Software Sales Continue To Dip As SAP Targets HANA & Cloud Integration

SAP AG (NYSE:SAP) reported a mixed set of results with a visible deterioration in top line growth due to sharp currency fluctuations and a strong bottom line.

Recap of Q3 2013 Earnings

Total revenues for the quarter stood at €4,045 million, lower than analyst estimates at €4,217 million. Revenue growth on a constant currency basis was largely flat, registering a 9% q-o-q growth rate in the quarter compared to 10% in Q3 2012. However, on a q-o-q basis, revenue growth decreased from 16% in Q3 2012 to 2% in Q3 2013. A decline in software licenses for the second consecutive quarter along with a sharp depreciation in EM currencies weighed on growth as Asian companies reduced spending on software amid Chinese growth concerns. The growth in new software licenses is the key to measuring future growth as it allows for recurring revenues from the high margin maintenance and support business.

Growth in operating expenses in constant currency terms slowed down to 6% compared to 14% from a prior year. An increase in expenses due to an expansion in headcount after the acquisition of hybris in August 2013 was offset by a reduction in stock based compensation expenses. This slowdown in operating expenses resulted in an 80 bps expansion in non-IFRS operating margins for the quarter. Non-IFRS profit after tax stood at €933 million, a 12% increase over Q3 2012.

The stock climbed as much as 8% upon earnings release as the company stuck to its fiscal 2013 guidance. For fiscal 2013, SAP anticipates a top line growth of at least 10% in constant currency terms along with a non-IFRS operating profit between €5.85-€5.95 billion. The stock currently stands flat on a YTD basis at $79 compared to our price estimate of $73 which is under revision to reflect the recent Q3 2013 earnings.

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Software Sales To Decline Further In Near Term As HANA Integration Continues

Software sales for SAP were affected the most, declining 5% to €975 million from €1,026 million a year ago. In constant dollar terms, software sales increased a paltry 2% between Q3 2012 and Q3 2013 in comparison to 12% between Q3 2012 and Q3 2011. Sales from HANA however continued their uptick, with revenues amounting to €148 million from €83 million in Q3 2012. The company recently announced a new ‘chemical company in a box’ package that combines SAP’s ERP application software with the HANA platform deployed on a hosted cloud environment. ^[1]

SAP announced plans to completely integrate its HANA platform across all of its product offerings to plug declining software sales. ^[2] Currently, 77 industry applications and analytic solutions are being powered by HANA, and all product offerings are expected to be ready for HANA soon. However, HANA sales currently make up only 15% of software sales despite their strong growth momentum. In the near term, we expect software sales to continue their downward trend. Nonetheless, we expect the revenue share for HANA to increase in the longer term, which should help plug the constrict the decline in segmental sales and contribute to an increase in SAP’s application market share.

Cloud Business To Drive Long Term Growth

Revenues from SAP’s cloud business continued to grow at over 200%, reaching €191 million for the quarter compared to €63 million a year ago. Sequentially, cloud revenues continued their strong growth momentum by increasing approximately 20%. Lower operational & maintenance expenses and higher performance abilities of cloud computing are leading to a strong demand for cloud services, marking a shift in company spending patterns. The shift to cloud has impacted traditional software sales for SAP as seen above, and we believe that it would continue to impact on-premise offerings in the near term.

However, concentrated efforts in trying to break into the cloud market with integrated HANA offerings could rapidly increase revenue share of cloud services. Cloud offerings contribute to about 17% of the new license revenues and, given the demand for cloud-based services, an integration of SAP’s successful HANA platform with applications that can be deployed on public and private clouds should see strong growth.

Understand How a Company’s Products Impact its Stock Price at Trefis

1. New Offering from SAP Helps Chemical Companies More Quickly Adopt Business Best Practices for Transformation and Rapid Time to Value, SAP Newsroom, October 2013 [↩]
2. SAP AG Management Discusses Q3 2013 Results – Earnings Call Transcript, Seeking Alpha, October 2013 [↩]