SCO's quarterly filing [LWN.net]

SCO's quarterly 10Q filing is now available. These filings can often give some insight into the internals of a company. Since SCO's actions are, currently, somewhat relevant to the Linux community, this filing is worth a look. What follows is our summary of the current quarterly state of SCO.

The company claims a profitable quarter, of course. Total revenue is reported at $20 million, of which $11 million came from products, $2 million from services, and $7 million from SCOsource. As a result of this revenue, the company's claimed assets have gone from $21 million at the beginning of the fiscal year (October, 2002) to $26 million now; of that, almost $15 million is cash in the bank. $15 million is also, of course, what the company has received in licensing revenue from Microsoft and Sun this year.

The company has spent almost $4 million ($1.7 million in the quarter) on SCOsource. This figure includes internal SCOsource staff along with external legal fees. Most other expenditures are in decline; the company spent 31% less in research and development than it did last year. SCO laid off 35 employes - about 10% of its staff - over the quarter. It also shut down SCO Group Ltd., a subsidiary in the UK.

Litigation

Not surprisingly, ongoing litigation is an important topic in this filing. It mentions the Red Hat suit, stating:

On or about September 15, 2003, the Company filed a motion to dismiss the Red Hat complaint. The motion to dismiss asserts that Red Hat lacks standing and that no case or controversy exists with respect to the claims seeking a declaratory judgment of non-infringement. The motion to dismiss further asserts that Red Hat's claims under the Lanham Act and related state laws are barred by the First Amendment to the U.S. Constitution and the common law privilege of judicial immunity.

It is interesting to hear that "no case or controversy exists" with Red Hat. SCO may well be restricting its options with regard to the creation of future cases against Red Hat. The first amendment defense is interesting; the first amendment rights of companies in the U.S. is currently a topic of much debate - and an ongoing Supreme Court case.

Things are happening in other parts of the world:

The Australian Competition and Consumer Commission (the "ACCC") has contacted the Company and requested information regarding complaints it has received regarding the Company's intellectual property claims and the Company's statements regarding the need for commercial Linux users to obtain a UNIX license. [...]

Several entities in Germany have obtained temporary restraining orders in Germany precluding SCO GmbH, the Company's German subsidiary, in substance, from making statements in Germany that disparage Linux, or entities involved in the Linux business, or implicate Linux as infringing the Company's intellectual property rights. SCO GmbH has received an administrative fine of 10,000 Euro for a technical violation of one of the temporary restraining orders. [...]

Informal letter complaints similar to those raised in Germany have been received from companies in Austria and Poland. [...]

Pursuit and defense of the above-mentioned matters will be costly, and management expects the costs for legal fees and related expenses may be substantial. The ultimate outcome or potential effect of the Company's results of operations or financial position as a result of the above-mentioned matters is not currently known or determinable.

The end result is that the limited countermeasures taken against the company so far are being felt. The "risk factors" section of the filing also has this statement:

We are informed that participants in the Linux industry have attempted to influence participants in the markets in which we sell our products to reduce or eliminate the amount of our products and services that they purchase. They have been somewhat successful in those efforts and will likely continue.

In other words, SCO is discovering the costs involved in angering its customers.

Sun and Microsoft

Of course, SCO's customer base is shifting; a large part of its revenue comes from exactly two companies: Sun Microsystems and Microsoft.

SCO's previous quarterly filing had noted that the "second SCOsource licensee" (being Sun Microsystems) had received, as part of its deal, a warrant allowing it to buy 210,000 shares of SCO stock at $1.83 each. Subsequently, a second warrant for 12,500 shares has been issued to Sun, at the same $1.83 price. There is still no explanation of why SCO stock is being issued to Sun. Most software licensing agreements do not include this sort of equity component.

Sun, which was responsible for 12% of SCO's revenue over the quarter, still owes $2.5 million on its licensing deal. That money is to be paid by the end of November.

Microsoft contributed 25% of SCO's revenue over the quarter. "On July 31, 2003, Microsoft exercised an option to acquire expanded licensing rights. Upon delivery, we expect to recognize additional revenue related to this option." There is no further discussion of what these "expanded licensing rights" are, or what Microsoft is paying for said rights. Chances are, however, that this is the "Fortune 500" customer for SCO's "Linux license" that we heard about in early August.

