Sun Co-Founder Departs for Startup He Funded

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"The server industry for the most part now is reselling Intel and AMD CPUs," Bechtolsheim says. "You wouldn't start another server company today."

For Sun, the bad news is piling up as CEO Jonathan Schwartz executes an uneven turnaround. Sun said it would report a loss of 2¢ to 12¢ in its first quarter, compared with Wall Street analysts' expectations of a penny-per-share loss. Sun also said revenues would decline to between $2.95 billion and $3.05 billion, short of analysts' expectations.

Open-Source Strategy

The company has suffered from falling sales (BusinessWeek.com, 5/2/08) of computers based on its proprietary Sparc chip and has struggled to sell enough low-end machines based on AMD chips to make up the difference. Schwartz's strategy of releasing much of Sun's software under open-source licenses has also failed to produce enough excitement in the market.

On the financial side, a reverse stock split approved in November hasn't bolstered Sun's share price; the company now trades at a market value of just $3.5 billion. On Oct. 22, Fitch Ratings downgraded its rating on $550 million of Sun's debt due to the company's "deteriorating financial performance."

"They've been in a state of restructuring for years," says Jayson Noland, a senior analyst at Robert W. Baird.

Now some analysts are saying that a sale or replacement of Schwartz, who took over as CEO from McNealy two years ago, could be in the offing. "The probability of a transformational event—divestiture, sale, or management change—is rising," said Citigroup (C) analyst Richard Gardner, who has a buy rating on Sun, in an Oct. 20 note to clients.

Takeover Time?

In August several large investment banks were pitching a Sun takeover to private equity firms, according to bankers and analysts. "It still does pump out a lot of free cash flow," says one banker, who asked not to be named. But, he added, a technology company that could acquire Sun's patents and accounts could be a more likely buyer if Sun gets sold. "I don't think a private equity buyer is going to back Schwartz" and his open-source strategy, he says. A Sun insider says the company is not thinking of a management change and has no plans to sell the company or hive off parts.

For Bechtolsheim, who funded Arista from his personal fortune, the job change marks a return to the startup world at a time when venture capital is flowing to alternative energy and the Web, rather than information technology. "There hasn't been a real focused, reliable startup in this space in 10 years," says Ullal, who worked with Bechtolsheim at Cisco after the networking giant bought one of his previous startups, Granite Systems, in 1996. Bechtolsheim returned to Sun when it bought another company he formed, called Kealia. Bechtolsheim will remain with Sun in a limited, part-time capacity, the company says.

Now Sun will soldier on largely without the help of the designer of key products it's counting on to replace its out-of-favor Sparc computers, at a time when it's trying to reassure customers and investors of its relevance. Says analyst Haff: "They don't need another piece of negative news."

With Peter Burrows in Silicon Valley.
Ricadela is a writer for BusinessWeek.com in Silicon Valley.