Oracle Corp. (NYSE:ORCL) produced powerful earnings and free cash flow (FCF) results for its quarter ending May 31. I wrote about this on July 12 and argued that as a result, ORCL stock was worth $118 per share.
At the time, Oracle stock was trading at $87.76 per share. On Sept. 1, ORCL stock was at $89.95. So there is still plenty of room for it to move higher – about 31%.
I based this estimate on its 34% FCF margin from its fiscal Q4 ending May 31. I applied this FCF margin to estimates of its 2022 sales. And that results in $14.465 billion in estimated FCF for 2022. Using a 4.5% FCF yield, I estimated its market cap target is $321 billion. That works out to a price of $118 per share.
Where This Leaves Oracle
Since my last article on Oracle, analyst estimates for the year ending Nov. 30, 2022, have risen. This means that the company is now forecast to produce revenue of $42.27 billion, according to Yahoo Finance. And based on surveys by Seeking Alpha, revenue will reach $43.99 billion.
So on average, the 2022 estimate is $43.13 billion. After applying a 34% FCF margin, 2022 FCF is now seen higher at $14.664 billion, versus $14.465 billion earlier. Using a 4.5% FCF yield, the target market cap is $325.87 billion, compared to $321 billion earlier. This is 29.3% over its recent market cap of $252.04 billion.
This means that the new ORCL stock target is 29.3% over its Sept. 1 price of $89.95. That gives it a price target of $116.30, versus $118 before. This is lower than the earlier price target, probably because of the options and buybacks lowering its shares outstanding. The point is that there is plenty of room for the stock to rise.
What Analysts Say About ORCL Stock
After its earnings release, Reuters pointed out the company plans on doubling its capital spending on cloud segment revenues. The company found many of its clients want to have a hybrid model (own servers plus server clouds run by Oracle) to back up their data and systems.
As a result, Oracle now forecasts slightly lower earnings per share for its fiscal Q1 ending Aug. 31. During the earnings conference, management said that they expect EPS will be between 94 cents and 98 cents per share.
However, analysts are not as sanguine about the company as I am, despite its huge profitability and large buybacks. For example, TipRanks.com reports that 17 Wall Street analysts have an average $83.13 price target or 7.58% below the Sept. 1 price.
Moreover, Yahoo Finance reports that a Refinitiv survey of 22 analysts on ORCL stock has an average price target of $81.67 per share. This assumes a potential drop of 9.2% from Sept. 1. To make matters worse, Seeking Alpha says that 22 analysts have an average target of $78.67, or 12.5% lower.
Using Probability Analysis to Estimate Returns
The fact that analysts don’t think ORCL stock will rise does not bother me. Nor does the fact that my estimate is much higher than the average. However, to give them some credence, let’s at least use a probability assessment.
First, let’s assume that there could be a 30% chance that sell-side analysts are right – that ORCL stock will fall around 10% or so. On the other hand, let’s assume that there is a 50% chance I am right that ORCL will rise 29.3% over the next year. Lastly, let say that there is a 20% chance (i.e., the remaining probability: 100%-30%-50% = 20%), that a market return of 15% will occur.
Now we can add up these probability weighted expected returns (ER). The analysts’ 30% chance times a decline of 10% works out to a negative 3% ER. In addition, a 50% probability times my 29.3% estimate results in an ER of 14.65%. Lastly, a 20% chance of a market return of 15% results in a 3% ER.
Therefore, the total probability weighted expected return is as follows: -3.0%+14.65%+3.0%. This obviously adds up to a 14.65% expected return. In other words, the worst-case situation, incorporating analysts’ and my view, along with the market returns, is that ORCL stock will rise to $103.12 over the next year.
What to Do With ORCL Stock
As there is a good chance, as I have shown, that ORCL stock could rise almost 15%, investors might like to start average cost buying into it.
Keep in mind though that the company’s investments in cloud infrastructure and marketing could lower its free cash flow going forward. That will lower its margins, but should pay off in the long run.
Here is the bottom line. I estimate that ORCL stock is worth $116.30, 29% higher, but that the expected return over the next year is +14.65% to $103.12 per share.
On the date of publication, Mark R. Hake did not hold a position directly or indirectly in any security mentioned in the article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.