Oracle Corp (ORCL) — Q1 2019 Earnings Call Transcript

Thank you, Victoria. Good afternoon, everyone, and welcome to Oracle's First Quarter Fiscal Year 2019 Earnings Conference Call. A copy of the press release and financial tables, which includes a GAAP to non-GAAP reconciliation and other financial information, can be viewed and downloaded from our Investor Relations website. On the call today are Chairman and Chief of Technology Officer, Larry Ellison; and CEO, Safra Catz and Mark Hurd. As a reminder, today's discussion will include forward-looking statements, including predictions, expectations, estimates, or other information that might be considered forward-looking. Throughout today's discussion, we will present some important factors relating to our business, which may affect these forward-looking statements. These forward-looking statements are also subject to risks and uncertainties that may cause actual results to differ materially from statements made today. As a result, we caution you from placing undue reliance on these forward-looking statements and we encourage you to review our most recent reports, including our 10-K and 10-Q and any applicable amendments for a complete discussion of these factors and other risks that may affect our future results or the market price of our stock. And finally, we are not obligating ourselves to revise our results or publicly release any revisions to these forward-looking statements in light of new information or future events. Before taking questions, we'll begin with a few prepared remarks. And with that, I'd like to turn the call over to Safra.

Thanks, Ken. Good afternoon, everyone. I'll first go over Q1 before moving on to my guidance. I'll then turn the call over to Larry and Mark for their comments. Once again, we had another solid quarter. Constant currency revenue growth was slightly above the midpoint of my guidance, and earnings per share was $0.03 above the midpoint of my guidance. As in prior quarters, I'll review our non-GAAP results using constant dollar growth rates because that's how we also look at the business. Total cloud services and license support revenues for the quarter were $6.6 billion, up 4% in constant currency. This accounted for 72% of total company revenue, and the bulk of it is recurring revenues. In terms of ecosystems, GAAP applications total revenues were $2.8 billion, up 7%, and GAAP platform and infrastructure total revenues were $4.7 billion, up 2%. Drilling in a little. Total cloud revenues grew in all regions, and in terms of product categories, ERP grew in the 30-plus percent; verticals grew in the 40-plus percent; and public cloud PaaS and IaaS grew in the 20-plus percent. Mark will have much more detail when he speaks. Total revenues for the quarter were $9.2 billion, up 2% from last year. Non-GAAP operating income was $3.8 billion, up 3% from last year, and the operating margin was 41%, same as last year. The non-GAAP tax rate for the quarter was 19.1%, slightly below our base rate of 20%. And our non-GAAP EPS was $0.71 in U.S. dollars and up 19% in constant currency. The GAAP tax rate was 10.8%, and GAAP EPS was $0.57 in U.S. dollars and up 16% in constant currency. Operating cash flow over the last 4 quarters was a record $15.5 billion. Over the same 4 quarters, capital expenditures were $1.6 billion, of which approximately 64% will be recognized as revenue over the next 12 months. We remain committed to creating value for our shareholders through internal investments and targeted acquisitions as well as with stock repurchases and dividends. This quarter, we repurchased 212 million shares for a total of $10 billion. Over the last 12 months, we have repurchased 440 million shares and reduced the absolute shares outstanding by over 8.5% while growing free cash flow 10%. The Board of Directors increased the authorization for share repurchases by an additional $12 billion and again declared a quarterly dividend of $0.19 per share. Now before I go to guidance, a quick comment on ASC 606, which we adopted this quarter. The estimated $86 million effect to Q1 of last year, FY '18 revenues, which we had posted on our website last quarter, ended up being $83 million instead of the $86 million, so basically about right. Turning to currency. Exchange rates have moved from a 1% headwind to now being a 2% headwind to revenue and a $0.01 to $0.02 headwind to earnings per share, depending on rounding. Now I'm not sure what it will be by the end of this quarter, so with that, the guidance. Total revenues are expected to grow from 0 to 2% in constant currency because we have a tough comparison with last year's revenue, especially license. I expect second half revenue growth will be higher. Also, we remain committed to delivering a higher revenue growth rate for all of fiscal year 2019 when compared to that of last fiscal year. Assuming current exchange rates, non-GAAP EPS for Q2 in USD is expected to grow between 11% to 15% and be between $0.77 and $0.79. And non-GAAP EPS in constant currency is expected to grow between 12% to 16% and be between $0.78 and $0.80. Once again, we expect to deliver double-digit non-GAAP EPS growth for fiscal year 2019. My EPS guidance assumes a base tax rate of 20%. However, one-time tax events could cause actual tax rates for any given quarter to vary from our base rate, but I expect that in normalizing for these one-time tax events, our tax rate will average around 20% for fiscal year 2019. And with that, I'll turn it over to Larry for his comments.

