Analysts Question Oracles Surround SAP Strategy

Powering the stellar fourth quarter numbers Oracle announced yesterday—total revenues up 17 percent to 5.8 billion, beating the Street estimate of $5.6 billion—is an acquisition strategy that seems, on the surface at least, to be growing revenue and successfully making inroads into SAPs customer base.

During the earnings call yesterday, Oracles CEO Larry Ellison outlined his companys "Surround SAP" strategy, which has seen Oracle acquire about 30 companies in the last three years, including PeopleSoft in 2005. That buy saw Oracle become the second largest application provider, bested only by SAP, which they vowed to best with third-party applications and middleware sales.

But several financial analysts question Oracles strategy to grow its applications business minus input from acquisitions. And while the companys fourth quarter revenues appear to be proving out Ellisons tactics, a closer examination points to a slightly different story.

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"Application license sales fell short of both our and consensus expectations," wrote Bernstein Research analyst Charles Di Bona in a June 27 research note. "Application license revenue of $726 million was a hair below our $727 million estimate and below consensus of $736 million.

"We continue to have concerns about the organic growth rates of Oracles core business absent ongoing acquisitions and about Oracles necessary reliance on acquisitions to meet its stated EPS [earnings per share] goals, even as we are increasingly comfortable with managements ability to integrate the operations of such acquisitions," wrote Di Bona.

Di Bona notes that while application revenue grew 13.3 percent, the rate drops significantly to 5.5 percent if benefits from currency exchange rates and $26 million in revenue from Hyperion, which Oracle acquired in April, are removed from consideration. He suggests that Oracles true growth rate in its applications business hovers somewhere less than 5.2 per-cent year-over-year.

Oracle is selling more applications by acquiring best-of-breed vendors, Di Bona said, but the company doesnt include the costs associated with those acquisitions in its earnings calculations.

Surround SAP

Ellison assured investors and analysts participating in the earnings call that the company will continue with its acquisition strategy—effectively beefing up its "Surround SAP" strategy with vertically aligned applications company purchases. The goal really is to surround SAPs existing customers with add-on applications that Oracle has acquired—transportation management, product lifecycle management or sales force management, for example —to get a foothold in SAP shops and sell more apps along with the middleware necessary to glue them all together.

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Ellison and Phillips conceded that SAP customers would not in fact rip and replace their existing ERP (enterprise resource planning) implementations ("that would be unreasonable," Ellison said). Rather their thinking is that SAP customers are enticed to develop a two-vendor strategy.

"Customers are going to a two-vendor strategy and relying on Oracle, not SAP, to make all the pieces work together," said Ellison. "Thats absolutely key to us, to our middleware strategy. Were seeing [SAP customers] chose our middleware versus [SAPs middleware platform] NetWeaver to link all the pieces together. We form very good relationships and now are able to sell new applications to customers that wouldnt talk to us about new apps."

Phillips concurred, saying that its plan to surround SAP is working "beautifully," but is still nascent. "Early on there was still a little nervousness when we first started buying [companies]," he said. "Its in our interest to coexist [with SAP]. Its not realistic if you spent a billion dollars to put [ERP] in, to rip it out."

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