in October 2002 and had 193 in October 2004. In fiscal 2004, restructuring costs relating to layoffs accounted for $3.2 million.

SCO is pinning its hopes on the future "Legend" release of OpenServer, which was pushed out to the second calendar quarter of 2005 late last year. The Legend release was expected in the first quarter, but was pushed out in January after about 600 partners from the summer beta program asked for a few more tweaks. The Legend update of OpenServer and a future kicker to UnixWare, OpenServer's bigger sibling X86 Unix platform, are expected to get support for 64-bit Xeon and Opteron processors some time in 2005. This is support that OpenServer and UnixWare will need very badly if it hopes to compete against Linux, Windows, and RISC/Unix platforms.

In the meantime, SCO has to make money and help its large base of resellers--which SCO is still claiming to be 11,000 strong--make some money, too, before Legend ships. To that end, SCO this week announced that it would allow channel partners to resell SCO's own Unix services and that it would boost margins that partners receive for selling such services by 30 percent above the levels they currently get. This is a very big bump in margin, unheard of in the computer business. SCO said that services ranging from call packs (tech support) to customized consulting and professional services contracts would be counted in this promotion, which runs through October 31 of this year--the end of fiscal 2005. SCO made it clear that resellers--not SCO--would retain control of the relationship with customers and that it would function as a subcontractor in such deals and would report monthly interactions and revenues from customers who engaged in contracts to ensure partners absolute transparency in the deals. Moreover, SCO said that any contract renewals would be sent by partners, not by SCO, so they would know exactly what is going on.