Okay. Thanks, Safra. All right. Oracle has 2 strategic products that will determine our future. Our cloud ERP product is the strategic key to our success in the SaaS applications layer of the cloud. And our autonomous cloud database is the strategic key to our success in the IaaS or infrastructure layer of the cloud. Oracle is already #1 in ERP cloud market share with over 20,000 Fusion and NetSuite customers. Customers are buying Fusion ERP to replace their existing SAP on-premise ERP systems, and customers are buying Fusion ERP to replace their existing Workday cloud ERP systems. ERP is the largest segment in the application business. Continuing our rapid growth in the cloud ERP market puts Oracle well on its way to becoming the world's largest SaaS applications company. That's our strategy and current market position in the SaaS layer of the cloud. In the IaaS or infrastructure layer of the cloud, we have the world's most popular and technically most advanced database, the Oracle Autonomous Database. The Oracle Database is so much better than other databases. Even our biggest competitors use it to run their businesses. Salesforce.com uses Oracle to run their sales automation cloud. SAP uses the Oracle Database to run their cloud services and nearly all their on-premise customers. Even Amazon uses the Oracle Database to run most of their business. Now that the Oracle Autonomous Database is running in our second-generation bare metal cloud infrastructure, customers can both lower their labor costs and cut their Amazon bill in half by running the Oracle Database on Oracle Cloud Infrastructure. The Oracle Autonomous Database automatically patches itself while running to prevent data theft. No other database can do that. We think these are compelling advantages, with the Amazon infrastructure business. We think these compelling advantages will allow us to compete very effectively against Amazon in the infrastructure business. Today, we may be behind Amazon in infrastructure market share, but we are way ahead of Amazon in cloud infrastructure technology. We think that will allow us to gain market share in infrastructure in the cloud very, very rapidly.

Thank you, Larry. I’ll share some numbers and highlight our successes in the quarter. First, regarding our apps ecosystem, 91% of our revenue over the past year is now recurring, with our GAAP apps ecosystem revenue surpassing $11 billion, reflecting a 7% increase this quarter. We are outpacing market growth and, as Larry pointed out, significant opportunities lie ahead. Almost two-thirds of our applications support revenue from Oracle comes from ERP or HCM, and many on-premise customers are just beginning their transition to the cloud. I anticipate our apps ecosystem will grow at around double-digit rates this year. In SaaS, Safra provided some figures, and I’ll add a few more. The annualized revenue from our ERP and HCM combined now exceeds $2.5 billion. Fusion ERP revenue grew organically by 40%. NetSuite ERP had an outstanding quarter, with a 26% increase in revenue and nearly 40% growth in bookings. This follows a bookings surge of about 70% for NetSuite in Q4. Our verticals saw a 41% revenue increase, yielding an annualized total of $800 million. On the tech side, our GAAP revenue now exceeds $21 billion over the last year, with a 2% growth this quarter. The bring-your-own-license model continues to perform well, with new database license and support revenue increasing in the mid-single digits. Now, I'll touch on a few customer wins this quarter, starting with ERP. We had a notable win with Academy Sports in North America; Airbnb adopted ERP, which replaces their Workday Financials; TOMS, a retailer, also chose both ERP and HCM as a bundled solution; Legg Mason, an investment adviser, switched to us from Workday Financials for ERP. FedEx, a long-time Oracle user, transitioned to standardizing all ERP operations on Oracle Fusion ERP following their acquisition of TNT, a former SAP user, and also acquired payroll services from us despite being a Workday HCM customer. This transaction is significant as it involves replacing SAP while migrating from an existing Oracle client. Other customers include the city of Sunnyvale, Equity Bank in Europe, and the Federal Home Loan Mortgage Corporation, which also chose our ERP. Highmark Health and Noble Corporation, a large oil and gas firm, represent our wins this quarter; Santander is moving parts of their consumer business to Oracle ERP; Saudi Telecom is now an ERP and HCM client; the state of Nebraska and TIAA, another investment firm, also opted for our ERP. In terms of HCM, VITAS Hospice Healthcare purchased ERP and made a significant HCM investment this quarter; notable customers include Canon, Allnex from Europe, and Fortive. Marriott accounted for one of the largest HCM deals we've ever executed. Moreover, Supply Chain Management is becoming increasingly important for us, with key customers including Prospect Medical, Rotary International, and Beckman Coulter, now moving to our cloud-based SCM solutions. Notably, once clients adopt our ERP Financials, the potential for upselling HCM and supply chain management becomes considerable. To conclude, in terms of infrastructure wins this quarter, we secured clients such as AIG, Emerson Electric, Hermes Parcelnet, and others. I’d also like to highlight a few significant ISVs: FICO, Seiko, and HighJump. Each of these companies will leverage our PaaS platform to enhance their market offerings. Overall, as reflected in our achievements, our SaaS pipeline has reached record levels, with ERP leading the way, and NetSuite's performance has been particularly strong. Our PaaS pipeline is also at its highest level yet. This quarter has been solid for us, and I expect revenue growth to be stronger in the second half of the year compared to last year, with double-digit earnings per share growth anticipated for the year. Now, I’ll hand it back to Ken, and we will take your questions.

