Oracle to Offer 95% of Its Products Through Cloud by October

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Global software giant Oracle Corp. (NYSE: ORCL) stated late last month that it plans to offer 95% of its products through the cloud as early as this October. [1] Currently, only 65% of Oracle’s products are available through the cloud, while the rest can only be purchased in the traditional on-premise model.  The company stated that it is not abandoning its traditional products, implying that customers will be able to choose from the best of both worlds; that is, the cloud computing version or the on-premise version. It is not clear if Oracle will offer a hybrid version of its products also.

Oracle’s revenues from its cloud business have been expanding at a breakneck speed over  the last few quarters. Revenues from its software-as-a-service (SaaS) and platform-as-a-service (PaaS) segment accelerated by 30% year on year in the third quarter, including the impact of currency headwinds. In contrast, revenues from its on-premise software licenses contracted by 7% year on year during the same period. This underscores Oracle’s aggressive strategy in the cloud computing business, even if it undermines revenues from the traditional on-premise software licenses. (Read: Oracle Takes Aim at Salesforce.com as Currency Headwinds Eat Into Q3 Revenues)

We have a price estimate of $47 for Oracle Corp., which is about 5% higher than its current market price.

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Aggressive Expansion in Cloud

Over the last few quarters, Oracle has repeatedly emphasized its intention to expand aggressively in the cloud computing business. Although it is generally considered to be a late entrant to the cloud computing business, Oracle is catching up fast to the global leader in cloud computing, Salesforce.com (NYSE: CRM). It aims to exceed $1 billion in new SaaS and PaaS business in 2015 and surpass Salesforce in the process.

To help achieve this aim, last month Oracle announced the expansion of its sales team in the Asia-Pacific region. The company plans to capitalize on the nascent cloud computing market in the region, which is set to take off with economic expansion and proliferation of broadband and mobile infrastructure. (Read: Weekly Software Notes: Oracle)

It has also bolstered its product line and is rapidly adding new products to its cloud portfolio. The combination of regular release of new products and aggressive cross-selling of its flagship cloud products has helped Oracle grow its cloud bookings by 50% year on year in the last two quarters. The pace of acquisition of new customers has not let up so far and is expected to continue in the near future.

Faster Transition to Cloud May Dampen Margins

Oracle’s rapid transition to the cloud computing model is likely to weaken its bottom-line. This is because revenues from cloud subscriptions are spread across the period of the contract, unlike the on-premise model in which most of the revenues are booked upfront. Further, margins in the cloud computing industry are thinner than in the on-premise software market. This is evident from the fact that Oracle’s gross margin from its SaaS and PaaS products was just 52% in 2014, compared to 96% from the on-premise software licenses segment. Simple put, the cost of software license sales is much lower than the cost of service goods sold.  Therefore, a higher proportion of cloud products in Oracle’s product mix is likely to have a  negative impact on its margins.

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Notes:
  1. Oracle CEO Hurd Plans to Lift Almost All Products Into Cloud, Bloomberg, April 25, 2015 []