NOVELL INC Item 1A Risk Factors Our NetWare revenue stream continues to deteriorate |
Our strategy is to offset these declines by sales of our next generation of NetWare enterprise-ready operating system and services, Open Enterprise Server, which gives customers the opportunity to choose between a NetWare operating system and a Linux operating system, providing NetWare customers a means to migrate to Linux and open source solutions |
However, NetWare and OES combined license and maintenance revenue of our business declined by dlra21dtta4 million in fiscal 2005, excluding the impact of favorable foreign exchange rates |
If our strategy is unsuccessful, our NetWare and OES revenue stream will deteriorate faster than the growth of revenue streams from our other products |
If our identity-driven computing solutions and Linux and platform services solutions do not grow at the rate we anticipate, our growth will be negatively impacted |
We have focused on these offerings because we believe that identity-driven solutions and open source platforms are two of the fastest growing segments in our industry, and we believe that they represent the best opportunity for us to profitably grow our revenue |
Our ability to achieve success with this strategy is dependent on a number of factors including, but not limited to, the following: • the growth of these markets; • our development of key product solutions and upgrades; • the acceptance of our solutions by clients, particularly enterprise companies, large industry partners and major accounts; • enticing customers to upgrade from older versions of our products to newer versions; and • successfully selling technical support and other Novell solutions along with our products |
We may not be able to successfully compete in a challenging market for computer software and consulting services |
The industries we compete in are highly competitive |
We expect competition to continue to increase both from existing competitors and new market entrants |
Competitors of our identity-driven computing solutions and Linux and platform services solutions include Microsoft, IBM, Sun, HP, Altiris, Oracle, LANDesk, and 14 Novell annual report 2005 N _________________________________________________________________ [72]Table of Contents Computer Associates |
Our primary competitor in the North America Linux market is Red Hat |
Competitors of our global services and support group include IBM, Accenture, HP, CSC and Capgemini |
Competitors of our Celerant consulting segment include AT Kearney, McKinsey & Co, IBM Global Services, Capgemini, and The Management Consulting Group |
Many of our competitors have greater financial, technical and marketing resources than we have |
We believe that competitive factors common to all of our segments include: • the pricing of our products and services and the pricing strategies of our competitors; • the timing and market acceptance of new solutions developed by us and our competitors; • brand and product awareness; • the performance, reliability and security of our products; • the ability to preserve our legacy customer base; • our ability to establish and maintain key strategic relationships with distributors, resellers and other partners; and • our ability to attract and retain highly qualified development, consulting and managerial personnel |
If third parties claim that we infringed upon their intellectual property, our ability to use some technologies and products could be limited and we may incur significant costs to resolve these claims |
Litigation regarding intellectual property rights is common in the software industry |
We have from time to time received letters or been the subject of claims suggesting that we are infringing upon the intellectual rights of others |
In addition, we have faced and expect to continue to face from time to time disputes over rights and obligations concerning intellectual property |
The cost and time of defending ourselves can be significant |
If an infringement claim is successful, we and our customers may be required to obtain one or more licenses from third parties, and we may be obligated to pay or reimburse our customers for monetary damages |
In such instances, we or our customers may not be able to obtain necessary licenses from third parties at a reasonable cost or at all, and may face delays in product shipment while developing or arranging for alternative technologies, which could adversely affect our operating results |
In the event claims for indemnification are brought for intellectual property infringement, we could incur significant expenses, thereby adversely affecting our results of operations |
We indemnify customers against certain claims that our products infringe upon the intellectual property rights of others |
Additionally, under our Novell Linux Indemnification Program, we offer indemnification for copyright infringement claims made by third parties against registered Novell customers who obtain SUSE Linux Enterprise Server 8, SUSE Linux Enterprise Server 9, SUSE Linux Retail Solution, and Novell Linux Desktop, and who, after January 12, 2004, obtain upgrade protection and a qualifying technical support contract from us or a participating channel partner |
Although indemnification programs for proprietary software are common in our industry, indemnification programs that cover open source software are not |
For example, SCO has brought claims against two end users of Linux and has threatened to bring claims against other end users of Linux arising out of the facts alleged in SCO’s lawsuit against IBM and in SCO’s public statements |
In the event that claims for indemnification are brought for intellectual property infringement, we could incur significant expense reimbursing customers for their legal costs and, in the event those claims are successful, for damages |
Novell annual report 2005 15 N _________________________________________________________________ [73]Table of Contents Legal actions being taken by SCO could adversely affect our revenue and business plan if these legal actions cause a reduction in demand for our SUSE Linux and Ximian^® products |
SCO filed a legal action in March 2003 against IBM alleging, among other things, that Linux is an unauthorized derivative of UNIX and that portions of UNIX intellectual property that SCO alleges it owns have been included in the Linux operating system without authorization |
In addition, SCO has warned that legal liability for the use of Linux may extend to commercial users, has threatened users with litigation and sought licensing fees from them, and more recently has filed Linux related suits against other parties |
As discussed below, SCO has sued Novell for slander of title relating to disputes about whether Novell or SCO owns the copyrights to UNIX, on which some of SCO’s Linux-related claims depend |
