Success Factors, Inc (SFSF), a SAAS (Software as a Service) provider of workforce performance management solutions is discovering that cloud services can also lose steam in a weak economic environment. While on the face of it, a 30% revenue growth rate is impressive, investors will not be pleased with another quarter of operating losses.

Revenue Growth Is Slowing Down Pushing Operating Break-Even Further Down The Road

Nearly thirty companies have joined forces to form a new European Software-as-a-Service (SaaS) and cloud computing services business community, called EuroCloud.

The purpose of this new group is to bring together Euro-based SaaS and cloud computing vendors, enablers, integrators and industry experts to share best practices and promote new business opportunities across the continent.

• Goldman upgraded Posco (PKX) to buy and added them to their conviction buy list. They also increased their target price to $150.

• Lazard upgraded Dryships (DRYS) from a hold to a buy.

• Meredith Whitney downgrades shares of Goldman Sachs (GS) from buy to neutral with a $186 price target.

• Goldman Sachs downgrades Meredith Whitney after her 15 minutes of fame run out.

• Deutsche Bank initiates coverage on Citibank (C) with a buy and a $5.50 price target.

• Credit Suisse upgrade credit card companies Visa (V) and Mastercard (MA) from neutral to outperform. They clearly feel better about consumer spending.

• Some big money is flowing into call options of Costco (COST):

COST – Costco Wholesale Corp. – Shares of the merchandise warehouse operator rose nearly 1.5% during the trading session to $58.77. A chunk of calls purchased in the front-month today indicates some investors expect continued upward movement in shares by expiration this Friday. Approximately 8,000 calls were purchased at the October 60 strike for 15 cents apiece. Shares of COST must increase at least 2% to $60.15 for investors to amass profits.

As merger Monday approaches I thought it would be fitting to look for some potential small cap takeovers in technology, where M&A has been hot recently, and the probability for deals is very high considering 11 of the top technology firms (Cisco (CSCO), Hewlett Packard (HPQ), EMC, Google (GOOG), Microsoft (MSFT), Qualcomm (QCOM), Apple (AAPL), IBM, etc.) have a combined $260 billion for a shopping spree.

The first stage of the recovery for these firms was done via cost-cutting initiatives, but as demand still lags the pace of recent years these companies will look to acquisitions for growth, as organic growth options are minimal, and also make acquisitions to optimize operational practices.

A combination of work, travel and summertime distractions have prevented me from commenting on a series of small, yet significant announcements and activities over the past couple of weeks in the Software-as-a-Service (SaaS) and cloud computing market.

My latest travels started last week at Pacific Crest’s 11th Annual Technology Leadership Forum in Vail, CO, where I met with a series of the investment firm’s ‘buy-side’ clients as a part of its Mosaic program, and interacted with a variety of cloud computing executives and VCs in a SaaS workshop.

Q2 2009 Earnings Call

July 27, 2009; 5:00 pm ET

Q1 2009 Earnings Call

April 30, 2009 5:00 pm ET

On-Demand Index spiked even higher than the jubilant market yesterday gaining 8.43%. With yesterday’s gain the On-Demand Index moved into a positive territory for YTD (year-to-date) returns just as it did for two days last week. The index has matched the broader S&P Software Index with a 3.88% YTD.

On Tuesday, we saw how the SaaS sector is doing well, with RightNow (RNOW) achieving profitability and Omniture (OMTR) going strong. In this post, we’ll analyze the results of SuccessFactors and Concur.

On Monday, SuccessFactors (NASDAQ: SFSF), a leading SaaS company for performance and talent management solutions, reported strong Q4 and fiscal 2008 results that beat estimates and its own guidance.

Q4 2008 Earnings Call

February 9, 2009 5:00 pm ET

At the end of each trading week, Hillbent scans the market for extremely oversold stocks with a proprietary "A" (strongest) or "B" (next strongest) ranking in terms of positive fundamentals and revenue and earnings stability. The generated results is better known as the "Weekly Babies With Bathwater" watchlist.

Past observations have revealed that such candidates may experience reversal corrections to the upside once the market reconfirms that their fundamentals remain solidly intact. (The purpose of this list is not to provide specific recommendations, but instead serve as a starting point for investment ideas as the upcoming trading week unfolds.)

The SaaS sector has been relatively unaffected by the weak economy. Since the SaaS business model helps cut costs, business has been good, with most companies beating estimates quarter after quarter. However, the stock prices have taken a beating in the later half of the year. This presents a great opportunity for the stronger players to consolidate and investors looking for a bargain to buy. Let’s take a look at which companies should best be able to withstand the recession.

Salesforce.com (NYSE: CRM), the leader in the SaaS sector, is at the top of my Top Eight SaaS Stocks list. With more than $800 million in cash, it is a hot favorite for playing the role of consolidator. Salesforce recently initiated revenue guidance between $1.35 and $1.36 billion for FY2010. But even though the company has turned in a strong performance quarter after quarter, its stock has fallen about 50% over the year and is trading around $30 with market cap of about $4 billion. Analysts anticipate a slowdown; I anticipate an acquisition spree in 2009.

One of the most frustrating things about working as a private equity investor is being structurally committed to a “long-only” outlook. To be successful in any market, it is equally important to understand both the trends that will make you money and those that will lose you money. However, investors working in private equity – and most mutual funds – can only profit from the former. In my opinion, this is one of the larger challenges to the long-term success for each of these industries.

Restrictions on capital flexibility limit intelligent investors’ ability to generate profit (and preserve capital). For example, even if a great investor like Bill Miller had been prescient enough to foresee the entire financial crisis ahead of time, the best strategy he could implement would be to sell off his entire portfolio and move into cash equivalents. His returns would be market-beating, but they wouldn’t even exceed those of his checking account.

