Don't Celebrate Oracle's Cloud Performance Just Yet

| About: Oracle Corporation (ORCL)
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Summary

Oracle's Q2 report was full of great news, including a multi-year best in cloud services growth.

However, big name competitors Amazon, Microsoft and IBM have yet to report, meaning investors are assuming that Oracle gained market share in the quarter.

If in fact Oracle is gaining market share in the cloud, the stock could go much higher, as the industry itself remains promising long-term.

Oracle's (NYSE:ORCL) strong fiscal second-quarter performance in software appears to have been overshadowed by accelerated growth in cloud services. Specifically, Oracle's cloud software-as-a-service (SaaS), platform-as-a-service (PaaS) and infrastructure-as-a-service (laaS) revenue increased 45% to $516 million. While this accounts for just 5% of Oracle's total revenue, it is the fastest-growing segment for the company, and a highly promising one at that. However, before investors celebrate Oracle's seemingly fantastic growth in these cloud services, there's one thing they must consider.

Oracle is the first of the large cloud software service providers to announce earnings for the current quarter, therefore it is somewhat difficult to truly gauge its performance. While PaaS, laaS and SaaS sales growth have been Oracle's strongest segments during the last year, growth there has also significantly underperformed its larger competitors.

For example, during the third quarter, Synergy Research estimates that cloud infrastructure services as an industry, which includes laaS and PaaS, saw year-over-year growth of 49%. In that quarter, it surpassed $4 billion in quarterly revenue for the first time, giving it trailing 12-month revenue of $14.5 billion - this does not include SaaS. Meanwhile, Oracle's SaaS and PaaS segments grew just 32%, and laaS increased 26%. While good, Oracle's growth underperformed the broader industry and fell way behind industry leaders Amazon.com (NASDAQ:AMZN), Microsoft (NASDAQ:MSFT) and IBM Corp. (NYSE:IBM), who grew revenue an estimated 40%, 136% and 80%, respectively, in their competing businesses.

If we look back further to the first quarter of 2014, cloud infrastructure services as an industry grew 50% year-over-year, while Oracle's SaaS and PaaS segments grew 25% and its laaS expanded 13%. Notably, Amazon.com, Microsoft and IBM all grew significantly faster than Oracle, having done so in each of the last three quarters.

That said, the reason investors shouldn't get too excited about Oracle's most recent quarterly growth in the cloud is because we don't yet know how its larger competitors and the industry itself performed. Up until this point, Oracle's cloud services have grown rapidly, but not quite as fast as the industry itself, which means the company has consistently lost market share in the space.

Once Amazon.com, Microsoft and IBM report quarterly earnings, and analysts determine how each company performed in the cloud, investors can get a better idea of just how well Oracle did during its most recent quarter. If the company gained market share, as it would appear, investors might want to buy the company's prospects to become a legitimate competitor in the space.

All things considered, given the fact that Oracle's software business grew 5% and accounts for more than 75% of total revenue, you might be wondering why I am placing so much emphasis on a segment that's just 5% of the company's business. The answer to this question lies in the potential for cloud services and the valuation of these assets.

Forrester Research estimates that the public cloud market will grow from $58 billion last year to $191 billion by 2020. Last year, SaaS, PaaS and laaS accounted for about 30% of this market, but by 2020, that percentage should rise significantly, because these industries represent the fastest-growing within the public cloud space. As such, there is an enormous opportunity for companies that can gain significant market share.

That said, Amazon.com's AWS asset, which provides cloud services, controls a market-best 27% share of cloud infrastructure services, according to Synergy Research. The next closest is Microsoft at 10%.

Due to Amazon.com's enormous presence, Evercore estimates that AWS alone is worth $50 billion, mainly because of how large the business could grow in future years if Amazon holds its place atop the industry. In other words, 5% of Amazon.com's total revenue is worth 35% of its market capitalization. This shows why Oracle's performance in the cloud is so important to shareholders.

If Oracle can outperform the broader industry and steal market share from Amazon.com and Microsoft, theoretically its shares could trade significantly higher as its cloud assets become more valuable to the market. While this notion is likely responsible for some of Oracle's post-earnings stock gains, investors shouldn't be so quick to celebrate, at least not yet. If Oracle does in fact prove to outperform its main competitors, then the stock might just be a good play on future market share growth in the cloud.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.