As far as the stock market is concerned, the going was tough for Oracle Corporation (ORCL) in 2015, with ORCL stock closing the year with a negative return of about 19%. In comparison, it underperformed IBM (IBM), which also lost by 14.2% and Microsoft (MSFT), which gained about 19.4% in 2015.
The underperformance of Oracle can be traced to one major issue: financial figures over the past year have been sending mixed signals, accompanied by less-than-impressive guidance.
ORCL has been seeing its revenue decrease since the beginning of 2014. The downward trend in revenue has also put pressure on its bottom line, with net income also on a downward trend since the start of 2014. As you might expect, this trend is also putting margins and cash flow under pressure as well.
Oracle stock is in this position because of decreasing revenues from its on-premise software segment, which accounts for close to three-quarter of total revenue.
Its hardware revenue, which accounted for 12% of total revenue in Q2, also took a hit. Overall, the decline in revenue is just a reflection of how Oracle’s core database and hardware business is becoming outdated, and how clients are now moving to the cloud.
So does this spell the end for Oracle? At the minimum, as far as being a blue-chip tech company goes? Nope, that’s not what I see. In fact, while ORCL stock and the company behind it are struggling right now, I believe the market has already overreacted, thereby creating value for savvy investors.
Here’s why.
Oracle’s Cloud Is Underrated
Yes, Oracle came in late into the Cloud Wars. And yes, being late means it’s behind the likes of Amazon (AMZN) and Microsoft. This hinders many from recognizing how fast Oracle is growing in the cloud space.
According to its annual filling, as of the end of its fiscal 2015, which ended May 31, 2015, the company had spent $6.2 billion to acquire the likes of Micros, Responsys and others. On Monday, news broke that Oracle has acquired Israeli startup Ravello Systems for a reported fee of $500 million.
Going by this reported fee, ORCL has spent at least $6.7 billion on acquisition, most of which is geared toward growing its cloud presence. Moreover, that figure most likely exceeds this, as there have been some acquisitions, such as AddThis, whose figures aren’t publicly available
This is no small feat, and investors need to start appreciating Oracle’s move into the cloud space. Here’s a line from Oracle’s 2015 annual filing that shows that these acquisitions are already paying off:
“Excluding the effects of unfavorable currency rate fluctuations of 5 percentage points, total new software licenses and cloud software subscriptions revenues remained flat during fiscal 2015 as growth in our cloud SaaS and PaaS revenues and contributions from our recent acquisitions were offset by a decline in our new software licenses revenues.”
There are two points to take away from here.
First, Oracle is growing its cloud business with contribution from new acquisitions, which should make investors expect faster growth.
Second, since new acquisitions are already are already improving revenues, it won’t be out of place to say ORCL has a good acquisition system in place.
An acquisition system that doesn’t speculate nor does it swing blindly. A system that identifies companies that are prime for monetization.
It is common among tech companies to acquire startups that promise to be disruptive, but take several years to see material benefits. It’s eerily similar to how oil companies acquire crude oil sites, the highest-traded commodity, only to take a number of years before realizing the material benefits.
Of course, it’s too early to reach a conclusion with Oracle’s cloud-related acquisitions. Still, early signs are positive.
Bottom Line on ORCL Stock
In addition, drawing from the discussions I’ve seen about Oracle’s cloud business, its ongoing performance in the cloud business is being underrated. The Motley Fool points at how the company generated $649 million in cloud revenues last quarter, compared to Amazon and Microsoft’s annual run rates in excess of $6 billion. That doesn’t sound so impressive, except that $649 million represents 31% sales growth year-over-year.
So ORCL is not so much behind the leaders as such information portrays. Oracle CEO Mark Hurd made it clear last year that, “Oracle’s cloud revenue is already above a $2.3 billion annual run rate.” That will improve significantly by the end of fiscal 2016, considering that ORCL stock projects a 50% and 60% increase in cloud revenue in the third and fourth quarter, respectively.
And growth efforts, including ongoing acquisitions and plans to build a 560,000-square-foot workplace for its cloud business in Texas, ORCL should be considered a serious competitor in the cloud space.
Coupled with the impending growth in its cloud business, ORCL stock offers some pretty attractive valuations. ORCL stock trades at about 17 times trailing earnings — vs. an industry average of 31 — and 13 times next year’s earnings.
Even though free cash flow has been under pressure, its yield is still very attractive compared to a competitor like Microsoft.
As of this writing, Craig Adeyanju did not hold a position in any of the aforementioned securities.
