The stock of enterprise software giant Oracle (Nasdaq:ORCL) has certainly come alive this summer, but there's more than a little skepticism about the health and durability of the company's growth. While bulls think that engineered systems and Fusion applications will reignite (or at least maintain) growth, skeptics point to Oracle's soft organic growth and threats to its basic enterprise business model. The stock seems undervalued on a cash flow basis, though, and double-digit license growth should tip the balance to the bull camp in the short term.

Discount Brokers Comparison: Your one-stop shop for finding the perfect broker for your investments.

A Mixed Start to the Fiscal Year
It seems like there was a little something for bulls and bears alike in Oracle's quarter, as although the numbers were close to in-line, there were clearly some high and low points. Revenue fell 2% as reported, but climbed about 3% in constant currency terms, a result of about 3% shy of the average of sell-side guesses. New software licenses and cloud software subscriptions was solid (up 10% in constant currency) and software license updates and support grew 8% in constant currency, both a little better than expected. However, the 21% constant currency decline in hardware revenue was a meaningful disappointment.

Oracle made up for some of this with better profits. Gross margin was solid and operating margin was better than expected. Operating income rose 7% by GAAP accounting (or 15% in constant currency), while non-GAAP operating income rose 1% as reported and net income rose 6% (non-GAAP).

SEE: How To Decode A Company's Earnings Reports

Can Fusion Lead the Way?
Oracle didn't give quite as much detail this quarter as in past periods, but it looks like Fusion is ramping up (although it's a small part of the total today). Some bulls have put a lot of eggs in this basket, seeing it as Oracle's play on another generational shift in enterprise architecture. Certainly there will be ample competition - SAP (NYSE:SAP), Salesforce.com (NYSE:CRM), IBM (NYSE:IBM) and Workday are all gunning for the same business as Oracle, and this company could definitely use a stretch of sustainable improved organic growth. At the risk of exaggeration, this could be where Oracle either retains its standing in the enterprise market or where its rivals really do some damage.

Hardware and Legal not so Good
Although Oracle's software performance was solid (despite ongoing weakness in Europe), the hardware and legal situation aren't so good for the company. Apparently the company's "Exa-appliances" are showing good growth, and hardware is not core to the company's profitability, but this inconsistent (and frankly poor) performance raises questions about management credibility and execution. That could be particularly relevant given the seemingly endless trend of software-hardware convergence - if Oracle can't do better in hardware, does that create a bigger opening for rivals like IBM?

Oracle has also seen some legal setbacks recently. Hewlett-Packard (NYSE:HPQ) won its case against Oracle over Itanium support and software development, and some believe Oracle could be on the hook for as much as $4 billion if they cannot get the decision overturned. Elsewhere, while the company may have technically won a Java patent infringement case against Google (Nasdaq:GOOG), it looks like a pretty meaningless victory with no many changing hands.

The Bottom Line
Oracle still needs to re-establish that it can grow revenue at a meaningful rate without relying on expensive deals to goose the top line. At the same time, the company's margins are quite good, and the valuation (at least from a cash flow perspective) is not very demanding. Oracle looks about 30% undervalued on the basis of 5% forward free cash flow growth, a valuation that makes the stock worth consideration for those who think the company still has some tricks left up its sleeve in the enterprise software/IT market.

At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.

Related Articles
  1. Stock Analysis

    Fortinet: A Great Play on Cybersecurity

    Discover how a healthy product mix, large-business deal growth and the boom of the cybersecurity industry are all driving Fortinet profits.
  2. Stock Analysis

    2 Catalysts Driving Intrexon to All-Time Highs

    Examine some of the main reasons for Intrexon stock tripling in price between 2014 and 2015, and consider the company's future prospects.
  3. Stock Analysis

    Net Neutrality: Pros and Cons

    The fight over net neutrality has become an amazing spectacle. But at its core, it's yet another skirmish in cable television's war to remain relevant.
  4. Charts & Patterns

    Understand How Square Works before the IPO

    Square is reported to have filed for an IPO. For interested investors wondering how the company makes money, Investopedia takes a look at its business.
  5. Technical Indicators

    4 Ways to Find a Penny Stock Worth Millions

    Thinking of trading in risky penny stocks? Use this checklist to find bargains, not scams.
  6. Professionals

    Chinese Slowdown Affects Iron Ore Market

    The Chinese economy's ongoing slowdown is having a major impact on iron ore demand.
  7. Investing Basics

    Why do Debt to Equity Ratios Vary From Industry to Industry?

    Obtain a better understanding of the debt/equity ratio, and learn why this fundamental financial metric varies significantly between industries.
  8. Entrepreneurship

    Top 10 Side Jobs You Could Start Now

    Ways to make extra cash in your spare time.
  9. Investing

    The Rise of Corporate Venture Capital

    After the success of Google Ventures, corporate venture capital is an increasingly popular diversification and hedging tool for many large corporations.
  10. Personal Finance

    A Day in the Life of an Equity Research Analyst

    What does an equity research analyst do on an everyday basis?
RELATED TERMS
  1. Equity

    The value of an asset less the value of all liabilities on that ...
  2. Profit Margin

    A category of ratios measuring profitability calculated as net ...
  3. Quarter - Q1, Q2, Q3, Q4

    A three-month period on a financial calendar that acts as a basis ...
  4. Debt Ratio

    A financial ratio that measures the extent of a company’s or ...
  5. Price-Earnings Ratio - P/E Ratio

    The Price-to-Earnings Ratio or P/E ratio is a ratio for valuing ...
  6. Net Present Value - NPV

    The difference between the present values of cash inflows and ...
RELATED FAQS
  1. What is the formula for calculating compound annual growth rate (CAGR) in Excel?

    The compound annual growth rate, or CAGR for short, measures the return on an investment over a certain period of time. Below ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. When does the fixed charge coverage ratio suggest that a company should stop borrowing ...

    Since the fixed charge coverage ratio indicates the number of times a company is capable of making its fixed charge payments ... Read Full Answer >>
  4. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  5. What is the difference between the return on total assets and an interest rate?

    Return on total assets (ROTA) represents one of the profitability metrics. It is calculated by taking a company's earnings ... Read Full Answer >>
  6. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>

You May Also Like

COMPANIES IN THIS ARTICLE
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!