Oracle’s Cloud And Social Push Back Our $41 Estimate

ORCL: Oracle logo

Oracle (NASDAQ:ORCL) has been growing rapidly this year, and this is partly reflected in its stock price which started at $25-$26 levels in the beginning of the year and is now trading around the $31-$32 mark. The company has been on the lookout for growth opportunities and has snapped up smaller companies in the social media, virtualization and project management areas. Its Big Data analytics is also doing well and holding its own against SAP’s HANA platform.

In its most recent filings the company reported revenues of $8.2 billion, up 3% y-o-y. Software and Cloud subscription was up 11% y-o-y with revenues of $1.6 billion and cloud revenues were $222 million for the quarter. The operating cash flow this quarter was at an all-time high of $5.7 billion, up from $5.4 billion last year. And free cash flow grew to a record $13.4 billion over the last 4 quarters. The company also guided that EPS for the next quarter is expected to be somewhere between $0.59 and $0.63, up from $0.54 last year.

The company has acquired companies such as Selectminds, Xsigo Systems, Skire, Collective Intellect and Vitrue, among others. This is a clear push to make its presence felt in the social media, virtualization, cloud and project management markets. The company is going all out to take market share in the high-growth cloud CRM space, and we expect this to be the growth engine for the CRM, ERP markets. Below we highlight why we think the stock is worth $41.

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Check out our complete analysis of Oracle

Big Data Opportunity

Oracle is trying to own more of the the Big Data market with its Exalytics in-memory appliance, which competes directly with SAP’s popular HANA offering. It also launched Advanced Analytics that enables users to run scripts for business intelligence applications in its Big Data appliance. Enterprise hardware offerings like the Exalytics appliance will not only help the company ride the Big Data trend but also enable it to improve its hardware margins by phasing out older legacy hardware, launching new high-margin hardware and bundling it with its software products. Though its hardware revenue has taken a hit recently, we expect it to improve in the coming years.

Oracles Big Cloud Play

The company is acquiring Xsigo Systems, a leading network virtualization company. The service simplifies cloud infrastructure by using software-defined networking technology to allow customers to dynamically connect any server to any network as well as storage, resulting in efficient resource usage. This will create software defined data-centers and put Oracle in direct competition with cloud giants EMC-VMware.

We expect the technology of Xsigo to be integrated with Oracle VM for server virtualization, making Oracle cloud environment more cost effective. This deal is similar to the VMware acquisition of Xsigo’s rival Nicira for $1.26 billion. Xsigo has hundreds of enterprise customers including British Telecom, eBay, Softbank and Verizon. The key to Xsigo’s success is the software defined virtualization technology which  creates virtualized pools of network capacity, storage etc. which can be delivered dynamically according to computing loads and traffic. Oracle continues to grow in the social, cloud and mobile space inorganically, and we can expect more acquisitions in the social and cloud space.

Oracle In Social Media

Oracle sees a lot of value in social media marketing and this shows in its acquisitions. The company bought social media start-up Involver along with Vitrue and Collective Intellect, all in the social marketing space. It has also entered into an agreement to acquire SelectMinds, which is a provider of cloud-based, social talent application and also manages corporate alumni networks.

The reason for this spate of acquisitions is that while technology spending is dropping for IT systems, technology sales are increasingly being driven by the marketing teams as they look to get marketing campaigns onto social media platforms. Technology spend is no longer restricted to IT budgets and is eating into marketing budgets as well, and this is one of the key reasons why tech giants like Oracle have entered this space. Revenues from social media services is currently very low for Oracle; however, as IT spending grows and marketing budgets begin to include social media software expenditures, we can expect high growth from this division in the future.

We can expect these companies to be added to its Software as a Service (SaaS) portfolio and the Oracle Cloud. Involver mainly caters to the creation of campaigns on Facebook. It pioneered social apps by creating the first social app suite on Facebook and is currently leading the industry with Social Markup Language (SML) and Visual SML. Involver has clients such as Toys R’ Us, MTV, Jack Daniel’s, Best Buy and media agencies like Razorfish and Edelman. It is one of the leading social apps campaign managers on Facebook.

This fits in well with Vitrue and Collective Intellect. Collective Intellect offers cloud-based applications to help analyze social conversations and turn them into intelligence, marketing campaigns, customer service, and sales leads. Vitrue, on the other hand, provides software and analytics for big Business to Consumer (B2C) businesses to manage media engagements across their social properties on YouTube, Twitter and Facebook.

We expect revenues from social media analytics to become a significant driver for Oracle in the near future.

Project Management Add On To CRM Services

Oracle has also acquired Skire, a program management and facilities management software provider. Skire has applications both for the cloud and on-premise deployment and provides a complete set of management and governance tools from planning to the operations execution stage. This is mainly used by companies to manage their expansion and construction programs. Oracle will integrate Skire’s technologies with its range of Primavera products.

Sensitivities To The Downside

1) Research and Development Costs

We currently expect R&D expenses as a percentage of gross profit to increase from its current levels of 16% to near 20% by the end of our forecast period. If cloud, big data and social business increase this to 25% by the end of our forecast period, this translates to around 15% downside to our current Trefis price estimate.

2) Sales And Marketing Expenses

We currently expect the sales and marketing expenses to grow from its current levels of 28% to 33% by the end of our forecast period. If this increases at a faster rate than expected to near 40% by the end of our forecast period, we could see downside of nearly 20% to our current price estimate.

We currently have a $41.24 Trefis price estimate for Oracle, which stands nearly 20% above its current market price. Database, middleware and application software accounts for nearly 80% of its value, while enterprise server and storage hardware accounts for more than 10%.

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