Please ensure Javascript is enabled for purposes of website accessibility

Will 2016 Be Oracle Corporation's Best or Worst Year Yet?

By Leo Sun - Feb 7, 2016 at 8:14AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Where will the database giant’s stock head later this year?

Shares of Oracle (ORCL -0.19%) have fallen 15% over the past 12 months, due to mixed earnings, weak guidance, and concerns that its cloud businesses wasn't growing fast enough to offset sluggish growth at its aging database and hardware businesses. In a previous article, I discussed how those weaknesses could cause the stock to fall further in 2016. Today, I'll highlight some bright spots which the bears might have missed.

Oracle's hardware solutions. Source: Oracle.

A cheap valuation
Oracle stock currently trades at just 17 times earnings. That's significantly lower than the industry average of 32 for the application software industry. SAP (SAP 1.08%), which competes against Oracle on multiple fronts, has a P/E of 29.

Looking ahead, analysts expect Oracle's earnings to grow 8% annually over the next five years. During that same period, SAP's earnings are expected to grow 9% annually. However, Oracle's lower P/E gives it a 5-year PEG ratio of 1.7, which is lower than SAP's PEG ratio of 2. Neither stock can be considered "cheap," since a PEG ratio under 1 is considered undervalued, but it indicates that Oracle's stock remains fundamentally cheaper than SAP's.

A partnership with Intel
Oracle's hardware revenues fell 16% annually to $1.1 billion last quarter. The company mainly attributed that decline on macroeconomic problems across Latin America, particularly in Brazil. But another notable problem is IBM's (IBM 0.19%) OpenPower strategy, which "open-sources" its server designs to third-party server vendors. OpenPower partners install IBM's Power processors instead of Oracle's SPARC chips or Intel's (INTC 0.89%) Xeon chips.

To counter IBM, Intel and Oracle agreed to co-produce Oracle-Intel servers which pair Oracle's hardware with Xeon processors. At a presentation at Oracle World in San Francisco, Oracle CEO Mark Hurd declared that the new systems will offer faster performance than IBM's "large and costly" systems at a fraction of the cost. Oracle also promised to use on-site demonstrations to convince its database and software customers to replace their IBM servers with Oracle-Intel ones. It's too early to tell if this partnership will pay off, but it might boost Oracle's hardware figures later this year.

Cloud growth
Oracle's main strategy is to pivot away from its on-premise database and hardware platforms toward higher growth cloud services. Last quarter, Oracle's total cloud service revenues rose 26% annually to $649 million and accounted for 7% of its top line. Unfortunately, that growth couldn't offset its declines in on-premise and hardware revenues, which caused Oracle's total sales to fall 6.3% annually to $9 billion.

Source: Pixabay.

Within Oracle's cloud business, combined SaaS (software as a service) and PaaS (platform as a service) revenues rose 37% annually to $484 million, while IaaS (infrastructure as a service) revenue grew 7% to $165 million. Oracle expects non-GAAP gross margin for the SaaS/PaaS business to rise from 43% in the second quarter to 60% by the end of the fiscal year (on May 31), thanks to the conversions of more billings to revenue.

But looking ahead, Oracle expects its cloud revenues to grow just 3% to 4% annually in the third quarter, and just 1% to 3% during the fourth. The company expects strong SaaS/PaaS growth to be offset by declines in license revenues.

Inorganic growth
To generate fresh cloud growth, Oracle might need to make more acquisitions. In January, Oracle agreed to acquire AddThis, a provider of social sharing, content recommendation, personalized marketing tools, and analytics services for web publishers. Industry sources told TechCrunch that Oracle paid $100 million to $200 million for the company.

Oracle suggests that AddThis' tools, which power 15 million sites, will be integrated into its Data Cloud platform. The acquisition of AddThis complements Oracle's previous acquisitions of online-to-offline provider Datalogix, cloud marketing services provider BlueKai, online ad campaign firm Maxymiser, and cloud marketing automation firms Eloqua and Responsys. In addition to boosting its SaaS revenues, those acquisitions can widen Oracle's moat against other major players in the marketing cloud space, like Adobe, Salesforce, and IBM.

Oracle finished last quarter with $17.4 billion in cash and equivalents and $34.9 billion in marketable securities, so it still has the firepower to keep growing its cloud business inorganically.

The best year, the worst year, or neither?
I think 2016 will be an average year for Oracle, as investors focus on its ability to transition toward the cloud instead of looking for big top and bottom line gains. The stock's upside potential will be limited by concerns about its slowing cloud growth and slumping on-premise and hardware sales. However, its downside potential could be limited by the stock's fairly cheap valuations. Therefore, I wouldn't really be surprised if Oracle traded sideways for the rest of 2016. 

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

International Business Machines Corporation Stock Quote
International Business Machines Corporation
$137.88 (0.19%) $0.26
Intel Corporation Stock Quote
Intel Corporation
$37.02 (0.89%) $0.33
Oracle Corporation Stock Quote
Oracle Corporation
$71.85 (-0.19%) $0.14
Salesforce, Inc. Stock Quote
Salesforce, Inc.
$172.40 (0.12%) $0.20
SAP Stock Quote
$90.12 (1.08%) $0.96
Adobe Inc. Stock Quote
Adobe Inc.
$383.55 (1.88%) $7.06

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 07/06/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.