FOOL CONFERENCE CALL SYNOPSIS*
By Debora Tidwell (TMF Debit)

Sun Microsystems, Inc.
<% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: SUNW)") else Response.Write("(Nasdaq: SUNW)") end if %>
2550 Garcia Avenue
Mountain View, CA 94043-1100
(415) 960-1300
http://www.sun.com

UNION CITY, CA (April 26, 1997)/FOOLWIRE/ --- Sun Microsystems reported their third quarter 1997 results after the market close on April 15th. Revenues for the third quarter were $2.116 billion, an increase of about 15% from Q3 a year ago. Earnings per share were $0.58 which included a $0.04 per share acquisition related charge for Longview Technologies LLC and an $0.11 per share gain realized on sale of an equity investment in Iona Technologies in the quarter. Without these items, earnings per share were $0.51, growth of nearly 38% over the prior year. Common stock equivalents at the end of Q3 were 388.4 million shares, relatively flat from the prior quarter. Bookings for the quarter at $2.048 billion were up 14% compared to the year-ago quarter. They ended the quarter with $404 million in backlog, down from $470 million in Q2.

ONE-TIME CHARGES/GAINS. They recorded a one-time charge in their Q3 income statement related to the acquisition of Longview Technologies LLC. This one-time charge was required by GAAP and represents purchased R&D. The impact of this one-time charge is a $0.04 per share decrease in their reported earnings per share for Q3 and for the fiscal year to date. In addition, they had a gain on the sale of an equity investment in Iona Technologies during the quarter which resulted in an $0.11 per share increase in their reported earnings per share for the quarter. The net effect of the two unusual items was a $0.07 increase to their third quarter earnings per share. If you exclude these items, their EPS for Q3 would have been reported at $0.51. They focused their comments on financial results excluding these unusual items.

GROSS MARGIN. The gross margin was 50.2% of revenues, down 20 basis points sequentially and up 550 basis points over the year-ago quarter. Gross margins remain very healthy, certainly at the high end of recent historical range. They continue to benefit froma strong mix of servers, from cost management, from component cost increases, from storage products and the introduction of other new products. Gross margins also benefitted, probably by less than 0.5% from currency movement and hedging actions related to yen-denominated purchases. On an overall basis, currency had a slightly negative impact on their overall bottom-line results. But the impact was clearly most noticeable on their revenue line. As usual, they will continue to price their systems products aggressively. They are continuously reviewing the overall competitiveness of their products, so this is nothing new. They are focused on the overall operating model, not just on any one line item of their income statement. Responding to a question about the outlook for gross margins going forward, they said that because their product line is so broad, there are many things working to help gross margins and things that work against gross margins, it's just an arithmetic sum and depends on what big deals they win and how it all shakes out. What they are really focused on is making sure they are delivering earnings per share growth to their shareholders. Their stated ongoing, goal is to present an average 15% EPS growth per year on a longer-term basis.

EXPENSES OVERVIEW. Looking at operating expenses, excluding the one-time charge for purchased R&D, they held expenses essentially flat with Q2. This is quite an achievement in view of the fact that they added nearly 1,400 people during Q3. A significant portion of those employees are temporary, in fact more than 20% of the additions this quarter. That gives them some flexibility. They have spoken in the past about the fact that they attempt to monitor their levels of spending, including those items that are somewhat discretionary in nature, throughout the quarter as they are focused on improving the earnings per share line. They think this quarter's results show that they are capable of making some level of short-term adjustments to their business model to accomplish their overall objectives.

EXPENSES DETAIL. R&D expense was $219 million which includes the $23 million related to the acquisition of Longview Technologies. Excluding this non-recurring acquisition-related charge, R&D expense as a percentage of revenue was 9.3%. In the last year they have added nearly 900 new employees in R&D. They will continue to invest significantly in R&D in order to maintain their technology leadership. SG&A expenses were $585 million or 27.7% of revenues, down 70 basis points sequentially and is lower than Q2 in absolute dollars. Operating income, including the one-time charge for Longview Technologies was $257 million or 12.2% of revenues. Excluding the one-time R&D purchase charge, operating income was 13.2% of revenue. Headcount at the end of Q3 was 20,739, up sequentially by 1,383. The sequential increase was primarily in sales, R&D, and demand creation resources. In addition, operations staffed up with additional temporary headcount to help meet the challenges of the busy quarter end.

