SAP (NYSE:SAP), which develops software applications for major companies, warned investors yesterday that its preliminary results for the second quarter were lukewarm. As a result, the stock plunged nearly 7% to $46.83. SAP's announcement is a reminder of how dependent the company is on landing big customers on a quarter-by-quarter basis -- as well as the fierce competitive environment.
Over the past 30 years, SAP has built a comprehensive offering of software that helps companies with things like payroll, human resources, inventory management, and so on (the industry lingo for this is ERP, which stands for enterprise resource management). The company has about 33,000 customers who span 25 industries.
Management's estimate for the second quarter is for software license sales of $790 million, which was a meager increase of 8% over the past year.
License sales is a key metric for investors, because it shows how much new business SAP is generating. This new business, in turn, becomes a long-term annuity as customers pay an annual maintenance fee for the software.
Actually, analysts expected software license growth to be 15% to 16%. In other words, SAP's miss was more than a minor event. What's more, keep in mind that it has historically been quite conservative on its guidance to the Street.
The big concern: Is this miss mostly a one-time event, or does it portend a long-term problem?
Actually, there is evidence that the latter is the case. Why? A big problem is competition from Oracle (NASDAQ:ORCL). In fact, Oracle posted strong preliminary results for its second quarter. For example, its revenue is expected to have increased by 25%.
Over the past few years, Oracle's strategy has been to buy a variety of major companies in the ERP space -- spending nearly $19 billion on such acquisitions. This adds to its product offering but also means more opportunities to find cost savings. SAP, on the other hand, has eschewed acquisitions.
Interestingly enough, on the SAP conference call, CEO Henning Kagermann indicated that Oracle -- as well as Microsoft (NASDAQ:MSFT) -- snagged market share from his company (anywhere from 1% to 2%).
Something else: SAP's software is a significant financial commitment for prospective customers (the software can cost millions). With uncertainty about the global economy, customers appear to be more reluctant in making such big decisions. For instance, SAP has had a strong business in the Asia-Pacific region, but in the second quarter, there was no growth.
Another problem is the emergence of upstart companies, such as NetSuite, that are using Web-based approaches to deliver ERP applications. This has several advantages: It tends to be easier to set up, as well as upgrade over time (after all, since the application is linked to the Web, changes to the software are automatic). The software is also less expensive.
"SAP has been fairly adamant about not moving to on-demand software approaches," Zach Nelson, the CEO of NetSuite, told me in an email interview. "Most of their comments have been to say that they don't see any demand for ERP as a service. Guess they failed to notice that we grew at 5,000% over the last five years doing precisely that."
Despite the disappointing second quarter, SAP is still maintaining its overall guidance for the full year, with revenue growth in the 15% to 17% range. But with the increased competition and global economic uncertainty, maintaining its growth targets is looking more and more tenuous. After all, the company will need to generate roughly $2 billion euro of revenues for the second half of the year to meet this goal.
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Fool contributor Tom Taulli does not own shares mentioned in this article.
