Oracle had a very interesting Q4 earnings release, which initially triggered a stock price increase during after-hours trading, only to be followed by a very steep decline after the earnings call. So, what happened?
Change in Financial Reporting
Oracle previously reported detailed revenue numbers for its cloud businesses of SaaS, and IaaS and PaaS combined, along with separate line items for new on-premise software licenses, and software support. This provided a clear snapshot of how Oracle was performing in its traditional license and support model, as well as the progress it was making in cloud revenues in both applications/infrastructure and platform.
Oracle has now combined cloud services and license support as a single line item, and cloud license and on-premise license as another line item. The rationale provided for this change is that with BYOL (Bring Your Own License) customers can purchase licenses that can be used for either on-prem or in the cloud, so the traditional way of reporting was no longer accurate. Therefore, reporting licenses as a single line item, whether it is on-prem or cloud, is a more accurate depiction of Oracle’s one-time license revenue for the quarter — and reporting cloud services and support as a single line item is a more accurate depiction of its recurring revenue streams.
In theory, there is some logic to the reporting change in separating one-time revenue from recurring revenue. However, the timing of this change is very odd, and it does present an opportunity for Oracle to hide its cloud performance. This is important as Oracle has restructured its business to become a cloud company and many analysts believe Oracle had been late to the cloud and is far behind its competition.
BYOL (Bring Your Own License)
Oracle launched BYOL just 6 months ago in Q2. This model was designed to encourage customers to buy licenses to address their immediate requirements by providing them the flexibility to deploy those licenses on-premise and migrate them to the cloud when they are ready to do so. The concern was that customers were in a holding pattern trying to figure out their cloud migration strategy, and in the meantime, they were not purchasing licenses to meet today’s needs out of fear of buying on-prem licenses that would be worthless in a few years when they eventually migrate to the cloud.
From what we have seen, customers have used BYOL in Oracle’s technology stack, meaning their database and related products. Customers can have some of their environments running in Oracle’s cloud, such as test and development or production, for net new workstreams. Technology licenses are required whether they are deployed on-prem or in the cloud. Contrast this with applications, where customers are either buying cloud services to deploy net new workloads or are purchasing on-prem licenses to account for growth or to expand their capabilities. We have not seen customers purchase cloud application services (SaaS) that overlap with their on-premise application licenses, but this may happen as part of the transition when customers begin to migrate their on-premise Oracle applications to Oracle’s cloud services.
Making this financial reporting change at the end of a fiscal year, as opposed to the first quarter of the next fiscal year, is rather odd. It would have been cleaner for Oracle to maintain their prior reporting structure and announce during the Q4 earnings call the change in financial reporting beginning in FY ’19. While Oracle provided some plausible rationale for the change, the odd timing leads one to speculate as to other reasons that could be driving the change.
One big reason would be to obfuscate cloud growth. Through the past year’s earnings calls, Oracle, and Mark Hurd in particular, has bragged about the record size of their sales pipeline, how they are the only provider with a complete cloud ERP solution, and how they have restructured the compensation of the executive and sales teams to boost cloud sales. With those type of proclamations come higher expectations. Failing to meet those expectations results in a stock price decline and a momentum killer internally, which will also bleed out into the market and customer base.
Oracle did announce during the earnings call that cloud revenue was $1.7B for the quarter, but failed to break that out between SaaS and the combined IaaS and PaaS, as was previously reported. Also, with BYOL, it is impossible to know if customers are using those licenses in the cloud or on-prem, thereby obfuscating their cloud performance, which is now the number one factor in determining Oracle’s success against its peers. Oracle is claiming customers are deploying BYOL licenses in the cloud immediately, or have plans to do so in the near future, but it is impossible to know for sure.
Even though Oracle still took a significant stock price hit with their Q4 earnings release, it is impossible to be 100% certain that it was due to poor cloud performance or future guidance falling below expectations. If Oracle can continue to demonstrate top-line growth throughout FY’19, momentum should return along with the stock price.
Oracle now has plausible deniability regarding cloud performance resulting from BYOL. Analysts cannot challenge Oracle when they say that customers are deploying the new licenses in the cloud or have plans to do so in the near future, and Oracle is able to buy some time with the new reporting metrics to achieve top line and margin growth as a means of demonstrating the success of Oracle’s cloud strategy and business performance.
Worth noting is that over the past 12 months Oracle has repurchased 238 million shares at a total of $11.5B, which has reduced the outstanding shares by more than 20%, according to Safra Catz. Yet even with this substantially large repurchase, the stock price declined significantly. This sounds similar to IBM a few years ago.
While Oracle remains a very strong performer and has an enormous customer base and a tremendous amount of resources, they are showing some potential cracks in the armor. In my next blog, I will attempt to provide some insight as to what might be happening with Oracle based on what we have seen and heard from Oracle customers.
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