Small Software Maker Is Taking Giant Steps

By Lawrence M. Fisher
The New York Times

January 4, 1991

Santa Cruz, Calif. -- The next Microsoft? Many software industry experts think it will be the Santa Cruz Operation Inc.

The Microsoft Corporation, founded in 1975, has grown to more than $1 billion in revenues primarily on the dominance of MS-DOS, the operating-system software it supplies for personal computers.

Now a version of the Unix operating system sold by Santa Cruz is fast becoming another industry standard for the same class of machines. And some analysts think the company, privately held and run by a father-son team, could rule the Unix market much as Microsoft dominates the MS-DOS world.

An operating system is a basic system of commands that control "applications software" like word processing and the movement of data to and from disk or other storage devices. Unix has become the operating system of choice for the increasingly popular "open" systems, which rely on the maximum possible use of industry-standard hardware, software and peripheral components so that a buyer can choose from a multitude of suppliers.

Developed but not commercialized by A.T.& T., Unix is more powerful than MS-DOS and lends itself more easily to networks of computers running more than one task for more than one user -- a direction in which the personal-computer industry is moving.

I.B.M., Compaq Computer, the NCR Corporation and makers of compatible machines are increasingly offering open-system personal computers that use Unix operating systems, and the use of such systems is expected to grow sharply in coming years. Santa Cruz, which already has revenues of $106 million, is in the best position to benefit because its version of Unix serves personal computers based on the Intel Corporation's line of microprocessors, which are the most common on the market.

'A Baby Microsoft'

"When you look at S.C.O., you've got to look at a baby Microsoft," said Nina Lytton, publisher of the Open Systems Advisor, a newsletter for the Unix market. "People regard them with both hope and fear because they look like they're really going to be a dominant software supplier."

Indeed, Microsoft recognizes the potential for a huge challenge to its dominance in personal-computer operating systems, and as a hedge has taken a 20 percent stake in Santa Cruz. Microsoft is also selling a competitive operating system, called OS/ 2, but it is not selling well against Unix competitors.

When Santa Cruz's father-and-son founders, Larry and Doug Michels, started preaching the virtues of Unix to personal-computer buyers back in 1984, they met with more derision than applause. Unix was perceived as too big and too complicated for personal computers; Xenix, the PC version of Unix developed by Microsoft and licensed to Santa Cruz, had few supporters.

'Very Hard to Sell'

"We had all the problems of being ahead of the market," said Larry Michels, 60 years old, Santa Cruz's president and a first cousin of Allen Michels, the founder of Convergent Technology and Ardent Computer. "The concept of Unix on a PC was very hard to sell." Initially shunned by venture capitalists, the Michelses burned through their personal savings to stay afloat.

But as Intel introduced more powerful microprocessors, which made personal computers more capable, Unix on the desktop gained acceptance. When Compaq entered the Unix market, Santa Cruz took over supplying the machine's operating system. "Ever since that point, we've really owned the Intel marketplace" for Unix, Mr. Michels said.

Despite a low profile, Intel dominates the Unix market, selling more processors that run the operating system than all other hardware manufacturers combined. This is despite the efforts of Sun Microsystems Inc., which has become the most vocal proponent of Unix. The version of Unix that runs on Sun's Sparc processor is not compatible with that of Santa Cruz, or any of the other versions of Unix, which are numerous.

'Major Breakthrough' Seen

"In Unix, the numbers are in Sun work stations and in Intel 386 or 486 boxes running S.C.O. Xenix or Unix," said William Zachmann, president of Canopus Research, a market research firm based in Boston. "Both have reasonably good prospects but I would more readily expect S.C.O. to have a major breakthrough on the up side. S.C.O. runs on machines people already have and is a pretty standard version of Unix; Sun's Unix is not all that standard and runs only on their own machines."

But Santa Cruz has more than Sun to compete with; A.T.& T. itself and Intel both offer versions of Unix, and at lower prices. And Microsoft has put its muscle behind OS/2, an operating system for PC's that is intended to offer abilities similar to Unix's in running programs on more than one computer and in running more than one program on the same computer.