PROCESS RE-ENGINEERING EFFORTS. They continue to invest heavily in their longer-term business process re-engineering activities. These investments are still ramping and are nearing their overall peak in terms of people. They have well over 500 people in the company who are spending a considerable amount of their time on these teams. They are making progress towards their overall objective of having more responsive and cost-effective processes.

ASSET MANAGEMENT. In terms of asset management, inventory turns for Q3 were 8.4 and days sales outstanding were 61 days, reflecting the somewhat back-end nature of demand for the quarter. Stockholders equity was $2.484 billion and their book value per share was $6.73. They have ongoing stock buyback programs. Under these programs, they repurchased 2.1 million shares valued at $68.7 million during the third quarter. They are comfortable with their levels of cash, receivables, inventories, and the like.

REVENUE BY GEOGRAPHY OVERVIEW. For the third quarter, revenue growth by geography was highest in North America, which posted a 20.6% gain over the prior year quarter. Europe had growth of 15.1% and what they categorize as "the rest of the world" posted gains of 5.6% over the prior year quarter. Japan, which dominates the rest-of-world category, experienced a weak quarter from a demand point of view compounded by the relative strength of the dollar to the yen. On an overall basis, they are quite pleased with most aspects of their third quarter performance. They like the level of demand they saw in the US and much of Europe in terms of local currency and are most certainly pleased with the level demand in the rest-of-world geographies excluding Japan. They had one relatively weak geography in Japan and currency was a bigger issue for them than normal. But the overall results were more than satisfactory from their standpoint.

GEOGRAPHY DETAIL - EUROPE. Inside of the European number, they saw improving levels of local currency demand in Germany and Switzerland, among others, and began to see some signs of improvement in France, although off of a lower base. They also experienced some impact on the revenue line due to the fact that the dollar strengthened versus most European currencies. They estimate the revenues would have been approximately 3% higher if the dollar had not strengthened so dramatically. They continue to see very large double and triple digit year-over-year revenue growth in parts of Asia and the Latin/South America areas. The growth rate in Mexico was over 200%; in Argentina over 100%; in Korea (a much more mature market than Mexico or Argentina) it was over 60%; and in the Hong Kong, People's Republic of China, Taiwan, and Asian areas the growth rates were all above 30%. They were asked if they thought the improvements in areas of Europe were going to continue to improve. They replied that the good news about Sun is that they are incredibly diversified from an international portfolio perspective. So, personally, they don't care what happens in any particular specific geography because as long as Earth doesn't go into the tank, they are okay.

GEOGRAPHY DETAIL - JAPAN. In the rest-of-world category, Japan has been the largest component and typically Q3 is that region's largest quarter in any year. For awhile now, Sun's business has been somewhat bucking the macroeconomic trends that are prevalent in Japan. As recently as their fiscal Q2, they were seeing local currency growth in the low double-digits on a year-over-year basis. In Q3, they experienced a slight decline in year-over-year local currency revenues. They are certainly concerned about this and will be monitoring it and doing everything they can to try and improve the formula going forward. But they do not see many signs of near-term change on that front.

The weakening local currency demand in Japan was compounded by the impact of the strengthening dollar. The dollar appreciated quite significantly during Q3 -- around 8% -- which is a pretty significant move inside the 75-90 day period and does not allow them to make short-term adjustments either to their pricing or purchase commitments.

Sun's business in Japan has historically been more technical-workstation based and they sell through a lot of partners over there. They have been transitioning that business, like the rest of their geographies, to one that is a little more balanced in terms of commercial and server opportunities. It has taken them a little longer and they are now investing in a direct, end-user type presence and demand-increasing activities. But, they think it is fair to say that this geography is still transitioning from what many of their geographies used to look like to what they look like today. Clearly that is an element of it. From the marketshare data they are seeing, Sun is still pretty competitive over there, so a lot of this appears to be macroeconomic as well.