Thanks, Mark. Victoria, if you would please instruct the audience on the questions, we'll go ahead and get started with the Q&A portion of the call.

I just have a question for Mark regarding the applications business. Obviously, you spent a lot of time outlining some of the wins this quarter. Can you just unpack maybe a little bit more of your confidence in terms of the business heading into the rest of the year? I'm just kind of curious how much of that comes from maybe some of your existing customers finally moving onto the cloud in terms of the ERP and maybe HCM areas and just your confidence that the improvement in NetSuite you saw this quarter is sustainable as we go forward from here.

Thanks, Kirk. I feel I've expressed a strong level of confidence in our apps business. The performance of NetSuite truly represents a combination of the best aspects of both NetSuite and Oracle. The management team at NetSuite has excelled, leading to reduced attrition. We've also enhanced the NetSuite sales force through our conventional recruitment and college hiring, and they have successfully integrated new team members, making them productive. This might have been challenging for a public company due to the pressures of short-term earnings expectations. We've invested in their R&D and sales efforts, which has proven beneficial. In Q4, our bookings were outstanding, which is reflected in Q1 revenue growth. Their Q1 bookings exceeded my expectations. With consistent bookings growth, we can accurately project our annual revenue, and I anticipate a significant increase in revenue growth compared to last year, expected to be around 7 to 10 percentage points. Referring to the traditional Oracle and Fusion business, I can share a diverse range of customer successes. We are also seeing progress in supply chain initiatives alongside advancements in manufacturing. Notably, many competitors in the ERP on-premise space are not well-positioned to transition their customers to the cloud. Thus, my confidence in the apps ecosystem remains high. A significant 91% of our revenue is recurring, enhancing our accuracy in predicting pipeline and conversion rates. The morale among our team is strong. They are determined to win every deal, and this technology-driven approach gives us the confidence to compete effectively. In summary, my confidence is very high, and this is reflected in our pipeline and results.

Mark, Kirk asked about the apps ecosystem, and you're clearly bullish on that. But can you talk to us a little bit about some of the bookings trends you're seeing in the overall tech ecosystem? And then as a follow-up, Mark, I'd really appreciate it if you could let me know what's going on with Thomas Kurian and provide us with some sort of an update. That would be greatly appreciated.

