Is Oracle Ignoring The Real Enemy?

Oracle announced third quarter gains Tuesday. But while it focuses on SAP, nimble rivals such as and WorkDay loom large.
Oracle returned to an upbeat tempo in its earnings report Tuesday for the third quarter ended Feb. 29. A challenging second quarter report last December sent its stock reeling downward 12% in a day. But Oracle officials insisted Tuesday that all is well.

They may be proven right in the fourth quarter, especially if hardware revenue arrests its decline and begins to grow again based on high-margin appliance sales. Even if it does, Oracle CEO Larry Ellison and co-presidents Mark Hurd and Safra Catz may have wasted ammunition on one target--competing application vendor SAP--when a longer-term threat looms: the growing appetite of customers for pure-play software-as-a-service.

Total revenue in the third quarter was up 3%, still anemic compared to the 37% it reported in 2011's third quarter and 17% in 2010's. Nevertheless, new software license revenue, a key indicator of company health, was up a more positive 7% in the third quarter. With the better news in hand, Oracle president and CFO Catz dismissed the second quarter, in which Oracle reported a disappointing 2% growth in new license revenue, as an anomaly.

"It's now clear the second quarter was an aberration," she said. "The second and third quarters are usually very similar," she added. Instead, this year the third quarter's new license revenue was 16% above the previous quarter. It's an aberration that Oracle officials hope isn't repeated anytime soon. Two percent for the second quarter was far below analysts' expectations, and during the third quarter, Oracle bought back 59.1 million shares of stock for $1.7 billion, propping up its price.

[ Want to learn more about how Oracle and face off? See What Results Say About Oracle Battle. ]

One figure that seemed to be missing from yesterday's account: how many new customers signed up for the new Fusion applications. In the second quarter, the figure cited, 200, was widely remarked upon as low, considering Oracle's 70,000 existing application customers. Ellison urged patience and said the company would help customers decide to make the transition "gradually ... We think we can manage this transition gracefully. We expect broad adoption in the customer base," he said during the call.

In the second quarter, both total revenue and new software license revenue were up a paltry 2%. In the third quarter, those figures were up 3% and 7%, respectively. The 7% new license figure was reassuring in that it also signals a growing maintenance revenue stream.

But CFO Catz also sounded a note of caution about the upcoming quarter when she warned that there was a possibility of a new license revenue decline as well as growth. She set expectations for the quarter with prospective license revenue across a range of up 8% to down 2%. Some of the unpredictability was due to fluctuating currency exchange rates, she said.

Another issue with a potentially negative impact on what should be Oracle's strongest 2012 quarter is Oracle's UltraSparc and x86 hardware unit, part of its legacy of acquiring Sun Microsystems. It got positive spin as president Mark Hurd said revenue from Oracle's engineered systems, its Exadata, Exalogic Elastic Cloud, and Exalytics In-Memory hardware appliances, were up 139%. That overlooks the overall decline of revenue from all Oracle hardware products by 16% after it had chalked up the same decline last year.

Ellison dismissed the drop, saying Oracle continues "to bleed off the commodity hardware business." Overall, hardware revenue will arrest its decline and grow next year, he predicted, except for "commodity x86 lines, which we just don't care about."

That may explain the drop from $1 billion in hardware product sales in the third quarter of 2011 to $869 million in 2012. But the reporting doesn't separate out UltraSparc, which has a new T4 processor going into products, and Intel x86 server lines.

Oracle has to continue to persuade customers that all is well with its hardware strategy of dissing volume x86 sales, while building high-margin appliances on the same architecture, and high-performance servers on UltraSparc. If it's working as well as Oracle officials say, then those declining hardware product revenues will need to reverse themselves soon.

At the same time, Catz pointed to restored operating margins of 37% in the quarter as a harbinger of health. "Oracle is on track to deliver the highest operating margins in our history this year," she said.

Ellison said Oracle is now fully equipped with modern applications with which to confront its chief rival, SAP, in the marketplace. "We wrote a new human capital management application in Java," he said, which is available for on-premises installation or online. "It will take years for SAP to catch up," Ellison predicted. SAP's Hana system "is an in-memory query accelerator," but it is not a database system that can compete with Oracle, he added.

"They just brought these [Hana] things out of the lab. We don't see it as a serious threat at all," Ellison said.

But another class of competitor doesn't have a set of hardware issues to juggle or a broad set of new Java applications to convince customers to install in place of familiar PeopleSoft, Siebel, or J.D. Edwards applications. They are the online application service providers, led by and including Workday, Intuit, Netsuite, and SugarCRM. is still struggling to get its annual revenue up to what would amount to one-third of Oracle's in any given quarter. At the same time, as a smaller company it's growing at an annual rate of 37%, not 3%, and adding quickly to its product line as if it were a generally extensible platform in the cloud. Its most recent addition plunged it into the human capital management field that Oracle says it will dominate over SAP. But Salesforce can add social networking features to any new product in its line and integrate the set to work together.

The question Oracle may soon face is not whether it can displace SAP as the world's largest application company. It instead may be asking itself whether it came with too little too late to the notion of deploying applications as a service in a networked data center, then focusing innovation on that platform instead of on continued on-premises sales.

The pay-as-you go nature of the cloud makes ROI calculation seem easy. It’s not. Also in the new, all-digital Cloud Calculations InformationWeek supplement: Why infrastructure-as-a-service is a bad deal. (Free registration required.)