Oracle's Sun Deal: A Closer Look

Oracle's conference call left plenty of questions about its $7.4 billion acquisition of Sun Microsystems. Here are a few, and how they might be resolved

By Aaron Ricadela

Oracle's Apr. 20 conference call with Wall Street analysts to discuss its $7.4 billion buyout of Sun Microsystems (JAVA) was a straightforward affair. Oracle (ORCL) CEO Larry Ellison and his lieutenants ran though a quick synopsis of how they'd use the hardware and software assets they're buying, and Sun Chairman Scott McNealy read his canned statement in the most perfunctory manner possible. The companies brooked no questions, and analysts were off the phone in 15 minutes.

What remains are plenty of unanswered questions for investors and customers about how Oracle plans to turn Sun from a money-losing entity into a profitable asset. Deep job cuts seem inevitable; less clear is what role, if any, Sun's honchos will play at Oracle. Oracle is saddled with computer servers built on Sun's outdated Sparc chips, though the company hinted at plans to combine its software and Sun's hardware in new ways. It's also uncertain what Oracle's ownership of the widely used Java programming language will mean for the rest of the computer industry, particularly IBM (IBM). Herewith, the five biggest outstanding questions about the deal—and how they might be resolved.

Will Oracle sell Sun's hardware business?
One of the biggest questions surrounding the deal is what Oracle will do with Sun's $9-billion-a-year server and storage business. Many observers expect Oracle to sell it to Fujitsu (FJTSY), IBM, or another computer maker. Sun holds just 4% of the server market, and most of its revenue comes from servers built with Sparc chips, which customers have rejected in favor of often cheaper industry-standard servers based on chips from Intel (INTC) and Advanced Micro Devices (AMD).

Slugging it out in the server business would also mar Oracle's healthy 46% operating margin. And a hardware foray by Oracle could push competing computer makers Hewlett-Packard (HPQ), Dell (DELL), and IBM into the arms of Microsoft (MSFT). Oracle would rather those companies sell machines that house its software. "I'd be surprised if Oracle tried to slant their software toward the hardware they just acquired," says Tod Nielsen, chief operating officer at VMware (VMW). Besides, says Gary Scholten, senior vice-president and chief investment officer at Principal Financial Group (PFG), the two companies already cooperate to ensure Oracle's software works with Sun's hardware. "They've done so many things so closely over the years, in some ways [the deal] shouldn't have been as much of a surprise as it seemed," says Scholten, whose firm manages retirement funds and pensions.

In the event Oracle keeps Sun's hardware business, it could try to bolster profit by shedding low-margin parts of Sun's server line and keeping more powerful computers with fatter margins. Pacific Crest Securities analyst Brent Bracelin estimates that Sun generates about $3 billion a year from supporting its Solaris Unix operating system. Most of that is tied to Sparc servers. And there's not a lot of expense associated with Sparc, since Sun outsourced its design and manufacturing.

Oracle executives told Wall Street they plan to engineer the company's software to work well with Sun equipment and offer specialized servers for industries, including banking and telecom. Oracle machines could be attractive to CIOs looking to pare down their list of suppliers.

How will Oracle steward the Java programming language?
On the day he announced the deal, Ellison called Java "the single most important software asset we have ever acquired." It could be a prophetic statement, since Oracle's ownership of the programming language, a computer industry standard, would have wide-reaching effects.

Java runs on 800 million PCs and 2.1 billion cell phones, and Oracle hasn't been shy about raising prices on its products. That means it could pump up Java revenue from the $220 million Sun booked in fiscal 2008 to perhaps $1 billion over time, says Citigroup (C) analyst Brent Thill. Controlling Java could also help ensure that customers of the dozens of companies Oracle has acquired since 2005 have a smooth path to new versions of Oracle's applications written in the language.

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