Commentary: Sun: A Choice That Won't Dispel The Clouds

New President Jonathan Schwartz has many critics

When the hoopla dies down from Sun Microsystems Inc.'s (SUNW ) landmark $1.95 billion settlement with rival Microsoft Corp. (MSFT ), investors likely will start paying closer attention to the fact that Sun just closed a disastrous quarter with an estimated $750 million loss on $2.65 billion in revenues, down 5% from a year ago. This was far worse than Wall Street expected. And while they digest that, investors may also take a harder look at the man Chief Executive Scott G. McNealy picked on Apr. 2 to help pull the company out of this mess.

The new president and chief operating officer is 38-year-old Jonathan I. Schwartz, a former Mc-Kinsey & Co. consultant who arrived at Sun in 1996 and has spent the past 21 months running the company's software business. Critics of McNealy's choice -- and there are plenty -- say that Schwartz lacks experience. Worse, he has enthusiastically backed the strategies that have sapped Sun's strength. The company was slow to respond to the threat from powerful server computers sold by Dell (DELL ), Hewlett-Packard (HPQ ), and IBM (IBM ), which run the low-cost Linux operating system on Intel Corp. microprocessors. Many customers found that such computers performed as well as Sun's more expensive hardware at a fraction of the cost. Sun's sales of servers plunged 15%, to $5.4 billion, in 2003; it now plans to lay off 3,300 people.

Surveying this damage, some Wall Street analysts hoped McNealy would look outside for new leadership -- somebody with a strong voice who could evaluate Sun's challenges with a fresh eye and steer a new course. But McNealy didn't even interview external candidates. "It would have been advantageous to at least get some input from the outside," says Laura C. Conigliaro, a managing director at Goldman, Sachs & Co. (GS ).

Schwartz's detractors do give him credit for focusing the company's attention on software. He has made sure Sun's diverse menu of programs work together and he priced them creatively to appeal to a wider pool of customers. But the results aren't yet clear -- and what- ever gains he may have made don't compensate for Sun's slide in hardware.

Even Schwartz admits he'll be learning on the job at a time when Sun needs a steadying hand. Asked by BusinessWeek if he has enough operational experience, he says: "I absolutely do not." But he doesn't see that as crucial. "I am surrounded by people who have forgotten more about operations than I will ever know," he says. McNealy also stands by his decision, and told analysts who questioned the new appointment: "I have every confidence in [Schwartz's] ability to help us execute."

Confidence is fine. But comments from both men show they're in lockstep, which is hardly reassuring when Sun so desperately needs an advocate for change. As Schwartz recently put it: "I trust [McNealy's] instincts more than anyone's I've worked with in my life."

Like McNealy, Schwartz has a reputation for combativeness when many argue that Sun needs a diplomat. "[He] is a very arrogant guy," says the CEO of a Sun software partner. "He just doesn't know how to listen." That makes Schwartz bristle. "I am exceptionally passionate," he says. "I would never want anyone to confuse that passion with arrogance."

Yet his penchant for provocation can be counterproductive. In 2002, Schwartz launched a software strategy that essentially undercut longtime partners on price. The response was predictable: When enterprise software maker BEA Systems Inc. (BEAS ) saw what was happening, it increased technology sharing with Hewlett-Packard Co. Now 34% of the software BEA sells runs on HP, up from 12% two years ago, and its business with Sun has been halved to 40%.

Nobody doubts Schwartz's intelligence. Brian Conlon, CIO at Washington law firm Howrey Simon Arnold & White, says he was stunned by Schwartz's attention to detail during a meeting in October. "He's a polished executive," says Conlon. Schwartz will have to prove he can apply those skills -- and a dose of diplomacy -- to deal with mounting red ink, layoffs, and shrinking market share.

By Jim Kerstetter

With Peter Burrows in San Mateo, Calif.

— With assistance by Peter Burrows

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