STARFIRE ENJOYING STRONG DEMAND. They are encouraged by initial customer acceptance of their Ultra Enterprise 10000, or their Starfire product, and by continued increases in demand for their Ultra Server family. They are proud of their overall business model and their ability to deliver a very strong year-over-year increase in the bottom line. During the quarter they continued to see a trend of winning enterprise-class deals in key markets. Illustrating some of the successes in recent months, Sun shared highlights of some of the deals.

OFFICEMAX. OfficeMax, one of the world's largest office supply stores, selected Sun as their partner for a company-wide, in-store, kiosk project. Each of the more than 600 kiosks, one in every US store, is powered by a Sun Workstation with the interface developed by Sun partners The Allied Group. Using the kiosks, OfficeMax has instant updates on product availability and can offer customers thousands of more products without having to increase inventory.

AETNA. Aetna Inc. selected Sun's new high-end Starfire server to migrate key business applications including financials, human resources, and corporate databases from its legacy mainframe to a network computing environment. Aetna chose Sun over IBM, HP, and DEC based on Sun's multi-domain capability and mainframe-class reliability, availability, and serviceability features. The ability of Sun Service to provide 24-by-7 support for mission critical applications was another determining factor. Aetna's new system is running on the Ultra Enterprise 10000 with 500 GB of storage in a 3-domain environment.

BENEFICIAL FINANCE. Beneficial, a large financial services firm in the Northeast, chose Sun over Microsoft and IBM to build an enterprise-wide Internet solution that gives employees desktop access to the web. Beneficial plans to roll out Internet access to more than 10,000 employees across 1200 field offices. Beneficial chose Sun based on the scalability of their servers and their broad Internet experience.

SINGAPORE. The government of Singapore has chosen Sun over IBM, HP, and Compaq as its platform of choice for its Lotus Notes Groupware solution. This multi-million-dollar deal involves hundreds of workgroup servers running Lotus Notes applications throughout the Singapore government. Sun's price/performance and support for Notes 4.5 were the deciding factors for the Singapore government.

HP EDITION OF JAVA WORKSHOP. Under a global licensing agreement, Hewlett-Packard will offer developers an HP edition of Java Workshop. Spanning HP-UX and Windows NT environments, the HP edition of Java Workshop enables developers to write business-class Java applications for development and deployment on HP platforms.

STARFIRE/ULTRASERVER 10000. They don't plan on updating people each quarter on this product in particular, but since it is a very significant new offering and since each one of these carries a fairly large average selling price (around $1 million), they wanted to make sure that analysts don't get too far ahead of themselves estimating the impact this could have on Sun's revenue picture going forward. They announced this product line in January and began shipping late in Q3. They shipped between 10 and 20 of these in Q3, which was well below the number ordered. They are in the process of ramping their production capability for this line. Currently they estimate capacity to be approximately 70 or so per quarter. They are putting plans in place to increase this to around 100 or so per quarter during their fiscal Q1. To do so, they need to invest in more test equipment, more people to conduct and manage the test and production engineering processes, and the like. As such, they can't simply increase capacity overnight.

JAVA 1 SHOW IN SAN FRANCISCO. They commented that this was probably the most amazing event they have ever had a chance to sponsor. They even got Microsoft to come down and keynote in a breakout room in a smaller show that was also showing in Moscone Center in San Francisco, so that attracted a lot of attention. The bottom line, other than the fact that there were over 10,000 programmers at the event and they sold out the leather Java jackets at very high gross margin on the first day of the show, they think the key messages that came through were that people are not asking the question "Can Microsoft steal Java?" because they can't. Java is Java. Java has a very strong testing and certification suite and 100% pure program and if people don't pass 100% pure, it's not Java. If it's not Java, it's probably Windows, and there will be Windows, but it isn't Java. People are now comfortable that they have a choice and, given a choice between Java and Windows, just about every software developer is going to do both. When software developers are given a choice of two, they do both. If they are given a choice of 5, they may do 3 platforms. Given a choice of 10 platforms, they are only going to do 2 or 3. Beyond that, Sun will let the technologies compete out in the marketplace based on security features, scalability, openness, multi-platform, memory leaks, and all of those other things and they think Java will come out very nicely in that environment. The show was very successful in getting that story out and effectively positioning Java as a massive superset of the Windows unit volume as the ultimate thin client to write to, and it couldn't have been more successful.

