Oracle Corporation — Fiscal 2018 Second-Quarter Form 10-Q
Reporting period: Three and six months ended November 30, 2017. The filing was dated December 18, 2017. Oracle provides cloud and on-premise software, hardware, and services to more than 400,000 customers globally.
Financial performance
| Metric | Three months ended Nov. 30, 2017 | Prior year | Six months ended Nov. 30, 2017 | Prior year |
|---|---|---|---|---|
| Total revenue | $9.621 billion | $9.035 billion | $18.809 billion | $17.630 billion |
| Operating income | $3.069 billion | $3.037 billion | $5.890 billion | $5.678 billion |
| Operating margin | 31.9% | 33.6% | 31.3% | 32.2% |
| Net income | $2.233 billion | $2.032 billion | $4.442 billion | $3.864 billion |
| Diluted EPS | $0.52 | $0.48 | $1.04 | $0.92 |
| Net cash from operations | Not provided for the quarter | Not provided for the quarter | $7.416 billion | $6.961 billion |
- Revenue mix: Cloud SaaS revenue was $1.123 billion for the quarter, up from $725 million; cloud PaaS and IaaS revenue was $396 million, up from $328 million. Total cloud revenue increased to $1.519 billion from $1.053 billion.
- On-premise software revenue was $6.306 billion, compared with $6.124 billion. Hardware revenue declined to $940 million from $1.014 billion, while services revenue increased to $856 million from $844 million.
- For the first half, cloud and on-premise software revenue increased 9% on a reported basis and 7% in constant currency. Total revenue increased 7% reported and 5% in constant currency.
- Quarterly operating expenses increased 9% to $6.552 billion, including $400 million of intangible-amortization expense and $292 million of restructuring expense.
- The effective tax rate was 22.1% for the quarter and 18.5% for the first half, versus 24.3% and 23.6%, respectively, in the comparable prior-year periods.
Liquidity, cash flow, debt, and capital allocation
- At November 30, 2017, cash and cash equivalents were $21.310 billion, marketable securities were $50.270 billion, and total liquidity represented by cash, cash equivalents, and marketable securities was $71.580 billion.
- Working capital was $63.051 billion, compared with $50.337 billion at May 31, 2017. Approximately $58.5 billion of cash, cash equivalents, and marketable securities was held by foreign subsidiaries.
- Six-month operating cash flow was $7.416 billion. Investing cash outflows were $7.528 billion, including $1.072 billion of capital expenditures. Financing cash outflows were $503 million.
- Trailing-four-quarter free cash flow was $12.544 billion, down 1% from $12.645 billion; capital expenditures increased 27% to $2.037 billion.
- In November 2017, Oracle issued $10.0 billion of fixed-rate senior notes with maturities from 2023 through 2047. Total notes payable and other borrowings were $60.669 billion at November 30, 2017, versus $57.909 billion at May 31, 2017.
- Oracle repaid $7.3 billion of borrowings during the first half, including $3.5 billion of senior notes pursuant to their terms, and reported compliance with debt covenants.
- Oracle repurchased 50.9 million shares for $2.454 billion during the first half and paid $1.579 billion of dividends. The board subsequently authorized an additional $12.0 billion of repurchase capacity; approximately $2.8 billion remained available before that expansion.
Material changes versus the prior comparable period
- Cloud revenue accelerated materially, led by SaaS, while hardware revenue continued to decline as Oracle emphasized cloud-based infrastructure offerings.
- Operating margin contracted from 33.6% to 31.9% in the quarter and from 32.2% to 31.3% for the first half, primarily because cloud investment, restructuring, stock-based compensation, and amortization grew faster than revenue.
- Net income and diluted EPS increased despite lower operating-margin percentages, helped by higher revenue, higher interest income, and lower effective tax rates.
- Interest expense increased 5% for the quarter and 9% for the first half, primarily due to higher average borrowings.
- Intangible-amortization expense increased 33% for the quarter and 32% for the first half, primarily from the NetSuite and other recent acquisitions.
- Restructuring expense increased to $416 million for the first half from $185 million. The Fiscal 2017 Oracle Restructuring Plan had estimated total costs of up to $1.1 billion, with approximately $212 million remaining at November 30, 2017.
Outlook, commentary, risks, and unusual items
- Management expects continued growth in cloud SaaS, PaaS, and IaaS, continued demand for on-premise software and support, and contributions from acquisitions. Management expects the revenue mix to continue shifting toward cloud-based services.
- Oracle expects to continue significant research and development investment and acquisitions. Hardware margins are expected to remain lower than cloud and on-premise software margins, and quarterly hardware revenue is difficult to predict.
- Cloud contracts generally average approximately three years, and Oracle intends to pursue renewals. Renewal rates, customer migration decisions, competition, economic conditions, government budgets, and foreign exchange remain important variables.
- The company plans to adopt the new revenue-recognition standard, Topic 606, in the first quarter of fiscal 2019 using the full retrospective method. Oracle did not expect a material revenue impact but was continuing to evaluate the effects on revenue and contract-cost capitalization.
- Oracle faces a Hewlett-Packard litigation matter involving a $3.0 billion jury award plus post-judgment interest. Oracle appealed, has not recorded or paid the award, and stated that the resolution could materially affect future cash flows and results of operations; the potential loss range could not be reasonably estimated.
- Tax authorities are examining Oracle and acquired entities in multiple jurisdictions. Oracle believes its tax reserves are adequate, but adverse assessments could increase expense.
- The filing states that there were no material off-balance-sheet arrangements and that disclosure controls were effective as of the end of the reporting period.
Investor verification checklist
- Verify the sustainability of cloud growth and the effect of cloud expansion on operating margins and cash generation.
- Reconcile reported revenue and segment revenue, including acquisition-related deferred-revenue adjustments.
- Review total debt, upcoming maturities, interest expense, and the intended use of the November 2017 debt proceeds.
- Assess the remaining restructuring costs and whether expected cost savings offset continued cloud investment.
- Monitor the HP litigation appeal and any potential cash-flow or earnings exposure.
- Evaluate the impact of Topic 606 and other pending accounting standards, especially contract-cost capitalization and balance-sheet presentation.
- Consider foreign-subsidiary cash concentration, tax-repatriation exposure, foreign exchange effects, and ongoing tax examinations.