From the start, Santa Cruz worked to build a high-volume market by making sure its products worked on the broadest range of hardware, said Doug Michels, Santa Cruz's executive vice president, who is 36. Computer companies that resell Santa Cruz's operating systems now include Compaq, Digital Equipment, Tandy, Siemens/Nixdorf, Olivetti, Unisys and Hewlett-Packard.

More Features

"The major accounts have gotten the message -- if you want an open-systems environment on a PC, the answer is S.C.O.," Mr. Michels said. Santa Cruz has quickly emerged as the default supplier of Unix for the new multi-processor Intel-based machines, like Compaq's Systempro, and is featured prominently in advertisements for these computers by Compaq and Digital.

In addition to delivering its product to the broadest possible hardware base, Santa Cruz has sought to differentiate its version of Unix by incorporating and integrating more features. It recently introduced a product called Open Desktop, which includes Unix, a data-base management program and networking, all with a standard graphic interface like that of Apple Computer's Macintosh or Microsoft's Windows program.

A Chicago native, Larry Michels had built a Los Angeles-based business in computerized credit-card verification systems, which he sold to TRW. Tiring quickly of life inside a large company, he founded the Santa Cruz Operation with Doug, originally as a consulting firm. They chose this town on the coast 90 miles south of San Francisco partly for the life style, but also because Doug had attended the University of California campus here and recognized its computer science program as an untapped source of technical people.

Microsoft's Stake

Father and son are both described as sometimes brash, even combative, but with a humorous edge. Industry analysts say that Doug Michels, in particular, has emerged as an articulate and persuasive spokesman for the open systems movement.

In a seeming paradox, Microsoft purchased almost 20 percent of Santa Cruz in 1988 and the two companies have a joint development agreement. Santa Cruz pays Microsoft a royalty for the Xenix and Unix technology it obtained from the larger company, and Frank Gaudette, Microsoft's chief financial officer, has a seat on Santa Cruz's board. The agreement includes provisions intended to prevent Microsoft from controlling Santa Cruz.

"The paradox is if you were Microsoft, Open Desktop isn't something you want to see succeed," Larry Michels said. "But if it doesn't, something else will, and they would rather see Open Desktop than whatever that would be. We pay them royalties."

Richard Shaffer, editor of the Technologic Computer Letter, applauds this move, noting that it gives Santa Cruz's only major Xenix competitor a stake in the company's success. He thinks the company could ultimately make a good acquisition for Microsoft.

Mr. Shaffer also credits the Michelses for going "after a market no one believed existed and making money at it," though he thinks the company is not as profitable as it should be, and has too many employees for its revenues. "S.C.O. is run like a university, a family-run university, not a company," he said. "If you plot revenues by employees, S.C.O. is off the chart." Santa Cruz, with 1990 revenues of $106 million, has 1,300 employees, about twice as many as other software companies that size.

But Larry Michels said Santa Cruz's level of staffing and spending was appropriate for a company growing so rapidly. And he does not think the company should go public in the near future to raise additional capital. Because the venture capitalists invested after Santa Cruz was already successful, they hold only about the amount Microsoft does; the Michelses retain controlling interest.

"We're in a very opportunistic mode, whereas the market wants predictability; the two don't go together," Mr. Michels said. He also expects to go on spending money when there is talent or technology worth acquiring. "When you write the history of S.C.O., you will never say that we missed an opportunity because we hoarded cash."

GRAPHIC: Photo: Santa Cruz Operation's version of the Unix operating system is fast becoming an alternative standard for personal computers. Santa Cruz is privately held and run by the team of Larry Michels, right, the president and chief executive, and his son, Doug, the executive vice president, who recently ran a demonstration of their Open Desktop software. (Terrence McCarthy for The New York Times) (pg. D1)

Graph: 'Rapid Growth for Software Maker' shows The Santa Cruz Operation's revenues from '84 to '91, estimated in millions of dollars (Source: Company reports) (pg. D4)