The Most Hated Company In Tech

SCO's huge Linux suit against IBM is a long shot that may yield nothing but bile

By Jim Kerstetter in Lindon, Utah
Business Week

February 2, 2004

He can't say he wasn't warned. In June, 2002, when Darl McBride was getting ready to take over as chief executive at struggling Caldera International Inc. in Lindon, Utah -- later renamed SCO Group Inc. -- he mused that claiming ownership of some of the underlying code in the popular Linux computer operating system could keep the company afloat. Even though Caldera's revenues were declining, it was losing $5 million per quarter, and its stock had slid below the $1 NASDAQ delisting price, the reaction of outgoing CEO Ransom Love was instantaneous. "Don't do it," Love says he told McBride. "You don't want to take on the entire Linux community."

McBride did it anyway. Last March, he shook up the computer world by filing a $3 billion suit against tech giant IBM, claiming Big Blue had illegally inserted more than 800,000 lines of SCO-owned software code into Linux. Since then, McBride has turned up the heat. In December, SCO sent letters to more than 1,000 Linux customers accusing them of illegally using SCO's property. Now, the company warns that it will sue a Linux user within days. One potential target, SCO says, is Internet search phenom Google Inc. The company, which says it has not talked to SCO about its claims, uses Linux computers and is on the verge of its initial public offering.

As a result of all this, SCO has become the most hated company in the tech world, surpassing, at least temporarily, Microsoft Corp. SCO has infuriated dozens of businesses and thousands of volunteer programmers who helped Linux become the world's second-most-popular operating system for server computers, with tens of millions of copies in use, trailing only Microsoft's Windows. Linux is open-source software: free in its most basic form and owned by no one. Many of the tech world's top companies -- including IBM, Hewlett-Packard, and Dell -- have hitched on to this rocket. For its most ardent fans, no words are too harsh for SCO. "They're a cornered rat, and I think they have rabies to boot," jabs the normally mild-mannered Linus Torvalds, who started Linux as a college student in 1991.

The retribution against SCO has been fast and furious -- a volley of arrows from all sides. Since it sued IBM, SCO has been slapped with two countersuits, one by IBM and the other by Red Hat Inc., the largest seller of Linux software. SCO's Web site has been shut down three times by hackers. And McBride has even received death threats. One was so unnerving that SCO's security had a sharpshooter in the room when McBride spoke at a tech conference in Las Vegas in December. "The theater of this -- it's sort of beyond belief for all of us," he says.

`NO IMPACT SO FAR'

But, in the end, this dispute may amount to little more than theater. While emotions are running high, BusinessWeek interviews with SCO executives, industry leaders, lawyers, software experts, and corporate tech buyers all point to a single conclusion: SCO likely won't stop Linux.

Its legal case against IBM and Linux customers is not clear-cut. What little evidence it has made public is inconclusive, according to lawyers and software developers who have examined it. While there are similarities between some code that SCO claims it owns and material in Linux, it's not clear to software experts that there's a violation. To win against IBM, SCO will have to prove that IBM programmers placed the code in Linux -- which may be hard to document. Besides, SCO might not even own the technology. Software maker Novell Inc., a backer of Linux, has competing claims. "There are real flaws in SCO's arguments," says Thomas C. Carey, partner at law firm Bromberg & Sunstein in Boston.

The most convincing evidence of Linux' resilience is what's happening in the marketplace. Even though corporations are nervous about lawsuits, they haven't lost their hunger for Linux. In the third quarter, the most recent for which data are available, sales of computer servers that use Linux were up 49.8% from a year ago, to $743 million, far outstripping the 2% growth for the rest of the market, according to market researcher IDC. Red Hat landed 3,000 customers last quarter, up from 1,000 in the quarter that SCO sued IBM. And in a new wrinkle, entire countries, including China and Israel, have announced plans for widescale adoption of Linux on desktop PCs. "SCO seems to have had no impact so far," says Dan Kuznetsky, an analyst at IDC.