Vultus and Vista

The quarterly filing gives a few details with regard to SCO's dealings with a couple of other Canopy-funded companies. In June, SCO acquired Vultus, Inc., which is a web services business. The purchase itself required the issuance of 167,590 shares of SCO stock, of which almost 37,000 went to Canopy. But Vultus also owed Canopy a little over $1 million, so another 138,000 shares of stock (worth over $2.5 million now) went in Canopy's direction to take care of that little problem. This deal is a significant transfer of resources from SCO to Canopy; the benefit to SCO remains unclear, however.

We've previously looked at SCO's dealings with Vista, which included the acquisition of $1 million in the company's debt for 800,000 shares of company stock, now worth many times that amount. The company has also fed the company $200,000 in other financing. The current state of that debt?

As of July 31, 2003, the $1,000,000 convertible note receivable discussed above as well as both $100,000 notes receivable were outstanding and in technical default; however, the Company had not demanded repayment. No allowance for the past due notes receivable was recorded as of July 31, 2003 since the Company and Vista continue to work together under the license agreement discussed above and the Company is evaluating its option to convert the notes receivable to equity in Vista.

Vista is fortunate to have such an understanding creditor.

Summary

This filing describes a company whose regular product and service offerings continue to decline in market share and revenue. The filing mentions new initiatives ("web services") but lacks specifics and does not go so far as to predict any sort of revenue from those initiatives. SCO's great hope for the future remains SCOsource. In that context, it is interesting to note that the company's "Linux license" is not mentioned in any significant way here. The first public announcement of this license came after the close of the quarter, but it was clearly in the works at that time. If SCO thought it would get any kind of real revenue from this license, it would not have hesitated to say so. Instead, we continue to hear about exactly two companies - Sun and Microsoft - which are keeping SCO on life support and, apparently, intend to continue doing so. Meanwhile, attacks through the courts and the market are making themselves felt; SCO is finding itself fighting an increasingly defensive battle.

Anybody who is considering investing in SCO would be well advised to read this filing in its entirety.

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SCO's quarterly filing

Posted Sep 16, 2003 22:12 UTC (Tue) by dwalters (subscriber, #4207) [Link]

> Is this a possible and legal scenario?

Maybe, but if I had to put money on it, I'd bet that it won't happen.

At this point I think even MS knows that SCO's probably going to lose its various court battles (including ones that haven't even started yet; I'm sure there will be more complaints filed against SCO). I doubt that MS would want to inherit all of this negativity.

SCO's quarterly filing

Posted Sep 17, 2003 1:42 UTC (Wed) by gdt (subscriber, #6284) [Link]

...what if MS acquires SCO completely...

then Sun's acquistition of SCO equity suddenly makes sense.

SCO's quarterly filing

Posted Sep 17, 2003 7:53 UTC (Wed) by error27 (subscriber, #8346) [Link]

Microsoft would get all of SCO's liability as well. I think it's possible to make a case that SCO violated the GPL by distributing the kernel at the same time that they claim to the press that "the GPL is unconstitutional". People say (at least one former employee) that SCO used GPL code in Unixware so that's also something to think about.

If Microsoft had wanted to, it could have purchased TSG back when the company was only worth $10 million. Instead Microsoft spent over $20 million to keep them alive. As a PR move, keeping TSG independent is better than buying them outright.

More likely, instead of buying TSG Microsoft would just buy the copyrights to ancient Unix when TSG goes out of business.

SCO's quarterly filing

Posted Sep 17, 2003 13:11 UTC (Wed) by mgh (subscriber, #5696) [Link]

I could imagine that Microsoft acquiring SCO might ring the odd alarm bell with those people who are interested in the behaviour of monopoly companies....

SCO's quarterly filing

Posted Sep 18, 2003 12:00 UTC (Thu) by daniel (subscriber, #3181) [Link]

what if MS acquires SCO completely and discontinues any unix licenses and tries to battle linux with lawyers?

As it stands, if counterclaims by IBM, Redhat and possibly others are successful, SCO is unlikely to have the means to pay the awards, but Microsoft as proud new owner should not have a problem.

