Oracle’s Customer Transition Challenge

Oracle narrowly missed its number last quarter, so it was good to see the company come roaring back with 19 percent non-GAAP EPS growth (i.e., it made a lot of money). More importantly, many analysts have conceded that the company has reached a point in its infrastructure deployment where it can mount a serious challenge to other providers and supply the needed cloud services for its ERP and cloud database businesses.

Analyst Herve Blandin said as much in a Seeking Alpha post, “Oracle: At An Inflection Point.”

The recognition is important for all parties. Analysts finally can admit that their consternation this past year over the disparity between SaaS and IaaS sales had a logical cause that didn’t require them to get their knickers in knots. For Oracle, it’s validation of a strategy to move to the cloud and to insist on building infrastructure even though it would be expensive and time-consuming. Given the company’s emphasis on performance and its autonomous database, things could not have gone differently.

Crossing Over

Oracle isn’t done. It has more cloud data centers to build, but it has critical mass. In the process it once again has revolutionized the enterprise software world with a highly secure and performant database. Caveat: You have to use Oracle’s hardware to make it all work as advertised.

If I may be allowed a personal note, in 2015 I wrote a long article for Computer Law Review International, which focused on improving data security. My conclusions included putting everything in memory and using encryption, much as Oracle has done. As an analyst, I can’t say I knew how to do what I was suggesting, or how difficult it would be, but it’s nice to see the reality.

On the earnings call, CEO Safra Katz told the audience that total revenues for the quarter were US$9.6 billion, but what really got my attention was when she said this:”The gross margins for cloud services and license support was 86 percent, essentially the same as last year with continuing improvement in SaaS gross margins, stability in software support gross margins, and continued investments in Oracle cloud infrastructure. As we continue to scale and grow our cloud business, I expect our gross margins will ultimately go higher.”I wonder, though, if that number actually will increase or if the company might use some of it to buy market share from the likes of AWS or Microsoft. Regardless of the earnings per share and similar numbers presented, the key information Katz delivered was this:”Total cloud services and license support revenues for the quarter were $6.6 billion, up 5 percent in constant currency. This accounted for nearly 70 percent of the total company revenues and most of it is recurring revenues.”

With that, the company appears to have crossed over from being a provider of on-premises and legacy software to being a futuristic cloud provider. This is likely one of the reasons analysts began talking about Oracle reaching an inflection point. It has converted the lion’s share of its revenue stream to recurring revenue, and it happened very quickly.

Transitioning Customers

Just a guess, but there must be a lot of Oracle people breathing easier as a result. Although it shouldn’t be said that the company is out of the woods, the situation certainly has changed. Now instead of the financial guys worrying about the cloud transition, they’ve begun focusing on the quality of the revenue. Issues like taxes and share buybacks driving the good news rather than revenue increases have tongues wagging.

It’s true too. This quarter Oracle bought a cool $10 billion worth of its own stock, something the company has been doing for a while. Its logic has been simple. It knows what its future looks like, and the stock price looks cheap in comparison. At the same time, with fewer shares outstanding, the profits spread a little thicker — hence, the EPS numbers look better.

Then there’s the influence of the tax cut Congress passed last year. The tax provision was $441 million this quarter versus $612 million for the year earlier quarter. So the two together gave Oracle a tailwind for reporting earnings.

All of this might be beside the point. With a raft of new cloud data centers online or coming soon, Oracle can look ahead to making money the old-fashioned way. So the question that remains is how Oracle will transition the bulk of its customer base.

Early indications are positive, but no one is forgetting that transitions of this type invite comparisons. Competitors, especially AWS, are both aware of this and acting accordingly.

My Two Bits

Market share is only one important factor to consider. Another is market growth. Cloud computing generally began a commoditization drive in enterprise software and it is still being felt and the market is still expanding.

Oracle already has many customers with hundreds or even thousands of databases, and the shift to the cloud will make that process easier. The current earnings numbers are good but everyone needs to keep in mind that maintaining the number of logos in the customer base is only one parameter. Competitors can grow up like weeds between a dinosaur’s toes. Competition never ends.