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VMware earnings strong, but profit takes a hit

VMware vSphere upgrade promotion has propelled strong fourth-quarter earnings, but operating expenses made a dent in profits.

Despite a weak economy and emerging competition, VMware's fourth-quarter earnings trounced Wall Street expectations, showing strong demand for the company's virtualization software. But profit for the quarter took a major hit, falling 49% compared with the same quarter a year ago.

For the fourth quarter of 2009, VMware Inc. earned $608 million beating consensus forecasts of $553.7 million, and predicted Q110 revenues of $580 to $600 million, compared with Wall Street forecasts of $530 million. The news sent VMware stock up to more than 18%, or $7 per share, in after-hours trading.

Still, net income was down 49% to $56.4 million, from $111.5 million a year earlier. The company cited higher operating expenses as the cause.

VMware CEO Paul Maritz attributed the company's strong quarter to "a triple play of good news": an improving macro economy, end-of-year capital budgets and a successful promotion that encourages customers to upgrade to vSphere 4 Enterprise Plus.

The quarter was also marked by efforts to recover back-maintenance revenue. Customers need maintenance plans to be eligible to upgrade to vSphere 4, said Mark Peek, VMware's CFO on the conference call with press and analysts. Maintenance revenue for the quarter was $246 million, an increase of 53% year over year, but Peek said that number would be down sequentially in the first quarter.

Microsoft's Hyper-V effect
VMware executives downplayed the impact of its main competitor Microsoft, which released the Hyper-V R2 hypervisor in the same quarter.

"In the enterprise, we don't see Microsoft that much in proof of concepts," said Tod Nielsen, VMware's COO. But in international and emerging markets, Microsoft appears to have "increased its investment in feet on the street," he said, a move which is "consistent with their playbook."

Some observers say Microsoft Hyper-V R2 has gained credibility, particularly in Windows shops and the small and medium-sized businesses (SMBs) where VMware has not been as strong and where server virtualization in general is not already entrenched. But, given VMware's fourth quarter numbers and the projections for the first quarter, Microsoft has not made huge dent yet in VMware's core business.

"So far whatever Microsoft is doing may be more in the nature of press releases than in actual [server virtualization] products sold," said Jeff Matthews, general partner with Ram Partners, LP, a Greenwich, Conn.-based investor.

Desktop virtualization still emerging
In the desktop space, Nielsen acknowledged Citrix Systems Inc. as the incumbent and conceded that VMware's View 4 has yet to contribute materially to its revenue. "We are early in the desktop virtualization market, and the pace of growth is unknown," he said.

Meanwhile, enterprise license agreement (ELA) activity was high, said Peek, representing 20% of bookings. But at the same time, "there were no eight-figure transactions," and activity centered on SMBs, he said. Investors will watch ELA revenue closely in the coming quarters, as three-year agreements signed in 2007 will come up for renewal.

Senior news director Barbara Darrow contributed to this report.

Let us know what you think about the story; email Alex Barrett, News Director at, or follow @aebarrett on twitter.

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