The glow around all-things Linux continued Monday with the two major distributors of the open-source operating system rising well ahead of the

Nasdaq Composite's

1.7% gain.

The latest bout of Linux fever began last Wednesday amid a flurry of positive news:

Linux market leader Red Hat announced that it had smashed analyst projections for new enterprise subscriptions and grown quarterly revenue by 43%;

Novell , a recent entry into the Linux market, inked a breakthrough deal with Hewlett-Packard . The deal put Novell on the radar screen of Linux investors and analysts who, fairly or unfairly, had long ago written the firm off as a maker of legacy software;

The European Union slapped Microsoft with a $612 million fine and other penalties that could ultimately weaken its stranglehold on the operating system market.

After rallying strongly late last week on the news, Red Hat rose another $1.50, or 7.1%, to a 52-week closing high of $23.70 on Monday, while Novell gained 49 cents, or 4.4%, to $11.66.

Following some

major international "wins" in recent months, last week's developments demonstrated that Linux, not so long ago dismissed as a geeky niche product, is moving further into the mainstream. That's the good news for Linux providers. But by agreeing to sell business desktops with Novell's SUSE Linux installed, H-P has made Red Hat's market that much more competitive.

Although the two companies have similar market caps (Red Hat at $4.2 billion, Novell at $4.5 billion), Wall Street has understandably treated them very differently.

Red Hat, which has yet to have a $100 million revenue year, is valued at 180 times estimated 2005 earnings, and sports a price-to-book ratio of 10.7. Novell, meanwhile, which annually books more than $1 billion in revenue, trades at 40 times 2005 earnings, and has a price-to-book ratio of 4.4.

The difference? Red Hat is nearly synonymous with Linux; Novell is best known as a provider of legacy software.

Novell has yet to earn a penny from Linux. Although Novell has delivered numerous new products in the last few years, it still derives about one-third of its revenue from NetWare, a once-dominant network operating system, said analyst Gideon Kory, of Roth Capital Partners. It will take a few quarters for revenue from the H-P deal to start flowing, he said. (Roth Capital has no investment banking relationship with Novell.)

Red Hat, on the other hand, already has great brand recognition and is rapidly expanding its corporate presence. The Raleigh, N.C., company added 87,000 new subscriptions in the fourth quarter, roughly double what analysts had expected, including 61,000 sold into the enterprise market. The number of customers is far fewer than the number of subscriptions, because many companies run multiple copies of Red Hat Linux on different servers.

If the discrepancy between the two companies bothers Novell, the Waltham, Mass., company doesn't let on. Speaking last week at Novell's annual customer meeting, Chris Stone, effectively the No. 2 executive in the company, said: "We don't want to be another Red Hat."

Instead, Novell hopes to use Linux to make itself an even more formidable networking company. One big plus: The company has thousands of customers and is a highly respected name in information technology circles. Indeed, last week it kicked off a marketing campaign, placing full-page ads in publications including

The New York Times


The Wall Street Journal

, appealing to IT execs who were already familiar with the company.

The deal with H-P is particularly helpful to Novell because it means that the company now has two major companies behind it, said Kory, noting that


(IBM) - Get Report

invested $50 million in Novell last year. Although it is difficult to estimate how much revenue the H-P deal will generate until systems start to ship, Kory said he believes that legacy from existing SUSE customers plus H-P-generated customers should generate approximately $50 million this year.

It's far too early in the game to call Linux winners and losers. In fact, there may be room for both Red Hat and Novell, not to mention a number of smaller players.

"Red Hat's 61,000 enterprise subscriptions represent only about 4% of total server shipments for the fourth quarter of 2004. Given the expected future growth in total server shipments (estimated at 13% in 2004), plus our thesis that eventually half of all server shipments will be Linux, the competitors have tremendous opportunity to grow their existing businesses," Dion Cornett of Decatur Jones wrote in a recent note to clients. Decatur Jones does not have an investment banking business.

Linux is well on the way to acceptance as a technology. But because it's based on the open-source software model, turning Linux into a stable business with predictable margins is more of a goal than a reality.

(Open source is a program whose source code is available to the public for use and/or modification from its original design, free of charge.)

And then there's the wild card of litigation -- a company called the

SCO Group


claims that it "owns" some of the open-source code found within some versions of Linux, and is

keeping lawyers busy suing customers.

In sum, there's still plenty of reason for caution in this market despite investors' current infatuation.