Oracle's (ORCL 0.22%) stock rallied more than 30% over the past three years, but the source of that growth is a divisive topic for investors. The bulls claim that Oracle won back investors by pivoting away from its legacy businesses toward higher-growth cloud services, but the bears note that the stock's rally was mostly driven by aggressive buybacks as the company's revenue growth flatlined.
I've been bearish on Oracle ever since it obfuscated the growth of its cloud services by changing its reporting segments last June. I claimed that Oracle was looking more like the "old" IBM (IBM 1.05%) with each passing quarter, and its recent first-quarter report backs that bearish thesis.
Let's discuss five simple reasons investors should still stay away from Oracle.
Image source: Getty Images.
1. Anemic revenue growth
Oracle's revenue remained flat year-over-year at $9.22 billion during the first quarter, which missed estimates by $70 million. Once again, currency headwinds throttled its top-line growth.
|
YOY revenue growth |
Q1 2019 |
Q2 2019 |
Q3 2019 |
Q4 2019 |
Q1 2020 |
|---|---|---|---|---|---|
|
Reported |
1% |
0% |
(1%) |
1% |
0% |
|
Constant currency |
2% |
2% |
3% |
4% |
2% |
YOY = Year-over-year. Source: Oracle quarterly reports.
Oracle's cloud services and license support revenue (74% of its sales) rose 4% in constant currency terms during the first quarter, but that growth was offset by declines at all three of its other businesses -- cloud and on-premise licenses, hardware, and software.
Oracle attributed its decline in cloud and on-premise licenses to seasonally slower demand, but competition from bigger cloud platforms -- like Amazon's (AMZN -1.64%) AWS (Amazon Web Services) and Microsoft's (MSFT 0.37%) Azure -- was likely another major factor. AWS revenue rose 37% annually last quarter, while Azure revenue surged 68% in constant currency terms.
Oracle expects its revenue to rise just 1%-3% annually (in constant currency terms) in the second quarter. Wall Street expects its revenue to rise 1% (on a reported basis) for the full year.
2. The abrupt departure of its co-CEO
Oracle has two co-CEOs, Mark Hurd and Safra Katz. But it was Hurd, the former CEO of HP, who led Oracle's push into cloud services over the past five years and set a goal for the company to claim 50% of the cloud applications market.
That's why investors were stunned when Oracle disclosed that Hurd needed to take an extended leave of absence for health reasons. Oracle didn't disclose any additional details about Hurd's health issues or when he would return.
Hurd was also in charge of Oracle's sales, advertising, and software groups. Oracle's founder and chief technology officer Larry Ellison will assume some of Hurd's responsibilities along with Katz until Hurd returns, but the abrupt shift casts a dark cloud over Oracle's biggest growth engine.
Image source: Getty Images.
3. Still addicted to buybacks
To offset its anemic revenue growth, Oracle aggressively bought back shares to boost its earnings growth. That's why its adjusted earnings rose 14% annually to $0.81 per share during the first quarter and still met Wall Street's expectations.
To accomplish that, Oracle spent over $5 billion (41% of its free cash flow) on buybacks during the quarter. It also increased its buyback authorization by another $15 billion, indicating that it will stick with its strategy of "buying" earnings growth for the foreseeable future.
Spending excess cash on buybacks makes sense when a company's revenue growth is healthy. It makes less sense when it isn't, since that cash would arguably be better spent developing new services or acquiring smaller companies. It's the same mistake the "old" IBM made under former CEO Sam Palmisano, who repeatedly padded Big Blue's earnings with buybacks while neglecting its weak revenue growth.
4. A dismal dividend yield
Instead of blowing so much cash on buybacks, Oracle should allocate more cash to its dividend. Its forward yield of 1.7% looks low compared to many comparable tech giants: IBM pays a forward yield of 4.5%, while Cisco pays a forward yield of 2.8%.
Oracle spent just $795 million, or less than 7% of its free cash flow, on dividends last quarter. That low payout ratio indicates that it has plenty of room to raise its yield and attract more income-seeking investors.
5. Insider selling
If Oracle has a bright future, we should be seeing its insiders accumulate more shares alongside its buybacks. But over the past 12 months, Oracle's insiders sold 10.5 million shares on the open market, while only buying 1.1 million shares.
The bottom line
Oracle won't fall off a cliff anytime soon, but it's simply treading water and engineering earnings growth with big buybacks. That makes it a mediocre investment, especially when its industry peers -- like Microsoft and Amazon -- generate better growth with bigger slices of the cloud services market.