The current downturn has given rise to numerous pieces of fundamentally good analysis on software company valuations that use software maintenance payments as a basis for valuing a business. Comments like “this company sells at only 2X or 3X its maintenance revenue stream” have popped up in numerous conversations with tech investors and sell side analysts. In fact, in better times, comments like these would send most investors to the trading desk. Software maintenance are the fees that software users pay to enterprise software providers to keep their products current, get enhancements, bug fixes and obtain all kinds of support. That is the theory.

In the real world, the actual maintenance arrangements are typically a lot more complex and involve numerous terms and conditions, price increase clauses and caps, differentiation between renewable and perpetual contracts and many more highly-legalese terms designed in some cases to protect the users and in others to insure that the enterprise software vendors do not go out of business. Part of the reality is also that many software vendors treat maintenance as a right to collect 15-20% of the current list price of their product every year and in advance, but in return forget to actually provide many enhancements or quality support. In good economic times, users tend not to bother with this issue too much. Thus, most investors tend to feel that the maintenance payments are a safe bet - sort of a high-margin economic “sacred cow” in technology.

Every month, Trip Chowdhry, the one-man band who covers all things tech under the moniker Global Equities Research, writes a piece he calls Silicon Scoop on current trends and gossip from the Valley. It’s always a good read, but this time around it is especially full of eye-opening predictions, many of them seriously distressing. It reads like Nostradamus has decided to cover the tech business. There’s so much here, it’s hard to know where to start. Anyway, in no particular order, here are some of Trip’s current prognostications:

• Almost every Silicon Valley company is facing deteriorating business conditions and will cut their workforce by 3%-10% by year end.
• Project cancellations are accelerating in almost every vertical, including financial services, retail, transportation and public sector.
• “Many startups are starting to fold.” He contends that “almost every” VC funded open-source company is struggling and will run out of funds within the next 6 months. He also says that “many VC funded Web 2.0 companies are shutting down…the Web 2.0 fad is now coming to an end.” He has a similarly dark view on the prospects for software as a service start-ups.
• He thinks the death of many start-ups will be trouble for Google (GOOG), which he says gets 7% of AdWords related revenue from start-up companies.
• He also sees a coming glut of used hardware arriving on the market early next year, selling at 20%-25% of original prices, and depressing the market for computing and networking gear. He thinks that IBM, Hewlett-Packard (HPQ), Cisco (CSCO) and Juniper(JNPR) in particular are vulnerable to this phenomenon, and could soon find themselves competing with their own used hardware.
• “Every enterprise software company,” including Microsoft (MSFT), Oracle (ORCL), SAP, CA, BMC and Sybase (SY), is negotiating lower prices on maintenance contracts.
• Indian outsourcing companies, including Infosys (INFY), Satyam (SAY) Cognizant (CTSH) and Wipro (WIT) are seeing project pipelines “drying up.” He contends “there is not enough work to keep employees busy.”
• He says Sohu (SOHU), Baidu (BIDU), Netease (NTES) and Sina (SINA)are struggling to maintain top-line growth, as multinationals cut back their online marketing campaigns in China.
• Web browsers are growing in importance; he thinks Oracle (ORCL)and IBM will offer their own browsers within 12 months.
• Motorola (MOT) could get a lifeline in the form of equity investments from Microsoft and possibly Google (GOOG) in return for supporting the Windows Mobile and Android mobile phone platforms.
• First-generation SAAS companies - NetSuite (N),  Kenexa (KNXA), RightNow (RNOW), Salesforce.com (CRM),  Rackspace (RAX), SuccessFactors (SFSF), DemandTec (DMAN)- “continue to struggle and probably will not see any recovery in their business, irrespective of the economy.”
• Salesforce.com’s business “continues to deteriorate, the best is over, the worse is still to come.” He writes that one of his contacts describes the company as “a modern day Visi-Calc.”
• Cisco is feeling pressure from Microsoft and Arista Networks; he expects layoffs at Cisco of 5%-10% by year end.
• VMware (VMW) he says, is seeing business deteriorate. He expects 10% layoffs by year end.
• Apple (AAPL) he says, is going to start selling iPhones via Costco (COST) at $149 starting in January.

A grim world view, to be sure. You can pick nits with some of it - Salesforce.com as VisiCalc seems a little harsh, and I dunno about $149 iPhones from Costco - but directionally, it feels like he’s getting it right. We’ve got some dark months ahead.

On sector, that I feel is relatively recession-proof is Software as a Service (SaaS). My list of top SaaS stocks is available here. SaaS companies help businesses cut costs, which is why they should thrive in this weak economy. Let us review the performance of some SaaS companies that have recently reported results, namely SuccessFactors, RightNow, Omniture and Citrix. As you will see, they continue to be strong, solid growth companies.

On November 3, SuccessFactors, Inc. (NASDAQ:SFSF), a leading SaaS company for performance and talent management solutions, reported a strong third quarter. Revenue grew 77% y-o-y and 16% q-o-q to $29.7 million. Net loss was $0.37 per share. Non-GAAP loss per share was$0.33.

Market Analysis Commentary:  Relative Price Volume Momentum Tracks scans the Russell 3000 components for stocks that are moving up or down on relatively strong surging volume. Such stocks may signal institutional buying or selling and have a tendency to continue further in their current market direction. From a contrarian perspective, buying and selling on extreme volume also has a tendency to produce short term reversals of a stock’s market direction on the following day of trading.

Moving Up on Surging Volume

Q3 2008 Earnings Call Transcript

November 3, 2008, 5:00 pm ET