INCREASED PRODUCT LINE BREADTH. They really have in the last quarter or two, moved the scalability from workstations to file server to smartcard to supercomputer. In fact, the breadth of Sun's product line and technologies has really moved way down with some of the Java announcements and way up with the Starfire machines which are selling for as much as $2 million plus per machine.

STARFIRE IS HOT. Customers are telling Sun today that Starfire is the hottest computer on the planet. If you believe in the utility model and the large server thin client model, Sun believes this is the machine for the server -- this is the SAP machine, the Baan and Peoplesoft machine, the database warehouse machine, the scalable web server machine of choice at 64-way, 20 terabytes, hot-pluggable everything, redundant everything, onboard service processor, redundant operating systems onboard. This is the best of the UNIX and mainframe worlds together and customers are telling them that.

JAVA BROWSER. On the other end, there are two ultimate thin clients. One is the Java browser. People talk about NCs versus PCs, but Sun doesn't think that's the war. They think it's the Java browser versus the PC. That's the ultimate thin client, the Java browser. People writing to the Java browser can run it on a fat client, a thin client, or anything they want -- any legacy environment or any new one.

JAVA SMARTCARDS. They have taken the thin client even thinner than what Larry Ellison (CEO of Oracle Corporation) and his $500 computer might even argue, and that is the smartcard. They have signed up Bull, Schlumberger, Gem Plus, and they have over 85% of the smartcard manufacturing unit volume signed up for the JavaCard API. As smartcards take over the world -- they are very big in Europe and spreading like wildfire. Motorola just announced they are going to be getting into the smartcard business and we are going to see this hit the US and Asia very quickly. We are going to be able to manage and deal with Java transactions, Java data, Java information, Java pages, Java encryption and security and identification from our wallet all the way through the largest Starfire data warehouses with the security and safety features of Java throughout this entire environment -- a no-virus type of smartcard with supercomputer scalability. This is Sun's plan for the technology and they think it is really exciting stuff. They are even talking to some of the silicon makers who build the silicon for the smartcard about putting Java acceleration into a fast Java card environment.

MORE MARKETING TO BUILD AWARENESS/IMAGE. In terms of image, awareness, and promotion, Sun is running an 8-page insert in the Wall Street Journal. They have also broken some new TV ads recently. They have signed a new ad agency and are going to be cranking up the noise they make out in the marketplace very aggressively. They think people need to know about them now, that it's time to let them know about Sun. They are ready with a worldwide service and support capability and a sales coverage model now with their reseller partners and with their OEM partners. They won a big deal with Scientific Atlanta, for instance, to put 1 million SPARC microprocessors in their set-top boxes. They are getting into those kind of deals where scale matters, where brand awareness, and where just pure comfort level with Sun as a Fortune 203-size company really matters. So, they feel it is about time they started to make that known.

INVESTING FOR THE FUTURE. In the early 1990s Sun talked about 3 major investments they were making with the reorganization, with the UltraSPARC chip, and with the move to Solaris from SunOS. They have several major investments they are making right now that have yet to pay off. Sun is delivering the numbers and above-average industry growth, yet investing like crazy for the year 2000 and beyond because what they are trying to do is set up the business to continue to reward the long-term shareholders. Major areas of investment they are making follow:

COVERING NEW GEOGRAPHIES. One investment the company is making is in coverage -- they hire people and start moving into some new geographies and it really takes a couple years to get critical mass, to get local geography awareness and skill sets. So a lot of the hiring done in the last 1.5 years they haven't necessarily seen pay off in incremental revenue. They are really trying to build for the year 2000 and beyond in terms of that.

IN-HOUSE PROCESS RE-ENGINEERING EFFORT. The second major investment they are making is in their systems, their SunPeak project. They are spending literally $50-100 million per year to re-engineer just about every business practice and every business process inside the company. That really is going to set them up from the year 2000 on to be world-class in their ability to support a very much larger company than they are today in terms of transactions and all the rest of it.