There's still a possibility that SCO could damage Linux' momentum. Corporate tech users may to some extent be cowed by its threats. Despite more than 20 attempts by BusinessWeek, not a single corporate Linux customer would talk on the record about SCO's claims for fear of drawing legal fire. And if the case goes to trial as scheduled in April, 2005, it will be on SCO's home turf in Salt Lake City. SCO's lead lawyer, famed litigator David Boies, could try to sway the jury by portraying giant IBM as a bully putting the screws to a small Utah outfit.

A win would be a huge windfall for SCO. With server-software licenses costing $699 per machine, Google alone, if found liable, could be on the hook for $7 million in license fees. The market for Linux servers is expected to have topped $4 billion in 2003. Add the fledgling market for Linux pcs and Linux in consumer electronics, and you have an opportunity not seen since the early days of the PC.

THE MICROSOFT FACTOR

But who stands to gain the most from an SCO win? Microsoft. Linux is the primary force standing between Microsoft and domination of the computer world. The software giant is happily fanning customers' fears with an anti-Linux campaign while pumping money into SCO. Even though neither company has disclosed a dollar figure, sources close to SCO say Microsoft has spent more than $12 million on SCO licenses. Microsoft says it needs the licenses because it sells technology that allows its customers to run applications that were designed for Unix, the operating system Linux was modeled on. Critics believe it is just helping SCO finance its lawsuit.

In SCO's hometown, below the snow-capped Wasatch Mountains, the dispute has pitted neighbor against neighbor. "I have had friends, good friends, tell me they can't believe what we're doing," says Ralph Yarro III, SCO's chairman and the head of the Canopy Group, a private investment firm that also has backed Utah Linux companies.

Canopy manages the money of Ray Noorda, former CEO of Novell, just up the road in Provo. Noorda is now retired after years as a bitter rival of Microsoft, so it's ironic that his money is backing a company aligned with his bÍte noire. Noorda is no longer active in Canopy on a day-to-day basis, and some of his longtime friends are appalled at how his money is being used. "I think about that, and it makes my stomach churn," says one Noorda friend. Yarro agrees the situation is a bit awkward, but he says this is about SCO's intellectual property claims, not Microsoft. Noorda could not be reached for comment.

McBride, like Yarro, once worked for Noorda at Novell. And like him, he feels no discomfort with what he's doing. He argues passionately that if companies allow their intellectual property to be inserted into open-source products, it could destroy the software industry. "I know people want us to go away, but we are not going to go away. We're going to see this through," McBride says.

He certainly doesn't look the part of a bogeyman. A jocular father of seven children, the 44-year-old McBride is a devout Mormon who worked as a missionary in Japan and returned there several years later to start Novell's Japanese business. After Novell, he was briefly president of Franklin Covey Co.'s online planning business when Caldera recruited him.

Since taking charge, McBride has done right by his shareholders. SCO's market capitalization, around $5 million when he arrived, has leaped to $219 million. In its most recent fiscal quarter, SCO had $24.3 million in sales, up 57% from the year before, owing largely to license fees from Microsoft and Sun Microsytems Inc. The non-licensing part of its revenues is mostly sales of its version of the Unix operating system. Barring a $9 million charge related to hiring Boies, the company would have had a $7.4 million profit. "There may be a bunch of angry Linux people out there," says McBride. "But I have to answer to a bunch of angry shareholders."

A LEGAL MORASS

At the heart of this dispute are the original copyrights to Unix. It's a high-performance operating system sold by the likes of Sun Microsystems, IBM, and HP. Unix was originally developed at Bell Labs, but AT&T sold the copyrights and a version of Unix to Novell in 1993, which in turn sold the Unix product to Santa Cruz Operation Inc. That company later entered a joint venture with IBM to create yet another version of Unix. After that deal went nowhere, Caldera in 2001 acquired the Unix software business from the Santa Cruz Operation -- hoping to merge elements of Unix and Linux -- and later changed its name to SCO Group. But its Linux business never took off.