It is possible that SCO’s actions may reduce general demand for Linux and Linux related products and services |
In this event, demand for our Linux (or open source) products and services could decrease, thereby reducing revenue, and would otherwise adversely affect our business since we have made a strategic decision to become active in the Linux market |
A lawsuit filed against us by SCO could result in a substantial judgment against us and adversely affect our revenue and business plan if they are successful |
In January 2004, SCO filed suit against us in the Third Judicial District Court of Salt Lake County, State of Utah |
We removed the claim to the US District Court, District of Utah |
SCO’s original complaint alleged that our public statements and filings regarding the ownership of the copyrights in UNIX and UnixWare have harmed SCO’s business reputation and affected its efforts to protect its ownership interest in UNIX and UnixWare |
The District Court dismissed the original complaint, but allowed SCO an opportunity to file an amended complaint, which SCO did in July 2004 |
As with the original complaint, SCO is again seeking to require us to assign all copyrights that we have registered in UNIX and UnixWare to SCO, to prevent us from representing that we have any ownership interest in the UNIX and UnixWare copyrights and to require us to withdraw all representations we have made regarding our ownership of the UNIX and UnixWare copyrights and to pay actual, special and punitive damages in an amount to be proven at trial |
Our revenue and business plan could be adversely affected if SCO is ultimately successful |
We have experienced delays in the introduction of new products due to various factors, resulting in lost revenue |
We have in the past experienced delays in the introduction of new products due to a number of factors, including the complexity of software products, the need for extensive testing of software to ensure compatibility of new releases with a wide variety of application software and hardware devices, the need to “debug” products prior to extensive distribution, and with regard to our open-source products, our increasing reliance on the work of third parties not employed by Novell |
Additionally, our open source offerings depend to a large extent on the efforts of developers not employed by us for the creation and update of open source technologies |
For example, Linus Torvalds, the original developer of the Linux kernel, and a small group of engineers, many of whom are not employed by us, are primarily responsible for the development and evolution of the Linux kernel that is a key component of our Open Enterprise Server offering |
The timing and nature of new releases of the Linux kernel are controlled by these third parties |
Delays in developing, completing, or shipping new or enhanced products could result in delayed or reduced revenue for those products and could adversely impact customer acceptance of those offerings |
We benefit from the open source contributions of third-party programmers and corporations, and if they cease to make these contributions, our product strategy could be adversely affected |
Our open source offerings depend to a large extent on the efforts of developers not employed by us for the creation and update of open source technologies |
Also, we and many other corporations contribute software into the open source movement |
If key members, or a significant percentage, of this group of developers or 16 Novell annual report 2005 N _________________________________________________________________ [74]Table of Contents corporations decides to cease development of the Linux kernel or other open source applications, we would have to either rely on another party (or parties) to develop these technologies, develop them ourselves or adapt our product strategy accordingly |
This could increase our development expenses, delay our product releases and upgrades or adversely impact customer acceptance of open source offerings |
We may not be able to attract and retain qualified personnel because of the intense competition for qualified personnel in the computer and consulting industries |
Our ability to maintain our competitive technological position depends, in large part, on our ability to attract and retain highly qualified development, consulting, and managerial personnel |
Competition for personnel of the highest caliber is intense in the software and consulting industries |
The loss of certain key individuals, or a significant group of key personnel, would adversely affect our performance |
The failure to successfully hire suitable replacements in a timely manner could have a material adverse effect on our business |
If our relationships with other IT services organizations become impaired we could lose business |
We maintain relationships with IT services organizations that recommend, design and implement solutions that include our products for their customers’ businesses |
A change in the willingness of these IT service organizations to do business with us or recommend our products could result in lower revenue |
The success of our acquisitions is dependent on our ability to integrate personnel, operations and technology, and if we are not successful, our revenue will not grow at the rate we anticipate |
Achieving the benefits of acquisitions will depend in part on the successful integration of personnel, operations and technology |
The integration of acquisitions will be subject to risks and will require significant expenditure of time and resources |
The challenges involved in integrating acquisitions include the following: • obtaining synergies from the companies’ organizations; • obtaining synergies from the companies’ service and product offerings effectively and quickly; • bringing together marketing efforts so that the market receives useful information about the combined companies and their products; • coordinating sales efforts so that customers can do business easily with the combined companies; • integrating product offerings, technology, back office, human resources, accounting and financial systems; • assimilating employees who come from diverse corporate cultural backgrounds into a common business culture revolving around our solutions offerings; and • retaining key officers and employees who possess the necessary skills and experience to quickly and effectively transition and integrate the businesses |
Failure to effectively and timely complete the integration of acquisitions could materially harm the business and operating results of the combined companies |
In addition, goodwill related to any acquisitions could become impaired |
Furthermore, we may assume significant liabilities in connection with acquisitions we make or become responsible for liabilities of the acquired businesses |
