BANKRUPT PARIAH The SCO Group asked for approval from the bankruptcy court last week to sell most of its useful assets to JGD Management Corp. dba York Capital Management.
The major feature of the deal is that SCO will sell its Unix business for $36 million in cash.
In addition, York will pay up to $10 million to settle SCO's existing liabilities, as needed to complete the sale, and extend a $10 million line of credit to fund SCO's ongoing litigation.
When SCO filed for Chapter 11 bankruptcy, it listed debts of $7.5 million. Since then, it's incurred additional bankruptcy related expenses for more law firms, accountants and so on, so $10 million for anticipated SCO liabilities not including liquidated damages that may be awarded against SCO seems reasonable. That $10 million should therefore be added in the price for SCO's Unix business, raising the total offer to about $46 million.
The $10 million line of credit for litigation is a loan. One small detail about that loan in the buyout agreement is that, after SCO exits Chapter 11, York will then have "a first-priority security interest in all of [SCO's] assets without restriction." So much for SCO paying off any judgements against it arising from its lawsuits soon after getting out of bankruptcy.
SCO will also sell "certain related claims in litigation, as well as... agreements pertaining to the Hipcheck product line and Me Inc. Mobile intellectual property." Those are merely peripheral, however. The parties are simply hedging the extremely long-shot chances that SCO will ever gain anything from its disastrous Linux litigation or its weird new products.
SCO and York will cross-licence the Hipcheck and Me Inc. Mobil technologies, so SCO will be free to continue development and marketing of them. But the transfer of ownership to York will have the effect of taking them off the table for potentially ceding to creditors in the settlement of bankruptcy claims. SCO might buy them back after exiting Chapter 11.
SCO's IBM and Novell lawsuits are excluded, of course. Those major court cases are both looking like SCO's going to lose badly. They'll likely end in money damages against SCO.
The agreement is written such that it anticipates that others might want to bid on SCO's Unix business and other assets. It includes provisions for York to be compensated for its trouble, should an auction be held or the deal otherwise fall through, in the event that the bankruptcy court disallows it, for example. The Asset Purchase Agreement is here (pdf).
SCO certainly must be hoping someone else bids for its dying Unix business, because York isn't offering a very good price for it. $46 million amounts to only about two years of SCO's Unix business revenue, so that minimal offer likely reflects York's recognition that SCO's Unix business has been declining by 10 to 20 percent every year. If SCO's Unix business were healthy, even growing, it could fetch three or more times annual revenue.
So, why is this deal being done?
We don't know, but we can speculate. From York's perspective, SCO's Unix retail systems business generated almost $30 million in revenue in 2006, with a cost of sales of less than $5 million. Its gross margin is over 80 percent. Its revenue is less this year, but even as it's declining, there's still some profit left in it. A few years of operation might recoup York's investment, plus some. If York can stabilise the SCO Unix business, or even turn it around somehow, it can become a profitable investment.
That doesn't seem realistic, however. York appears to be purely a financial firm, not an information technology company. If this deal goes through, York will likely retain SCO's existing employees who presently operate the Unix bus iness. Since SCO's been neglecting its Unix business for years and steadily losing customers doing that, there's no reason to suppose that York will do better to turn that trend around. At best, it might break even.
So this purchase doesn't seem to make a great deal of sense for York in financial terms. It appears unlikely to offer York much profit potential, given that SCO's Unix business is steadily declining, with a terminal prognosis. There must be another motive for this deal.
There's also the theory that York is acting as a front for others in the shadows who are quite interested in prolonging the threat of litigation against Linux as long as possible.
That sounds silly, though, considering that SCO's Linux related litigation has mostly run its course without doing any significant damage. On the contrary, it's helped Linux a lot.
Then again, Linux has been so successful in recent years that its opponents are desperate, and they have been for a while now. A certain monopolistic software vendor might believe that it bought some delay in Linux adoption by funding SCO's lawsuits while it struggled to rewrite its flagship operating system in an attempt to develop a good alternative to Linux.