To law and software experts, SCO's legal claims are not strong. First, it's not clear that it even owns the intellectual property. Novell claims it sold Santa Cruz Operation the right to sell its Unix software, but ownership of the original code stayed with Novell. It has a contract that it claims backs up that assertion. SCO has an addendum to the contract that it says dealt with the copyright issue, but lawyers who have studied it say the language is ambiguous.

Even assuming that SCO owns the software, the few pieces of code it has made public haven't convinced experts that there are substantial copyright violations in Linux. One small piece of code that was clearly part of Unix has been removed. Software industry analysts who have examined pieces of SCO's Unix code say they see some similarities between it and Linux. Robert Enderle, principle of industry consultant the Enderle Group, examined about 100 lines of code and says some similarities were "remarkable." He believes SCO's claims should be taken seriously but cautions: "Whether they can defend ownership of the code is still to be determined."

SCO faces an uphill battle with IBM, too. It has to prove IBM actually provided copyrighted code to the Linux community. IBM says this didn't happen: It says it has always had a strict wall between its Linux developers and anyone working with proprietary software and can prove it in a courtroom. Also, SCO may not even have a right to sue. In its countersuit, IBM claims that because SCO worked on and sold Linux software, it must abide by an open-source contract that bars a company that sells the work of the Linux community from turning around and suing the companies that distribute that work.

If SCO starts suing customers, those customers will have potent defenders. Novell and Hewlett-Packard Co. have indemnified their Linux customers against SCO's legal claims. And on Jan. 12, the Open Source Development Labs, with the backing of companies such as IBM and Intel Corp., announced a $10 million legal defense fund for Linux customers.

It might be easier to shrug off SCO's case if it weren't for Boies. After all, he brought Microsoft to heel for the Justice Dept. The 63-year-old is putting his reputation on the line. He likes backing David against Goliath. "You have a very small company with a very big legal issue, and you knew that that very small company was going to be confronting the giants of the industry," Boies says. "Even at my age, it's hard to resist."

Not that he's doing it for free. In an unusual compensation arrangement, SCO says it paid Boies and the other lawyers $1 million in cash and gave them 400,000 shares of the company, now worth $15.77 apiece. Deutsche Bank estimates the share price could hit $185 if SCO wins -- and if so, the lawyers would get a $74 million payday. They also receive 20% of the revenues from SCO's intellectual-property licensing.

Those terms make SCO look more like a lawsuit than a normal company. In this litigious society, there's not much shame in that. But unlike the case with regular companies, if this suit doesn't pan out, McBride and his shareholders may be left with very little. If so, a weird episode in tech history will end with a whimper, and a lot of people will be celebrating.


Why SCO's McBride Declared War

Says the CEO about Linux: "It wasn't like we said, 'Oh, let's go find people and sue them.' It was a gradual enforcement of our rights"

Business Week

February 2, 2004

You have to give SCO Group CEO Darl McBride credit for one thing: He's got moxie. Since moving into the corner office at the tiny Utah software company in June, 2002, McBride has taken on the software world. In March, 2003, he sued IBM for $3 billion, claiming Big Blue handed over SCO-owned intellectual property to software programmers who developed the increasingly popular Linux software. Now he's threatening to sue a major company that uses Linux to run its computers, and may be just days away from doing so.

BusinessWeek Correspondent Jim Kerstetter [ jim_kerstetter@businessweek.com ] recently spoke with McBride in SCO's offices beneath the snow-capped Wasatch Mountains. Here are edited excerpts of that interview:

Q: How does it feel to be demonized?
A: Hah! When we went into the process of saying we were going to enforce our rights, one of the issues that came up very early on was if you go down this path, you're going to be vilified by the open-source community. They're going to attack you. You're going to be sorry you ever did this. From our standpoint, it becomes a question of whether you're going to protect your rights or back down from a set of folks you believe are going to come after you with pitchforks.

