David Gardner Interviews Red Hat CEO

Red Hat President and CEO Matthew Szulik was recently a guest on The Motley Fool radio show. David Gardner and Szulik discussed a number of issues, including the future of the company, the Linux operating system, and Microsoft.

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By Motley Fool Staff
November 1, 2000

On October 21, David Gardner interviewed Red Hat (Nasdaq: RHAT) CEO and President Matthew Szulik on the The Motley Fool Radio Show. The following is a transcript of the interview.

David Gardner: Matthew Szulik, a pleasure to have you on The Motley Fool Radio Show.

Matthew Szulik : Thanks David, good to be here.

Gardner: Now, let me start off by asking you the basic question we like to ask of any business: How does Red Hat make its money?

Szulik: We make our money by selling quite a bit of software and services in support of open source solutions, which become well known through the Red Hat Linux operating system, and has allowed us to build a good business in building server-based applications based on Red Hat Linux. And we've expanded that out through a variety of acquisitions now and have a growing and healthy business servicing the device manufacturers -- people like Ericsson (Nasdaq: ERICY), Motorola (NYSE: MOT), and others.

Gardner: When you look at your revenue mix, or your projections over the next three years, what are the real growth drivers for Red Hat?

Szulik: Well, the big growth drivers are coming increasingly by customers and moving away from conventional client/server architectures, and now building Internet-based solutions and online businesses. And that's requiring technologies and solutions that are based on the Internet.

Gardner: Looking over the results, Red Hat is still losing money, but in your most recent quarter you lost about a penny per share. When do you expect Red Hat will be profitable?

Szulik: We'll be profitable sometime in calendar 2001. I'm glad you pointed that out because if you look within that income statement you'll see we've been improving our gross margins from what they were a year ago. So, we're on track to do that.

Gardner: About a year ago, we had former Red Hat CEO Robert Young on our show and Red Hat stock then was trading about $40 per share. It went up as high as $150 per share and now trades around $15. Why do you think the public markets have punished Red Hat?

Szulik: I think the public markets have punished most tech stocks. It is a disruptive technology and we are at a very early stage of the business cycle and market acceptance, competing against two very large competitors -- Sun Microsystems (Nasdaq: SUNW) and Microsoft (Nasdaq: MSFT). If you look at the economics of our business and growth rate, and the acceptance of open source globally, it's absolutely phenomenal. And I do believe the media certainly did a good job of placing a lot of spotlight and enthusiasm at the very earliest stages of that cycle. Certainly, I think we're really at the early stage of that and feel the prospects continue to remain very bright.

Gardner: Let's pick back up on Microsoft. How would a break up of Microsoft affect Red Hat and the Linux operating system? 

Szulik: I've quoted in print; it's like one of those childhood movies that you saw when you were a kid. The monster comes to town and the monster gets cut in two. All of a sudden, you've got two monsters to deal with.

Gardner: The Blob! [Laughs.]

Szulik: They (Microsoft) are a very aggressive competitor, and I think if a break up does occur, you could have two more aggressive competitors than the existing status of the company.

Gardner: Can Red Hat compete with Microsoft?

Szulik: Absolutely. I think we're doing a damn good job of it already. Look how fast Red Hat Linux has now become the second-leading server operating system in the world, Linux and Red Hat Linux. And if you look at the market opportunity -- if you believe what Forrester, IDC and other major research companies say -- that the devices will become the source of access and commerce for the Internet by the year 2004, that market is still virgin.

Gardner: We're very focused as investors on companies that have a consumer presence, and that I as an average person can buy from. Do you think Linux will become a product that eventually penetrates the mainstream -- something are listeners use -- or are we talking about a product that 10 years from now ultimately still appeals more to techies?

Szulik: Oh, I think that's happening rapidly. Look at the number of devices that are coming out. We released a device with Ericsson called the Web Pad, that was able to be brought to market at a much more rapid rate using open source and Red Hat software development expertise. That will be a commercially available product. The number of applications when we went public, commercial software applications that ran on Red Hat Linux, were less than 50 on August 11, 1999. Now, there are over 6000 applications and growing by the hour running on the Red Hat Linux platform. So, I definitely think you'll find it in the consumer market.

Gardner: How does the world look differently in five years if Red Hat succeeds?

Szulik: First and foremost the benefit will be in the hands of the consumer. You'll be able to have more choices, seeing more innovative products at the lowest possible price because of the very collaborative nature of software development being able to bring solutions to market at a lower price for the consumer. So, that's number one. I think you'll see more reliable and more competitive products because you'll have a (wider) choice of offerings than currently exists today. Bob Young (Red Hat Chairman) uses the wonderful metaphor: Would you buy a car today with the hood-welded shut? Which is really what your sole option is today. So, increasingly we'll see better performing products at a lower price.

Gardner: I'm wondering, you probably can't answer this, when am I going to install Red Hat Linux on my machine?

Szulik: What's taking you so long?

Gardner: I haven't felt motivated yet as a consumer, and I think of myself as an average computer user, a guy who likes to click around and is interested by new technologies. But there hasn't been that epiphany, that driving reason, to install Red Hat Linux.

Szulik: Well, I don't know your computer use patterns, but I'm sure you're like many conventional users. The system crashes and other negative activities of existing proprietary systems have moved a lot of people over to Linux into Red Hat. I think our most recent release of Red Hat 7 -- I think if you look at the improvements of this technology both in usability and commercial use for people like yourself, it's improved exponentially from what it was a year ago. So, you should try it in the retail stores.

Gardner: Okay, let me close by asking a simple question: Heading forward, what number do I, as an investor, need to follow to measure Red Hat's success?

Szulik: The sole number?

Gardner: If there were just one, or you can throw two at me, if you like.

Szulik: Well, I think clearly to measure our success there are two or three very important metrics. One is certainly application availability because people don't buy operating systems in related infrastructure technology; they buy solutions to business problems. So, you want to clearly measure the rate of acceptance by application developers moving their software over to Red Hat Linux. That's an important metric. I think secondly you want to continue to focus on our path-to-profitability. We think we've got an exceptional management team of people here, so our ability to get the company profitable will be a measure of our ability to manage cost and grow revenue. And certainly the top line will be a good indicator of commercial acceptance of our solutions set.

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