I understand the second question was about bookings trends. To clarify, in our next-generation PaaS infrastructure business, we're seeing a mid-twenties growth rate in bookings. It's still early, but the short-term results are very encouraging. The movement of ISVs is a key indicator, and their interest in transitioning to what Larry described as our Oracle Cloud Infrastructure is a positive sign. ISVs are quite discerning, and their enthusiasm is a strong indicator of our future with OCI. No one can match our capabilities with the Oracle Database on OCI, as Larry highlighted. Regarding SaaS bookings growth, our overall cloud bookings for the quarter accelerated, which is a good sign for our total bookings growth. I'm focused on long-term revenue, as I believe that is the true indicator of our progress. While bookings were a helpful gauge before we had revenue, it's important to concentrate on actual revenue, as bookings are meaningless if they don’t convert. We're also monitoring our renewal rates, which we believe are improving moving forward. The combination of rising bookings and renewals enhances our revenue outlook. As for Thomas Kurian, he’s a dedicated individual who works hard. He is currently taking a break, and we expect him back soon.

I've got one for Larry and a quick follow-up for Safra. Larry, with the introduction of the autonomous database, you've committed to a more accelerated innovation cycle. And you now have the next major database version 19c just around the corner? How do you envision the newer cadence impacting customer adoption patterns and ultimately, the purchasing cycle?

People are transitioning to cloud infrastructure, and it's still in the early stages. There are two main developments. We are rolling out our technology in the cloud before offering it on-premise, which makes it easier to deliver our cloud product to a broad audience for developing new applications and migrating existing ones. Many customers are now testing a data warehouse solution, and we have made an OLTP system available with the autonomous database, which they are currently trying out in the cloud. We've received very positive feedback, with some users expressing surprise. A notable example is a customer who was using Exadata on-premise, which is the fastest system for running the Oracle Database. After moving to the Oracle Autonomous Database Cloud, which also runs on Exadata in the cloud, they experienced a performance increase of five times. This improvement is due to machine learning tuning for the autonomous database, which surpasses human optimization, and the customer was taken aback. As a result, they are transferring more workloads to the Oracle Cloud. We believe that our ability to implement upgrades quickly will boost adoption rates, although it's important to acknowledge that we are still in the early stages. We have tens of thousands of database customers, many of whom are now moving their initial workloads to the cloud. Once they complete this transition, we anticipate a swift migration of additional workloads from on-premise to the Oracle Cloud.

Just to add numbers to Larry's point, I mean, if you looked at the quarter, I said we had mid-single digits growth in database, license and database support. The real driver of that was the options that come along with the autonomous database. So multi-tenant Active Data Guard and RAC were really the leading drivers of that growth.

I would like to follow up on what Mark mentioned. Customers are bringing their own database licenses to the cloud. What we are observing is that they want to utilize the autonomous database in the cloud. The autonomous database needs the multi-tenancy option and the real application clustering option. They are testing it and experiencing excellent performance and outstanding availability. Then, they negotiate a license deal to acquire the components they need, such as multi-tenancy and Real Application Clusters, before transitioning their entire license from on-premise to the cloud. We believe that most of our database cloud customers will take their existing on-premise licenses, enhance them with specific new features required for the autonomous database, and then purchase the cloud infrastructure while using their own licenses.

Just quickly for Safra. We continue to see you express a strong opinion on the value of your stock, buying back $10 billion worth of shares this quarter and the additional authorization as well. How should we think about the rate and pace of buybacks versus other uses of cash going forward?

We think our stock is an unbelievable buy, so we are buying it back. And I'm not going to tell you exactly how much, but you can see I've got $20 billion in authorization, which I'll use up when I use it. But at these prices with our growing cash flows, with our earnings growing like they are, it seems like an amazing deal to buy our stocks, so we're putting our money where our mouth is, frankly.

My question is for Safra. Safra, cash flow increased last year for the first time in several years. I have two questions regarding cash flow. First, this quarter, operating cash flow saw a slight increase while free cash flow remained unchanged. Was there anything impacting cash flow this quarter compared to a year ago? And then I’ll let you answer that first.

Certainly, let's address this one step at a time. Operating cash flow reached a record high for both the latest twelve months and the quarter. There are a few factors that may not be visible to you, such as the tax deductions we receive when our employees exercise their options. Compared to last year, there was over a $300 million difference, resulting in less benefit from that. Additionally, with lower tax rates, the value of those deductions has decreased. Therefore, I anticipate that you'll continue to see an increase in operating cash flows and overall cash flows, as our business is currently growing. While there may be some seasonality in the working capital line, particularly during events like tax payments, overall, the trend should show upward movement.

That's my second question. So you answered it.