The fact that its great new operating system is widely regarded as neither very new nor really great, but rather as a dismal and embarrassing failure, might be motivating it to try to maintain user perceptions of a litigation threat hanging over Linux. That would explain quite a bit, including recent patents bluster and lawsuits, and... maybe this SCO deal, too.
As a matter of fact, JGD Management Corp., doing business as York Capital Management, shares its street address at 1118 East Green Street in Pasadena, California 91106, with Arrowhead Research Corp. The CEO and Chairman of Arrowhead Research is R. Bruce Stewart, who also founded Acacia Research Corp. Acacia Research is the parent of IP Innovation, the company that recently filed patent infringement lawsuits against Linux distributors Red Hat and Novell. Suddenly all of this ties together and becomes clearer.
Just as SCO was and remains Microsoft's puppet, with its lawsuits against IBM, Novell and others funded out of Redmond through a sham Unix licence and PIPE-fairy strings running through Bay Star Capital, IP Innovation and York Capital Management are now Microsoft cats-paws, filing patent lawsuits against Linux and funneling more funding to SCO to keep its litigation FUD campaign alive, respectively. York is merely Microsoft's bag-man here.
SCO's motivation can be guessed, too. By selling its assets -- the Unix business, Hipcheck and Me Inc. Mobile -- while keeping its IBM and Novell lawsuit liabilities, SCO might be trying to ensure that it won't have to pay out IBM's and Novell's counterclaim damages. York will pay other creditors in order to buy the Unix business, but not IBM and Novell.
Yet, if the sale to York or another suitor goes through, SCO will end up with at least $36 million that might be deemed payable to Novell, IBM and perhaps others. So the thought that SCO hopes to avoid paying IBM and Novell by selling its Unix business seems daft, at least at first glance. However, SCO has shown that it's very capable of gaming the courts.
In Delaware bankruptcy court, SCO is dealing with a new judge who hasn't had the years of education in SCO's perverse legal maneuverings that Judge Kimball has gained in Utah. Admittedly, Bankruptcy Court is different than District Court, but Judge Gross will likely have his hands full in attempting to deal with SCO and its very creative troupe of lawyers.
Unless tightly reined in, or better yet, removed from control in favour of a court appointed trustee, SCO management will likely seek to tie up all of SCO's remaining funds, including whatever it realizes from any sale of its assets, in continuing its long drawn out litigation.
Maybe SCO is hoping instead that IBM or Novell will object to the proposed sale and offer to acquire SCO's Unix business in lieu of the liquidated damages that are almost certain to be awarded to them eventually at the conclusion of those lawsuits. When SCO first filed its lawsuit against IBM, there was speculation that SCO just wanted to be bought out. Well, that might still happen, although not at all as SCO would have wished. It would be ironic.
Meanwhile, SCO gets a line of credit to fund appeals in SCO v. Novell and defend against Red Hat's lawsuit. (Its attorneys are reportedly paid up through appeals for SCO v. IBM.) If Judge Gross isn't vigilant, SCO will pour the $36 million it gets from York into that, too.
SCO's management also gets more money to keep paying their own generous salaries and bonuses, though it will be up to the bankruptcy court as to how long that gravy train lasts.
Will all this work out the way SCO seems to be hoping? Again, we can't know. This is all up to the bankruptcy judge and SCO is still in the early stage of its Chapter 11 proceeding.
Or maybe SCO has simply read the writing on the wall and is preparing for the inevitable conversion of its bankruptcy to Chapter 7, but we tend to doubt that. After all, it's SCO. µ
This commentary initially indicated that SCO had received court approval to sell its Unix business. As a number of readers have pointed out, SCO only got approval from the court for an expedited hearing on the matter. The author regrets the previous inaccuracy and has been docked half a crust and a cup of gruel for his error. -- Ed.
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