Q: When did you decide to go down that path?
A: It was more of a gradual process. When I joined the company, we did a 30-day analysis and review. I interviewed the top managers inside the company and a handful of people outside and asked, "Where do we go with this thing?" [SCO] had come down from being $1 billion in value down to about $5 million, it was a few quarters from being out of cash, and what became very clear to me early on was that there was a lot of value in the Unix intellectual property that wasn't being optimized.

So what happened was, 30 days into my tenure, we sent a letter out to shareholders and said, "Look, we have a significant asset base here around Unix, around the SCO brand, around our 11,000 resellers, around all these licenses we have. We're going to go out and shine this company up."

This was like beachfront property that had the windows knocked out, weeds growing. It was a mess. But it was still on the beach. And I could see a vision where we could restore the value.

I said my goal was to get a return on the initial Caldera IPO, when it was trading at $56 per share.... It could be very valuable if we took the right steps. So over a period of months, it wasn't like a binary switch. It wasn't like we said, "Oh, let's go find people and sue them." It was a gradual enforcement of our rights, stepping up, and then we finally got to a point of impasse with IBM where either we were going to back down, or we're going to continue to go after them. And the only way to continue to go after them was to file a lawsuit.

Q: So when did you first contact IBM?
A: The first time I had a discussion with IBM was shortly after I sent out the shareholder's letter. In August [2002], we went to LinuxWorld in San Francisco, and I met with their senior Linux executive at the time. It was just sort of a get-to-know-you session.... I laid out to him that we've got all this intellectual property, and you guys have done well with your IP rights. He said, "Oh yeah. We do over a billion dollars in business with that. Protecting your IP is a great idea."

In concept it was great, it wasn't until December when we came out and said here's where the problems are with Linux, and we have a program where you can deal with that.

Q: What was the reception to that?
A: It seemed everyone in the industry was either positive or neutral to that, except for IBM. IBM had a violent reaction to it, even though it wasn't targeted directly at them. Their whole issue was, "We don't want you out there implicating there are IP issues involved." We were going to make an announcement last Dec. 11 [2002], and then we grounded that. We spent two weeks talking to IBM about how we could work together, and that didn't get anywhere. Then we started looking into the contractual issues we had with IBM, and then we started to see that there were some potential problems there.

At the very moment we're having problems we're trying to resolve, we go to LinuxWorld in January of 2003, and we went ahead and announced our libraries program [design to license SCO technology to Linux customers]. We announced that David Boies was coming on board to help us enforce our IP. IBM blew a gasket.

[An IBM spokesman said in a written statement that IBM will not debate through the media a matter that's in litigation. He added that as IBM said in its answer to SCO's amended complaint, SCO's claims are without merit, and SCO did not give IBM any notice or warning of them prior to filing its lawsuit.]

Q: At what point did you decide to sue?
A: When I returned home, I found that IBM had withdrawn its support of our Unix business.... About 20% of our shipments go out on IBM hardware platforms. It's not a small part of our business. So that was immediately after the conference. We didn't file the suit until March.

Q: You bought the Unix business from Novell, but it took you a while to find an amendment to that contract that says you also bought the underlying intellectual property as well. Where was that amendment?
A: First of all, we weren't spending a lot of time looking for it. Our case against IBM was purely grounded in contract. It wasn't until Jack Messman [CEO of] Novell came out in an open letter to us saying, "Novell owns those copyrights, and we are going to make these all available and bless the Linux community, and there will be no problems there."

Well, that was the first day we started looking for the amendment. We weren't seriously concerned about it before that. My executive secretary, to her credit, she went through a ton of files. She found this thing, it was maybe four days later. I called Messman that night and dropped the news on him.... When we had those copyrights in hand, that's what made the whole case on the Linux side much stronger.

