Sun Microsystems ( SUNW) promises the unveiling of new "end-to-end storage systems, software and services" at the company's analyst meeting Wednesday in San Francisco. Predictably, Sun executives and representatives are keeping mum about what exactly that means in advance of the event. Also predictably, their silence has market participants abuzz with speculation. High on the rumor list is that Sun is going to signal a diminution, or even an end, to its long-standing relationship with Veritas ( VRTS). The scuttlebutt, which longtime Veritas watchers say isn't new, is that Sun will dump Veritas for either its own storage software or for products provided by Legato ( LGTO), a much smaller participant in the storage software market. Veritas' share of the storage software market stood at 40.8% at the end of 2001 vs. 53.7% for EMC ( EMC) and just 5.5% for Legato, according to A.G. Edwards. The most recent evidence of Sun's embrace of Legato is a Jan. 25 announcement that it was adding Legato to its Vendor Integration Program, a joint servicing setup the hardware maker has with some software sellers. At a Goldman Sachs conference late Monday, Legato Chairman and CEO David Wright said Legato is doing "exciting things" with Sun. These include "working on the developer side and support side," he said, noting that Sun "has really made a commitment more to the software management environment vs. hardware." It's possible Sun could announce some kind of joint software development effort with Legato, which would be a boon to a firm that lost 17 cents a share in 2001 and is still struggling to overcome past stumbles. But Wright's comments didn't generate much excitement; Legato shares rose just 0.03%, to $13.18, on Tuesday after losing 7.1% on Monday. If Sun were to move away from Veritas, it will come as a big shock to the software developer, as well as to industry analysts, and would come after a rocky start to the week. Tuesday, Veritas fell 7% despite a Morgan Stanley upgrade, after falling nearly 6% on Monday. "We don't expect there to be a material change in our strategic partnership with Sun," said Kris Hagerman, senior vice president of strategic operations at Veritas. "I'm not all that concerned about Sun's partnership efforts in the storage space, because in so many market segments we really have dominant presence and think customers are going to continue to vote with their wallets." Industry analysts echoed Hagerman's view, noting that Veritas' software is popular with information technology managers because it is compatible with the products of the majority of hardware vendors. Additionally, Sun has a long-standing relationship with Veritas, including cooperative sales and marketing efforts as well as the VOS Initiative , a joint alliance among Veritas, Oracle ( SUNW) and Sun. "To move away from Veritas in a comprehensive way would be really difficult" for Sun, said Doug van Dorsten, who follows both Sun and Veritas for Thomas Weisel Partners, which hasn't done underwriting for either company. "I'm not suggesting they can't, but the logistics would be daunting." A Sun spokeswoman, who declined to comment on Wednesday's meeting, simply said "we have a strong relationship with Veritas ." A Legato spokeswoman declined to comment.
Fire and Smoke
Hagerman noted that Sun accounted for less than 8% of Veritas' revenues in both the fourth quarter and all of 2001. Still, the question is whether Veritas shares -- which traded at 59 times expected 2002 earnings heading into Tuesday's session -- can withstand any diminishment, perceived or actual, in the company's relationship with Sun. Even Vertias bulls concede that the storage software provider is increasingly finding itself at odds with storage hardware providers such as Sun and Hewlett-Packard ( HWP). "As Veritas has become more powerful, the hardware companies recognize hardware is becoming increasingly commoditized and want to play in the software space," said James Mendelson of SoundView Technology Group, who has a strong buy recommendation on Veritas. "They're on a collision course." SoundView has not done underwriting for Veritas. The pressures facing storage hardware manufacturers are similar to those experienced by PC makers in recent years, explained one veteran Silicon Valley venture capitalist who requested anonymity. Gross margins at EMC, for example, fell to 40.1% in 2001 vs. 58% in 2000, he noted, despite a 9% revenue increase in its high-margin storage software business. "In the enterprise space, the software guys and disc-drive makers are squeezing you," the VC continued. "So you add features and functionality to your box to add value to your claim Sun storage is better than Hewlett-Packard's , which is better than Network Appliance's, which is better than IBM's," and so on. The venture capitalist claimed no foreknowledge but "wouldn't be surprised" if Sun were to make an announcement Wednesday similar to that made by EMC, which last fall announced it was "refresh ing its entire Symmetrix product line," including enhancements to its software. "Everybody is doing this as they're trying to figure out how to improve the value of storage," he said. Certainly, it's not unthinkable that Sun may announce something that's viewed as being damaging to its Veritas relationship. "Our take is they're going to announce a bunch of developments and one will be software with embedded replication features" that would compete with Veritas' offerings, said Dan Niles, who follows Sun Microsystems at Lehman Brothers. Such a development might give some observers the impression Sun is migrating away from Veritas, he said, but "I don't see them dropping Veritas. That's not what we're expecting." Neil Herman, who follows Veritas at Lehman, seemed even less concerned: "I think the Sun-Veritas relationship will continue to move along similarly in the way it has been," he said. Lehman hasn't done underwriting for either firm. SoundView's Mendelson, who has a hold recommendation on Legato, said "it wouldn't shock me" if Sun were to "cozy up to Legato more," noting the firm has improved its service and support. "People might say 'they don't like Veritas.'" But "I don't think it will be anything as dramatic as a break in the Sun-Veritas relationship, because I don't think it would work to Sun's benefit." The question then is whether any kinks in the Sun-Veritas relationship -- perceived or otherwise -- are priced into Veritas' shares, which are down nearly 57% from their 52-week high but up 114% from their September lows.