SCO's quarterly filing

Posted Sep 22, 2003 20:58 UTC (Mon) by crouchet (guest, #1084) [Link]

>> what if MS acquires SCO completely and discontinues any unix licenses and tries
to battle linux with lawyers?<<

Or someone else with lots of money and an interest in the case. There are a lot of
ways this could happen. For that matter, if IBM were to buy them and then quietly let the
case die -- for now -- that would mean they would be able to resurect all this later if
they wished or felt it necessary. And they would have the money to make it have a
serious impact. OTOH, if IBM bought those rights and then released them, that would
put the case to bed. Would IBM go the enlightened self interest route or the corporate
S.O.P. route? No way to tell.

As it stands a small company with somewhat limited funds is fighting the legal battle
and IBM is defending. That is far from being the worst possible scenario.

JC

SCO's quarterly filing

Posted Sep 18, 2003 4:28 UTC (Thu) by wolfrider (guest, #3105) [Link]

>Anybody who is considering investing in SCO would be well advised to read this filing in its entirety.

--Anybody who is considering investing in SCO should have a proctological examination to see if their head is someplace it shouldn't be. :P

SCO's quarterly filing

Posted Sep 18, 2003 17:29 UTC (Thu) by pimlott (guest, #1535) [Link]

Caveat: I have never traded options. Put options seem problematic to me. First, there is an exercise date, so you need to estimate how long SCO can get away with this. Up to a couple years seems possible to me. Can you typically get options that far out? Second, in order to exercise put options, you need to buy stock on the market. What if there is no SCO stock to buy at that point? Like I said, I don't have experience, so maybe options have a provision for that, but be careful.

A simple short would seem to me more sensible. As long as you don't leverage yourself too much, all you have to do is sit back and wait for SCO to fall. However, I don't know where to borrow SCO shares to short. My major on-line broker doesn't have any. Does anyone know?

SCO's quarterly filing

Posted Sep 19, 2003 1:10 UTC (Fri) by giraffedata (subscriber, #1954) [Link]

Nobody exercises a put option. You just sell it back to whoever wrote it (effectively -- technically, you just sell it in the market).

A simple short would seem to me more sensible

It looks to me like that has identical problems. First, when you borrow stock to short sell to someone, that loan has a due date. You have to reacquire the stock and give it back before then. So that's the same as a put option expiration. Also, if no stock is available to buy when the loan comes due, then what? (Actually, I don't know -- in either the put or short sale case).

At least when you buy a put option, your downside is limited to what you paid for it. Short selling has no downside limit.

SCO's quarterly filing

Posted Sep 26, 2003 22:08 UTC (Fri) by pimlott (guest, #1535) [Link]

Nobody exercises a put option.

What do you think you do with options, just admire them? Of course you exercise them, whether put or call. You can trade them too, but ultimately a put option is valuable because it lets you sell at a given price in the future.

It looks to me like that has identical problems. First, when you borrow stock to short sell to someone, that loan has a due date.

I have never heard that, and have read that a short may be held indefinitely. Moreover, I have by now managed to short SCOX, and there is nothing in the transaction about a due date.

You have to reacquire the stock and give it back before then. So that's the same as a put option expiration.

Not exactly: With a short, you borrow shares and sell right away, so you've already got your maximal return in cash. With a put, you don't sell until you exercise, so you absolutely need to be able to buy then (unless options have some escape clause for this case).

Also, if no stock is available to buy when the loan comes due, then what?

I don't know either, but it stands to reason that if the stock has been delisted, the person you borrowed it from won't want it back very badly. Anyhow, since you can cover a short at any time, I don't have to wait until it's delisted.

Short selling has no downside limit.

That's silly--I just tell my broker to cover if the price hits a "stop". Voila: limited downside.

SCO's quarterly filing

Posted Sep 26, 2003 22:20 UTC (Fri) by pimlott (guest, #1535) [Link]

Actually, I don't know -- in either the put or short sale case

Thinking about this some more, I doubt it's a problem in either case. If a stock is delisted, put options are still valuable to whoever's stuck with shares at that point, so you should be able to sell to them for nearly the full exercise price. After all, with either a put or a short, being delisted is the natural extreme of what you want to happen, and it would be perverse if you couldn't cash out.