Currency Headwinds Dampen Rapid Growth of Oracle’s Cloud Business in Q4

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Oracle Corp. (NYSE: ORCL) reported its fiscal 2015 fourth quarter and full year results on June 17th after the market clode.  (The company follows June – May fiscal year.) The rapid growth of Oracle’s cloud business continued unabated the fourth quarter, albeit at the expense of its legacy on-premise software business. The company implied that its future lies in the cloud and admitted its preference for selling cloud-based products over on-premise software licenses to an undecided customer. [1] As a result, revenues from Software-as-a-Service (SaaS) and Platform-as-a-Service (PaaS) expanded by a commendable 29% year on year in the fourth quarter. In contrast, sales of on-premise software license sales fell steeply by 17% during the same period. [2] Revenues from Oracle’s hardware business also declined in the fourth quarter, but the company expects that since most new cloud customers are opting for a hybrid model, the rapid growth in cloud will pull the hardware sales along as well to a limited extent.

Adverse foreign currency movements hammered Oracle’s revenues in the fourth quarter. Consequently, its total revenues contracted by 5% year on year in the fourth quarter, but grew by 3% year on year in constant currency terms. Oracle’s full year revenues stood at $38 billion in fiscal 2015, which is essentially the same as the previous year. The over-30% growth achieved by Oracle’s cloud business in fiscal 2015 was wiped out by lower revenues from sales of on-premise software licenses and the declining hardware business. However, it must be noted that currency headwinds exerted a drag of 4 percentage points on total revenues in fiscal 2015. The impact of currency movements was double at 8 percentage points in the fourth quarter. With the exception of new on-premise software license sales, all other divisions achieved positive growth in constant currency terms in the fourth quarter as well as the full year.

On the profitability front, Oracle’s non-GAAP operating margin fell sharply in the fourth quarter. It contracted by over 600 basis points to reach 46% in the fourth quarter, compared to 51% in the same period previous year. The decline was relatively muted for the full year, as fiscal 2015 non-GAAP margin was 45%, compared to 47% in the fiscal 2014. The decline in the non-GAAP operating margin was primarily due to an uptick in R&D and SG&A expenses, and lower gross margin of the SaaS and PaaS cloud segment. The lower margins dragged down the non-GAAP EPS for fiscal 2015 to $2.77, which is a fall of 7% year on year.

We are currently revising our price estimate of $47 for Oracle Corp. to reflect the fiscal 2015 fourth quarter earnings.

See our complete analysis for Oracle Corp. here

Cloud Growth Continues Unabated, Expected to Pick Up Further

Oracle guides non-GAAP revenues (constant currency) from SaaS and PaaS to grow by 39% to 43% in fiscal 2016. This reflects an acceleration in growth of the SaaS and PaaS segment, which expanded by 34% year on year in fiscal 2015 in non-GAAP constant currency terms. It should be noted that the company includes the revenues from any acquisitions in its non-GAAP revenues, which are omitted under GAAP accounting rules to provide a fair year-on-year comparison. However, the impact of such acquisitions on Oracle’s cloud revenues was negligible in fiscal 2015.

Oracle’s medium term prospects of its cloud business also appear bright, as indicated by the exceptional growth of its cloud bookings in the fourth quarter. SaaS and PaaS bookings grew by 200% to reach $426 million in the fourth quarter, which the company claims to be the most cloud business sold by any cloud company in one quarter. [1]

Cloud Growth Eating Into Legacy On-Premise Software Business

The faster Oracle’s cloud business grows, the faster its legacy on-premise software business seems to be falling into a decline. In the fourth quarter, sales of new on-premise software license contracted by 9% year on year, and it was the only division of the company to decline even in constant currency terms. It’s not particularly surprising considering that Oracle is dedicated all its resources to catching up to its bitter rival, Salesforce.com (NYSE: CRM), in the cloud business.

On comparing the new products and innovations released in the on-premise and cloud segments, the far higher proportion of the latter makes it clear that the bulk of Oracle’s R&D investments seem to be allocated to the cloud business. The company further stated in the fourth quarter earnings call that its sales force is also dedicated to pushing its cloud products over the legacy on-premise software. [1] Therefore, it is almost inevitable that the decline of Oracle’s on-premise software segment will accelerate in the near future.

However, the company believes that the Support and Maintenance Revenues will continue to grow in the future. This is because most of its existing on-premise software licensees are buying additional cloud capabilities to operate in a hybrid model, rather than switching over exclusively to cloud. Recall that its sales force is also dedicated to pushing its cloud products over the legacy on-premise software. [1] As a result, Oracle’s renewal and attach rates continue to remain high, which is what drives support and maintenance revenues. This is a key growth factor, since Support and Maintenance revenues account for nearly half of the company’s total revenues. Therefore, continued growth of this revenue stream is crucial for Oracle.

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Notes:
  1. Oracle Fiscal 2015 Fourth Quarter Earnings Call Transcript, Seeking Alpha, June 17, 2015 [] [] [] []
  2. Oracle Fiscal 2015 Fourth Quarter SEC Filing []
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