Novell annual report 2005 17 N _________________________________________________________________ [75]Table of Contents Our financial and operating results may vary and may fall below analysts’ estimates, which may cause the price of our common stock to decline |
We currently provide estimates of our revenue and earnings per share for only the upcoming quarter, and the first quarter of fiscal 2006 is the first time where we have provided such guidance in several years |
Our operating results may fluctuate from quarter to quarter due to a variety of factors including, but not limited to: • timing of orders from customers and shipments to customers; • impact of foreign currency exchange rates on the price of our products in international locations; • inability to respond to the decline in revenue through the distribution channel; • inability to deliver solutions as expected by our customers and systems integration partners |
In addition, we often experience a higher volume of revenue at the end of each quarter and during the fourth quarter of our fiscal year |
Because of this, fixed costs that are out of line with revenue levels may not be detected until late in any given quarter and results of operations could be adversely affected |
Due to these factors or other unanticipated events, quarter-to-quarter comparisons of our operating results may not be reliable indicators of our future performance |
In addition, from time to time our quarterly financial results may fall below the expectations of the securities and industry analysts who publish reports on our company, or of investors generally |
This could cause the market price of our securities to decline, perhaps significantly |
We face increased risks in conducting a global business |
We are a global corporation with subsidiaries, offices and employees around the world and, as such, we face risks in doing business abroad that we do not face domestically |
Certain aspects inherent in transacting business internationally could negatively impact our operating results, including: • costs and difficulties in staffing and managing international operations; • unexpected changes in regulatory requirements; • tariffs and other trade barriers; • difficulties in enforcing contractual and intellectual property rights; • longer payment cycles; • local political and economic conditions; • potentially adverse tax consequences, including restrictions on repatriating earnings and the threat of “double taxation”; and • fluctuations in currency exchange rates, which can affect demand and increase our costs |
We may not be able to protect our confidential information, and this could adversely affect our business |
We generally enter into contractual relationships with our employees that protect our confidential information |
The misappropriation of our trade secrets or other proprietary information could seriously harm our business |
In addition, we may not be able to timely detect unauthorized use of our intellectual property and take appropriate steps to enforce our rights |
In the event we are unable to enforce these contractual obligations and our intellectual property rights, our business could be adversely affected |
18 Novell annual report 2005 N _________________________________________________________________ [76]Table of Contents Some of our short-term, long-term, and venture capital fund investments have become impaired and additional investments could become impaired |
Our investment portfolio includes investments in public equity securities, small capitalization stocks in the high-technology industry sector, private companies, and funds managed by venture capitalists |
Many of these investments might become other-than-temporarily impaired |
During our fiscal years ended October 31, 2005, 2004 and 2003, we recorded impairment charges of dlra3dtta4 million, dlra5dtta4 million and dlra34dtta7 million, respectively, related to some of the investments in our portfolio that experienced an other-than-temporary decline in market value |
If the funds in which we have invested suffer poor financial performance, or if the private companies in which we have invested are not successfully acquired or undertake initial public offerings, the value of our investments may decrease further |
Our consulting services contracts contain pricing risks and, if our estimates prove inaccurate, we could lose money |
Our IT and Celerant consulting businesses derive a portion of their revenue from fixed-price, fixed-time contracts |
Because of the complex nature of the services provided, it is sometimes difficult to accurately estimate the cost, scope and duration of particular client engagements |
If we do not accurately estimate the resources required for a project, do not accurately assess the scope of work associated with a project, do not manage the project properly, or do not satisfy our obligations in a manner consistent with the contract, then our costs to complete the project could increase substantially |
We have occasionally had to commit unanticipated additional resources to complete projects, and may have to take similar action in the future |
We may not be compensated for these additional costs or the commitment of these additional resources |
Additionally, our Celerant consulting business derives revenue from projects priced on a contingency basis |
If results are not met, or if a dispute arises, we may not be able to realize a proportion of the overall fee, which is dependent on project achievements |
Our IT and Celerant consulting clients may cancel or reduce the scope of their engagements with us on short notice |
If our clients cancel or reduce the scope of an engagement with our IT or Celerant consulting businesses, we may be unable to reassign our professionals to new engagements without delay |
Personnel and related costs constitute a substantial portion of our operating expenses |
Because these expenses are relatively fixed, and because we establish the levels of these expenses well in advance of any particular quarter, cancellations or reductions in the scope of client engagements could result in the under-utilization of our professional services employees, causing significant reductions in operating results for a particular quarter |
Conversion of the Debentures into shares of our common stock will dilute the ownership interests of existing stockholders |
The conversion of some or all of the Debentures into shares of common stock will dilute the ownership interest of existing common stockholders |
Any large volume sales in the public market of the common stock issued upon such conversion could adversely affect prevailing market prices of our common stock |
In addition, the existence of the Debentures may encourage short selling by market participants because the conversion of the Debentures could depress the price of our common stock |