Q: Where do you go next?
A: Where we go next is down the end user side of enforcing our copyrights. We came out last summer and put out some code that the Linux community on one hand said, preposterous, that's [Berkeley software]. On the other hand, some people in the Linux community said, hold on, you may have some copyright issues there.... There are 2.5 million servers out there today that have this code in it. When are Linux customers going to clean that stuff up? So that's one issue, Linux is tainted, even by their own admission.

Q: Have you had direct talks with customers yet?
A: Very carefully over the last quarter, instead of sending out mass invoices, we stepped very carefully and really had a lot of direct one-on-one meetings with 15 or so companies. In the process of doing that, we learned a lot. We listened. We talked. And we went back and forth. About 20% of those companies signed licenses with us.

Q: Can you name any of them?
A: We have taken the stance not to, partly because they don't want their names out there, partly because we are willing to protect them. As soon as they get their names published, they are going to get attacked by the open-source community, like everybody else it seems who is associated with us. But they are, in that case, Fortune 500 companies.

There's a chunk of companies who said, "We're not going to use Linux. So move on." And there's a large chunk that said, "Before we pay for a license agreement, we want to see a settlement or a court decision out of the IBM case. Or if you have some other settlement or court decision out there that we can rely on, we'll consider doing that."

Q: Then who are you going to sue?
A: The honest answer is we don't know. Conceivably, if everyone steps up and buys a license, we don't need to.

Q: There has been a rumor in Silicon Valley that you're going to sue Google.
A: Yeah, Google gets brought up a lot. They're high-profile, and they're one of the largest users of Linux. They have nearly 10,000 boxes, from what we can tell. They're a poster child. I think what's interesting about them is they have been able to develop a low-cost operating model because of Linux. If your model is going to hold up, you better make sure you don't have any infringing code in there. Otherwise, you need to adjust your financials based on how much you pay for your servers.

Q: Have you talked with Google?
A: Some discussions have been initiated there.

Q: Which would mean?
A: We don't know where that goes yet. It's very premature to say what's going to happen there.

Q: So your lawyers are talking to their lawyers?
A: We've got a team that's engaged in going back and forth. We do have legal counsel on our side. We have marketplace experts that we've kind of trained.... We're not targeting just Google per se. But anybody who is using 10,000 boxes, that's an elephant on a table. There's a lot of reasons you wouldn't [go after Google]. But to say we're going to ignore them doesn't make any sense either. I think it's going to be a function of what happens over the next few weeks.

[A Google spokesman says the search giant has not discussed with SCO its demands.]

Q: When you decided to take legal action, were you prepared for the reaction you would get?
A: I wasn't prepared for the level that it hit. I was prepared for some sort of battle, but I didn't realize that it was going to be on a world war stage.... What's odd to people is you have SCO against the world on one level. On another level, you have intellectual-property people who think operating systems shouldn't be free in our camp, and you have people over there who think operating systems should be free in IBM's camp. It balances out a little bit when you realize there are people who support us.

Q: You're in an odd situation. How often does a little tech company end up looking like the bad guy because it's suing the largest tech company in the world?
A: It is an odd situation, I think, if you look at this open-source community. I asked the previous CEO, "Have you thought about enforcing your Unix IP rights?" He said, "Yeah, but if you do, the Linux community is going to get really mad." That's what was governing his thinking. In the meantime, the market cap was below $6 million.

So it comes down to a question of: You have these property rights.... and if you go down this path, you are absolutely going to draw the ire of thousands of people around the world. But in the end, there wasn't a second thought in my mind of whether you do it or not. Did we know it was going to be this big? No, I didn't have an inkling.

Q: You've received bomb threats, death threats and plenty of hate mail because of what you're doing. Have you ever wanted to say to your detractors, "Hey folks, this is just software here?"
A: They say if you want to get into an argument at the dinner table, start a conversation about religion or politics. I would argue that Linux is a cross between religion and politics.


Graphic: A Small Company Making Big Threats


Graphic: A Long And Winding Road


Copyright 2004