Expanding on a plan it announced in November 2007 by which Red Hat (RHT) said it would capture 50% of the operating system market by 2015, the company announced on February 13 that it intends to also capture “50% of enterprise middleware workloads by 2015.” The goal comes as an interesting juxtaposition with the Alfresco Barometer Survey announced February 12 at the JBoss user conference. That survey indicated that JBoss was not even the most popular open source application server. If the latter is true Red Hat will have a tough row to hoe.

Let’s start with how Red Hat is defining middleware. The answer is very broadly (“more than just the application server alone”). To accomplish this goal using Red Hat’s broad definition of middleware, Red Hat would have to not only displace other potentially more popular open source middleware (e.g., Apache HTTP software) but billions of dollars of “closed-source” software currently in use across the world between now and then. (NOTE: The open-source vs. closed-source characterization is not meaningful in understanding or measuring the market as spelled out earlier in this blog post but the open source devotees still insist on drawing this distinction.)

To literally accomplish its goal, Red Hat would need to displace 50% of the $20-$30 billion worth of IBM (IBM) CICS and BEA (BEAS) TUXEDO shipped in the last 30 years, the $20-30 billion worth of MQ Series, TIBCO (TIBX), etc., shipped in the last 20 years, the $20-$30 billion worth of WebLogic, WebSphere and Oracle (ORCL) Application Server shipped in the last 15 years, the $10-$20 billion of BEA, IBM and so forth integration servers, development tools, ESBs, portals, and so forth. Add business intelligence software (if you use Oracle’s definition of middleware) and collaboration software (if you use IBM’s). Sorry but the aircraft carrier just does not turn that quickly.

As for how Red Hat is defining “50%,” the company says it means of that year’s “deployments of middleware technology.” Hopefully us reserachers will have some license-agnostic census software to measure that number by 2015 but to get there, do the math. No matter how you measure 50%, Red Hat would have to displace existing installed software at an astonishingly rapid rate over the next 6 years to reach its goal because the overall software market is only growing 5-6% (and the middleware market basically tracks the overall software market).

At the press conference announcing its intention, Red Hat said that its subscription model makes comparison with other middleware suppliers impossible. That is not accurate and part of the litany of open source movement claims that can be misleading to investors. Most of the current installed base of middleware has subscription maintenance revenue associated with it just like Red Hat’s.

In fact, at the press conference Red Hat showed an IDC estimate of $15 billion of middleware revenue in 2011; about 66% of that number represents subscription maintenance just like Red Hat’s (the other 33% in any given year represents license revenue for totally new business and add-ons/upgrades to the installed base). The equivalent IDC number for 2008 is probably in the $11 billion range, of which Red Hat’s total is less than $50 million.

(I am just guessing. The only access I have to IDC middleware market share data is via its press releases. On the other hand, it is a very educated guess since I popluated that database for many years and still do IDC backcasting and operating environment splits in my sleep.)

– Dennis Byron

Tags: Apache, open source, JBoss, middleware, MQ Series, Tuxedo

Red Hat (RHT) investors should be worried about a growth rate lower than reported in previous quarters. Don’t worry… yet. The apples-to-apples trailing-12-month growth rate was about 35% in March 2007 so 28% for the most recent quarter does not seem like anything to be worried about, given the current perceived IT spending slowdown and the natural gravity effect all high flyers experience. The September 2007 trailing 12-month will probably come in around 30% even after we backcast for independent Metamatrix results in 2006.

Red Hat is guiding to 23-24% growth in the current quarter so the trailing-12-month number is in danger of falling below 30% by the end of the year if there is any kind of minor hiccup. But Red Hat management said that the way long-term contracts are handled differently quarter-by-quarter affects these growth rates and that there is good news in bookings “off the balance sheet.” Ok? Give ‘em a quarter; they have been straight with us up until now.

They did publicize bonus structures for the former JBoss guys that in retrospect were wildly optimistic. But I do not believe that was purposeful on Red Hat’s part. So if you insist on worrying, be concerned that management launched into yet another rationalization of that 2006 middleware acquisition. Red Hat has made organizational changes to accelerate JBoss’ growth in the second half of this fiscal year, which ends next February. (As an aside, to further justify its JBoss acquisition, Red Hat management quoted an application deployment software forecast from IDC for 2007-2011 that was significantly higher than my last forecast for that market while at IDC. I am guessing IDC changed the definition of application deployment software after I left, maybe to count non-price-list software integrated into Windows. But JBoss was never going to get a big piece of the $9.5 billion to be spent on application deployment software in 2011 (my number) or $12 billion (the current IDC number according to Red Hat) for two reasons. First, that IDC forecast is 25% legacy-hardware-based and composed of large categories such as transaction monitors where JBoss does not even compete. Second, of course, it is the JBoss/Apache/open-source and Microsoft models of application deployment software commoditization and convergence that makes my forecast so much lower than IDC’s current alleged prediction.)