I had a question, Safra, for you given Mark had great comments to say about the cloud business. But I'm wondering, is it safe to assume that the software support revenue is continuing to grow? And then my follow-up question is also if you could share any color on trends that you've seen in short-term deferred revenue in the quarter.

Okay. So yes, you should assume that support is growing. Our base continues to grow. And as far as short-term deferred revenue was, let's see, about $10.35 billion, and the reality is that gross deferred was up about 4%. We netted down quite a bit in the quarter for uncollected invoices. So invoices that had been sent out mostly for Q4 bookings and things like that, which are as yet uncollected, we net down. Other folks don't net down. And so that's our short-term deferred revenue, going great.

One thing on support, Heather, just to clarify, there are multiple developments within support. Database support is growing nicely, and our renewal rates are slightly increasing. As you know, these rates are already very high, but this quarter we saw a small uptick similar to what we experienced in apps. However, app support revenue is declining and will continue to decline as part of our strategy to transition customers to the cloud and SaaS. So when you ask that question, I want to ensure there's no misunderstanding. For anyone expecting every line of support to grow, we're actually working against that.

No, no, I just meant the net of it, like the database support you said is growing rather nicely. Apps is declining but the net of it is that total...

That statement's true. I just want to make sure you know that we're seeing an incline. If you look at our renewal rates, it's important to note that a greater percentage of cancellations is shifting to our cloud services. Consequently, our net cancellation rate in apps is actually declining, and this trend is driven by the transition to our cloud. I'm glad you understand that, and I just wanted to clarify to avoid any misconceptions.

Mark, you highlighted mid-single-digit growth in database license and support. Just a competitive question for both you and Larry here. What are you seeing just in the competitive environment, in database in particular, because we obviously get questions about NoSQL players and what ACID compliance means there with some of them achieving that. And then you have cloud vendors as well such as Amazon with them announcing bringing RDS on-premise. So just competitive environment there, that would be great.

We believe we have a significant technological advantage. There may be reasons to choose a database that isn't as strong, such as being committed to the Amazon Cloud and utilizing their offerings, including Redshift and Aurora, which is our MySQL database. Some users opt for whatever Amazon provides, similar to how many previously chose Microsoft databases simply due to their availability with Windows. We acknowledge that we are not the only database option. However, when it comes to technology, if you're seeking the highest performance, reliability, security, and cost-effectiveness, Oracle Database stands out. The reason our database is more affordable than Amazon's is that while both charge per minute, if we can accomplish more within that time frame, our costs effectively drop. Thus, while many may choose Amazon's services as part of their cloud infrastructure, anyone actually seeking the best database for reliability, ease of use, and cost will select Oracle.

Yes, Phil, to summarize, if you're experiencing mid-single-digit growth and you have half of the market share with the market growing at 3%, we must have gained a point in market share. It's clear from all the points we’ve discussed and the various names mentioned, as well as the technical insights provided by Larry, that the evidence shows we've gained share over the last year and the past two years of rolling quarters.

Michael Turits. Mark, question for you on the vertical markets. How are they doing? And how are we doing in terms of moving those vertical applications to cloud? And how do you expect that to impact the cloud growth rate?

I believe the vertical businesses are continuing to perform well. I mentioned earlier that their growth in SaaS exceeded 40% for the quarter, which is a positive figure. Additionally, their SaaS revenue has now surpassed their license revenue. In terms of transitioning applications, they have done a commendable job. Within their license business, there is an opportunity for us to host some of that work on our OCI cloud. As noted before, they are one of the largest independent software vendors globally from an applications standpoint and serve as an excellent case study for running applications on OCI. They are in the process of migrating to OCI, our next-generation cloud infrastructure, and that transition is going smoothly. Therefore, with the combination of the SaaS growth at 40% and the migration of some applications to OCI, both are progressing well. Our verticals are expanding, and their license business still provides us the chance to enhance support for our vertical markets, overall indicating a healthy situation. I hope that clarifies things.

Thank you, Mark. And a telephonic replay of this conference call will be available for 24 hours. Dial-in information can be found in the press release issued earlier today. Please call the Investor Relations department with any follow-up questions from this call, we look forward to speaking with you. Thank you for joining us today. With that, I'll turn the call back to Victoria for closing.