INVESTMENT IN JAVA TECHNOLOGY. A third major investment they are making is obviously in the whole Java technology paradigm -- Java chips, Java OSs, Java virtual machines, Java compilers, Java development tools -- they have invented a whole new architecture and they are basically having to duplicate a lot of what they have already done in the SPARC/Solaris world into this new Java/virtual world as well as scaling it all the way down to smartcards, so that is another major investment that has almost insurmountable upside for them, but they haven't seen the payoff yet. They are certainly on track to see that kind of payoff.

IN-HOUSE JAVASTATION DEPLOYMENT. Two more investments they are making right now and still funding despite the fairly respectable numbers they are putting on the boards today, they are deploying Javastations throughout the company. McNealy commented that he hasn't turned on his SparcStation in about 7 days and has just been using his JavaStation. They are going to have several thousand employees up on JavaStations this Summer. That is a pretty significant re-engineering and move to a new architecture that is also expensive up front, but they think it will save them thousands of dollars per desktop as they roll forward. But they probably won't see that until sometime after the end of FY 1998.

INVESTMENT IN IMAGE/AWARENESS BUILDING. The last one is the increased spending on image and awareness through advertising, promotions, and marketing communications efforts. That stuff has 2-3 year out kind of paybacks.

WHY DOESN'T SUN ACCELERATE/INCREASE JAVA INVESTMENT? Sun CEO Scott McNealy was asked why Sun wasn't accelerating their investment in Java given the fact that they continue to beat analyst estimates and presumably have the money to do so. McNealy responded by asking "What would've happened to our stock if we had met expectations? That is always the challenge and the issue we have to deal with. A lot of our employees own stock. Stock matters to our employees. Stock price matters to our employees. Everybody wants to hire people from Sun Microsystems and employee morale and employee retention is very stock-price sensitive. It would be wonderful to be a private company and to be able to go run the company at 2% pre-tax margins for a couple of years given the major inflection and opportunity we are facing. But, as a public company we just don't have that opportunity. We still added, just in the Java software development group alone, over 100 people. That doesn't include all of the folks we hired in the field and trained them on Java, all of the training programs that we did and all of the folks in the Java Workshop development environment and all the work we are doing in SunSoft and the Java chips folks and all of that. We really cranked up and are spending a lot more on Java now than we did 90 days ago and significantly more than a year ago."

MCNEALY TO FOCUS ON PRODUCT EXECUTION. Personally, Scott McNealy is going to spend a lot more time over the next 6 months focused on product execution. It seems to him that Sun again has gotten itself very well setup strategically. They are a 100% pure play again on all the right answers -- the utility model, the web, RISC UNIX, HTML/Java, and they need to make sure they are very focused on product execution. McNealy thinks they have done very well in many product lines and he is also not totally happy with some of the execution they have had in some components of their business and he is going to be pushing that hard. He thinks there is some real upside and some low-hanging fruit that with a little more focus and attention they could go after in terms of product execution, and get more aggressive out in the marketplace. He believes it is an elastic market and believes that price/performance still matters and they are going to go out and execute like crazy. He thinks as they get down to a Coke versus Pepsi war on the client side with captive X versus Java and they have Coke versus Pepsi on the server side with Solaris and NT, that execution is going to be very important. They want to "taste better" and they feel they have all the opportunity in the world to out-execute everybody on both the client and the server side with microprocessor operating environments, development tools, network management tools, and enterprise boiler-room capable technologies. That goes with their investments on worldwide coverage for service, support, and sales that is ongoing, but they think they have made a lot of good progress there in the last couple of years. He will also be checking in with their customers worldwide.

* A Fool conference call synopsis represents an effort to highlight the salient points of a conference call and should not be taken as an authoritative accounting or transcription of the entire event. Note: Statements made by a company other than historical information may constitute forward-looking statements for which the company can claim protection under the Safe Harbor Act. Please consult the company's filings with the SEC for information on risk factors which might cause actual results to differ materially from the information contained in these forward-looking statements.