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OS Wall Street - SCOX Breaks $3; Ballmer Memo Boomerangs
Tuesday, November 02 2004 @ 12:03 AM EST

Here's a bit of the latest Open Source Wall Street, by Dion Cornett.

***************************

November 1, 2004

SCOX falls through $3 target price

The SCO Group (SCOX: Market Perform) last week traded to its lowest levels in 17 months. We believe the sub-$3 stock is attributable to: 1) heavy selling by BayStar attempting to liquidate its recently converted position, 2) legal events largely related to the IBM (IBM: not rated) case, and 3) failure of the Company to finalize and release an agreement with legal counsel to cap expenses. On the legal front, we believe SCOX’s position was further undermined by a parade of expert witnesses, brought forward by IBM with first hand knowledge of the original AT&T (T: not rated) contracts, who provided testimony contrary to SCOX’s assertions. Recall that one of the original bull arguments for SCOX was that they had inherited broad and particularly onerous AT&T contracts. Such an interpretation now seems to be at odds with testimony provided by the signatories of these same contracts. Finally, we remain disappointed that SCOX has yet to release details of a conceptually positive agreement to cap legal expenses. We suspect that the Company is struggling to work out contingencies such as how they ensure quality legal work once cash is depleted. At least some investors have expressed concern that the preliminary wording leaves room for legal counsel to start collecting equity once the cash cap of $31 million is reached. While we maintain our Market Perform rating at current prices, our sentiment is more negative given the items above, and we do not expect a significant rebound in SCOX’s share price even after pressure from BayStar selling subsides.

MSFT letter makes the case for OSS

In an email to IT buyers last week, MSFT CEO Steve Ballmer discussed why he believes MSFT solutions are better than Open Source/Linux for companies migrating from UNIX. In spite of the obvious reach such a public statement has, we believe it will have limited impact on Open Source companies such as RHAT and NOVL, and in fact may have the opposite effect of validating Linux as a viable threat to MSFT’s business. Mr. Ballmer quoted data points including TCO/acquisition costs and security to make his case, however, with slightly more than a superficial glance at the sources Ballmer himself cited it’s obvious he selected portions of the data to make his case. Contrary to assertions in the letter, the Forrester reports state that “both Windows and four key Linux distributions can be deployed securely,” and that on certain metrics Windows wins and on others Linux wins. Aside from that, the data is, by Forrester’s own admission, statistically insignificant, as they only interviewed 5 companies. In addition, Ballmer quotes a single metric from security-tracking firm Secunia, that RHEL has 7.4 security advisories per month and Windows Server 2003 has 1.7 advisories, to prove that Windows is more secure, even though Secunia warns that direct comparison of two products on this metric is invalid, since, for example, RHEL includes numerous products that are not bundled with Windows Server. Also, on deeper inspection, of those advisories, RHEL has 0 of 92 unpatched and of those 24% were highly critical, while Windows Server has 4 of 31 unpatched and 52% highly critical, and Windows XP has 19 of 74 unpatched and 37% highly critical. And, more importantly, counts of security advisories alone do not provide an accurate comparison as one single MSFT vulnerability from this summer caused the US-CERT to advise users to stop using Internet Explorer. In our view, Ballmer’s memo simply highlights the frustration that MSFT is feeling in finding a way to compete with Linux, and if the “independent studies” are as accurate as Ballmer claims, then AOL (TWX: not rated), Amazon (AMZN: not rated), Google (GOOG: not rated), and Linksys (CSCO: not rated) - all companies that are standardizing on Linux – must be wrong in how they operate their massive IT infrastructures. We believe that pressure on MSFT is only going to intensify as Linux matures and continues to evolve faster than Windows. We reiterate our Outperform ratings on RHAT and NOVL.


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