The Cloud Obscures Oracle's Future

Oracle ORCL is a best-of-breed provider of on-premises relational database technologies and enterprise resource planning software. It is one of the most profitable companies in the software industry. However, growth has been lacking as more customers shift their workloads to the cloud, bypassing Oracle’s solutions. Despite Oracle’s cloud migration efforts, cloud competition is likely to provide headwinds. As a result, we have downgraded our economic moat rating to narrow from wide while maintaining our negative moat trend rating. However, we raised our fair value estimate to $53 per share from $50 as we see more organic growth potential for Oracle. This increase doesn’t factor in a partnership with TikTok, as that deal remains unfinalized.

Oracle’s business centers on its relational database, which stores a treasure trove of data that is the lifeblood of many enterprises. Oracle’s software offerings leverage this database as its back end, while Oracle’s servicing and hardware businesses support these database tasks. Oracle remains a best-of-breed provider of on-premises databases and software, and customers face very high switching costs if they look to migrate elsewhere. However, we don’t view the company as being at the forefront of recent software trends, and new and potential customers appear to be looking past Oracle for their database needs.

Database preferences are far wider today due to the sheer number of ways to manipulate data and the different data storage practices this necessitates. Oracle is losing database market share as a result of this as well as relational database substitutes that may be better suited to the cloud. Additionally, enterprises’ transition to the cloud is prompting companies to change software vendors away from all-in-one enterprise resource planning systems to those that are best-of-breed.

In response, Oracle is banking on its second-generation cloud to cater to not only its traditional enterprise workloads, like supporting databases, but also general-use workloads. However, we view its cloud as subscale to Amazon’s AMZN and others’, and we doubt Oracle can close this gap anytime soon. In our opinion, Oracle should still be successful in moving a significant amount of its traditional on-premises workloads to its cloud. However, migrating all of its customers is not such a sure thing, as cloud-first software vendors have been able to take meaningful share from legacy Oracle customers.

Despite our moat downgrade, we are more optimistic about Oracle’s ability to achieve organic growth. Oracle’s Autonomous Database is quoted as being its fastest-growing product, and this cloud database has captured a base of nontraditional customers that the company was not intentionally targeting. Moreover, we think Oracle is coming out of a period of significant acquisitions that was more temporary because of its push for a second-generation cloud and entry into small to midsize enterprises. Now, with the release of its second-generation cloud and healthy traction with its base of smaller companies, we think Oracle will be able to obtain more organic growth than we previously thought, benefiting from its past investments.