Cloud Subscriptions Soar as SAP Achieves 2014 Guidance

by Trefis Team
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SAP SE (NYSE: SAP) released preliminary fourth quarter and full year 2014 results on January 12. The company reported outsized growth rates in cloud revenues on the back of Fieldglass and Concur acquisitions. It was also able to achieve its revised operating profit guidance despite transitioning to a ratable revenue model from the erstwhile upfront booking model.

Total non-IFRS revenues for the year were €17.6 billion, representing a 4% year-on-year growth rate. Non-IFRS operating profit expanded by 3% to reach €5.64 billion, achieving a 32% operating margin. On a constant currency basis, operating profit for the year was €5.63 billion, which was at the lower end of the guidance of €5.6 – €5.8 billion.

The company will report detailed earnings for the fourth quarter and the full year 2014 on January 20.

Our price estimate of $86.13 is about 27% higher than the current market price.

See our complete analysis of SAP SE here

Cloud Subscription & Support Revenues Boosted by Acquisitions

Non-IFRS Cloud Subscription and Support revenues expanded by 72% year-on-year in the fourth quarter to reach €360 million, that is, 6% of total revenues. Full year non-IFRS Cloud Subscription and Support revenues were €1.1 billion, generating a 45% year-on-year growth rate. Revenue growth rate on a constant currency basis was also 45%, at par with the revised guidance advised by the company with the third quarter earnings.

However, the above-reported revenues include revenues from Concur, Fieldglass and Hybris acquired by SAP during the year. Adjusting for these acquisitions, organic Cloud Subscription and Support revenue growth rate was 41% for the fourth quarter and 32% for the full year, on a non-IFRS basis.

Organic growth was driven by increasing adoption of the SAP HANA platform, the company’s In-memory data analytics system.  Speed and simplification continue to distinguish SAP HANA from competing offerings like Oracle’s (NYSE: ORCL) Exadata, an alternative high performance platform for greater scale out capability for far larger data sets. Addition of cloud-based capabilities to the platform helped drive cloud subscriptions as customers got best of both worlds – a simplified computing platform as well as cloud-support.

It is pertinent to note that unlike American companies, a weaker Euro benefits SAP because conversion of international sales to Euro results in higher revenues for the Germany-based company.

Sales of New Software Licenses Fall as SAP Turns Focus to Cloud

Sales of new software licenses fell by 3% in 2014 on IFRS, non-IFRS as well as constant currency basis. Fourth quarter revenues from new software licenses also declined by 2% on IFRS and non-IFRS basis, and by 5% in constant currency terms.

This decline indicates SAP’s shift of focus from its traditional strength, on-premise software, to the increasingly preferred cloud-based offerings. This strategy is in line with the ongoing transition wherein more and more customers are moving to low-cost cloud-based systems. [1] To keep pace with this trend, the company is capitalizing on the popularity of its SAP HANA platform to fuel growth in the cloud business, which is in turn eating into sales of new on-premise software licenses.

Total non-IFRS Software and Software-related Services revenue, which includes revenues from cloud, grew at 7% in constant currency to reach €14.9 billion. The growth was in line with the 6% – 8% constant currency guidance provided by the company.

IFRS Operating Profit Declines on High Acquisition Costs

SAP’s 2014 non-IFRS operating profit increased by 3% year-on-year to reach €5.64 billion, while non-IFRS operating margin remained stable at 32%. On IFRS-basis, operating profit in 2014 declined by 3% year-on-year operating margin was lower by 2 percentage points compared to 2013. This may be because the IFRS operating profit includes charges related to the $8.3 billion purchase of Concur, the largest acquisition in SAP’s history.

Growth Defies Increasing Share of Ratable Revenue

The organic revenue growth and  stability of the non-IFRS operating margin is remarkable because of the increasing share of cloud-based subscriptions. Such a transition typically involves lower revenues and margins because revenue from cloud subscription is spread out over the life of the contract. In contrast, much of the revenues from the existing on-premise systems are booked upfront.

In 2014, SAP’s share of revenues from Cloud Subscription and Support rose to 6% from 4% in 2013. We believe that while this two percentage point change may not be substantial enough to have a material impact, the ongoing transition will put pressure on margins as share of ratable cloud subscriptions grows further. This has raised concerns that the company may push back its target of achieving 35% operating margin by 2017. [2]

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Notes:
  1. Gartner Says Worldwide IT Spending on Pace to Grow 2.1 Percent in 2014, Gartner Press Release, June 30, 2014 []
  2. SAP Quarterly Cloud Software Sales Top Estimates, Bloomberg, January 12, 2015 []
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