This year saw the rise of artificial intelligence (AI) into the mainstream thanks to the advent of technologies such as ChatGPT, capable of delivering humanlike responses to whatever you ask it. The AI trend bodes well for tech companies, including Oracle (ORCL 2.02%), known for its database products.
One of the reasons Oracle in particular benefits from this trend is because AI requires massive troves of data to successfully execute tasks, and that data is stored in databases, such as the ones Oracle sells. The company stands to gain in other ways as well from the emergence of AI.
For instance, the global AI market provides a multi-year tailwind for Oracle's revenue. Forecasts estimate this market will grow to nearly $2 trillion by 2030 from last year's $142 billion.
Even so, the shares plunged after the company reported its latest quarterly earnings on Sept. 11. Is this a buy opportunity, or are there reasons to avoid Oracle stock? Let's look at the company in more detail to find out.
Where Oracle is today
Oracle's product suite has expanded dramatically since its origins in database software thanks to a plethora of acquisitions. Today, its tech offerings include IT infrastructure, back-office and customer relationship management software, supply chain management, and more.
The majority of its business is grouped under its cloud computing and licensing support segment, which generated $9.5 billion of the company's $12.5 billion in revenue during the fiscal first quarter, ended Aug.31. This division also experienced strong sales as illustrated by its year-over-year revenue growth of 13% in the first quarter, and 17% in Oracle's 2023 fiscal year, ended May 31.
Thanks to its growing cloud computing business, Oracle is among the 10 largest cloud companies in the world, but it's AI that might drive its future revenue expansion.
AI's role in Oracle's growth
Regarding AI, co-founder and Chief Technical Officer Larry Ellison said: "It fundamentally changes how we build applications, how we run applications. It just changes everything."
Oracle's database solutions can store the enormous amounts of data required to train AI models, but what gives the company a competitive edge, it believes, is that its infrastructure can train AI programs at twice the speed and half the cost of competitors. To do this, it bundles groups of computers together to efficiently share resources in what are called superclusters.
As a result, in the first quarter, Oracle booked over $4 billion in AI training business, twice the amount in the fourth quarter. CEO Safra Catz said, "Because we have far more demand than we can supply, our biggest challenge is building data centers as quickly as possible."
This AI demand translated into solid sales growth as first-quarter revenue of $12.5 billion represented a 9% year-over-year increase. The quarter followed a strong 2023 fiscal year, when sales soared 18% over 2022. This was an impressive result, especially compared to the past few years when year-over-year revenue growth trended in the single-digit range.
Data by YCharts.
Oracle's sales success also translated into strong free cash flow (FCF) of $5.7 billion in the first quarter, a 21% jump over the prior year. Its excellent FCF means the dividend, currently yielding 1.5%, is secure.
To buy or not to buy Oracle shares
Despite the positive first-quarter results, what sank Oracle's stock recently was a disappointing earnings outlook. The company forecast second-quarter revenue to increase 5% to 7% year over year, a deceleration from the first quarter's 9% growth. The guidance isn't necessarily a cause for concern, however, because the company could end up exceeding it.
Also, the recent drop in Oracle's share price now makes the stock reasonably valued. For example, its price-to-earnings ratio (P/E) was elevated over the summer when compared to its larger cloud competitor Microsoft, but now its P/E has dropped below Microsoft's.
Data by YCharts.
A more reasonable P/E and an in-demand product suite bring the stock into buy territory. Its dividend is a nice perk, but when it comes to income investments, other dividend-paying stocks are better choices, since Oracle typically raises its dividend every other year, while others do so more frequently, such as annually.
Instead, the company's growing cloud business and the revenue tailwind from the secular trend of AI are the key factors that make Oracle's stock a buy at this time.