Management also explained how Red Hat Enterprise Linux (RHEL) both competes with and cooperates with VMware. They also explained the VPro desktop virtualization product that Red Hat is working on with Intel (INTL). Given Red Hat’s dominance already of the Linux space, the so-called desktop virtualization space is something Red Hat should concentrate on. The absurdity of the term “desktop virtualization,” which I will post about in a few days, does not change the fact that the opportunity for managing non-desktop diskless appliances is huge.

Management also announced that the RHX software exchange will be enhanced by a partner portal this quarter. This will provide partners, many of whom are small understaffed open source (OSS) software providers, much needed ecommerce support for their products. Such partner products will also be accessible to a common Red Hat service experience.

I was sorry to see Red Hat step into the government-sponsored issue, seeming to be happy about government mandates worldwide that preclude competitors. This attitude is from the school of thought that says “if you can’t beat Microsoft in the marketplace (against whom Red Hat doesn’t really compete if you study the rest of its statistics), hire a lobbyist, make a political contribution, and ask for a government hand-out” in terms of a wired contract or stifling regulation. Acceptance of that big-company attitude, something you expect of IBM, is the biggest concern to come out of Red Hat’s latest quarterly conference call.

–Dennis Byron

Tags: open source software, Linux, virtualization, middleware

The recent release of the Red Hat (RHT) 10-K filing contains no great surprises but led down a few paths that might have IT investment research potential.

As my posting over at ebizQ.net earlier this week pointed out about the size of the open source software (OSS) market opportunity, Red Hat’s playing in the big leagues now. Or the big leaguers such as HP (HP), IBM (IBM) and Oracle (ORCL) have come over to Red Hat’s ball park if you prefer. So it’s interesting to me to see that this “overnight success” is almost 15 years old, including its beginnings in ACC Corp.

Cofounder Bob Young’s book and a short essay by Young tell the story. His essay includes a great explanation of the OSS business model using comparisons with selling catsup and bottled water. So first investment research food for thought: Don’t be afraid to invest in a private company with a few years under its belt (as Red Hat was 10 to 12 years ago) and a good idea that hasn’t taken off yet. Such an investment might lead to a better return than a buzzword-of-the-day but totally unproven concept presented with reams of charts and graphs by a brand new startup.

Interestingly, in its 10-K Red Hat added Oracle but dropped IBM as among those that “offer hardware-independent, multi-user operating systems for Intel platforms.” This particular Competition section of the financial filing does not have to be definitive but it typically reflects the most effective competitors and it is most revealing when wording is changed from one year to the next as it did in this case. Adding Oracle makes sense although the database market leader was only in the operating-system market for the last quarter of Red Hat’s fiscal year, which ended February 28, 2007. What might be more meaningful from an investment perspective was dropping IBM. Maybe Red Hat just wanted to save ink.

Finally, I guess I already knew this next item but hadn’t thought about it: Red Hat has already gone through the “CA syndrome.” The syndrome is named for the very difficult transition Computer Associates (CA) is currently completing whereby it moved from a license-revenue model to now recognizing almost all its software-related revenue as subscription, deflating for a few years in the process from a GAAP perspective. That is, unlike all of its big-league competitors’ revenues, most of Red Hat’s revenue is already recognized on a subscription basis vs. a front-loaded perpetual-license basis. (Note: Red Hat calls the big leaguers “proprietary” software providers in its 10-K but that’s unfair since all have also now embraced OSS.)

A perfectly fair apples-to-apples comparison of Red Hat with BEA, the IBM Software Group, SAP or Sun, for example, would either increase Red Hat’s market share by 5 or so percentage points or cut back the other companies’ shares proportionally. From an investment analysis perspective, this means that Red Hat is not as small as the traditional market-research-firm taxonomies and methodologies would imply.

The annual Research 2.0 Red Hat analysis is in process now, and our report will be released in July or early August. It will go into depth about Red Hat’s and OSS’s future, and put a lot more meat on the bones than I did here in this blog post.

–Dennis Byron

Tags: Red Hat, open source software, OSS, Linux, JBoss

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