Oracle's cloud business (ORCL.US) grew 39% in the fourth quarter of fiscal 2022. The company expects this line of business to enter a hyper-growth phase, counterpointing downward revisions to other companies and other sectors.
The recent acquisition of Cerner closed after the last fiscal quarter. This gave Oracle a 25% share of the health information systems market, including the electronic medical record industry. With strong organic growth and the strategic acquisition of Cerner, Oracle has exceptional visibility. Sales growth is projected to be +20% to +22% in the coming year.
The strategic expansion of health care is timely given the near-term macroeconomic uncertainty. Being the investment in medical and health care almost completely insensitive to increases in interest rates, and even to the potential destruction of demand, due to its nature as an essential service.
Oracle (ORCL.US) showed huge upside in earnings, based on its accelerated growth rate, strategic healthcare expansion, discounted valuation and asymmetric potential return spectrum.
Visibility
Oracle's recently released fourth quarter earnings report was unusual in its upbeat outlook given the current macroeconomic uncertainty and widespread earnings disappointments at other companies. In the words of Oracle's own CEO, Safra Catz, the company's results statement talks about Oracle's visibility
“We believe this spike in revenue growth indicates that our cloud infrastructure business has now entered a hyper-growth phase. Combining a high growth rate in our cloud infrastructure business with the recently acquired Cerner applications business, and Oracle is poised to deliver stellar revenue growth in the coming quarters."
Given the uncertain economic backdrop, the company could have opted for a less optimistic tone to manage expectations lower. Confidence indicates that Oracle is strategically well positioned in the market. Recent sales trends support these words from its CEO, as supported by data published in the fourth quarter 2022 earnings report:
- Total fourth quarter revenue $11.8 billion, up 5% in USD, up 10% in constant currency
- Total cloud revenue in the fourth quarter: $2.9 billion, up 19% in USD, up 22% in constant currency
- Cloud revenue increased 36% in USD, 39% in constant currency
- Fusion ERP Cloud revenue increased 20% in USD, 23% in constant currency
- NetSuite ERP cloud revenue up 27% in USD, 30% in constant currency
Health Sector: Strategic Expansion
On the strategic growth front, Oracle appears to be making exceptional long-term capital allocation decisions. The recent acquisition of Cerner gives Oracle a 25% share of the US healthcare information systems market, which includes the electronic medical records segment. The following quote presented in Cerner's 2021 “10-K” (annual report) filed with the SEC summarizes the healthcare foothold that Oracle acquired.
“Cerner's long history of growth has created a significant strategic footprint in health care, with Cerner holding approximately a 25 percent market share of the acute care electronic health record ("EHR") market. of the US and a leading market share in several regions outside the US.”
Larry Ellison, Oracle Chairman and Chief Technology Officer, shared his vision for the healthcare opportunity on the Q4 2022 earnings conference call, stating, "It will clearly be our largest business."
It appears that the Cerner acquisition was exceptionally timely given the macroeconomic uncertainty. In addition to the fact that the healthcare industry is non-cyclical, Oracle and Cerner together offer synergistic cost reduction and efficiency opportunities needed by the healthcare industry. With profit margins facing inflationary cost pressures, Oracle's ability to diversify coupled with Cerner's healthcare expertise should provide a competitive advantage in the marketplace.
Cerner's competitors in the healthcare IT space are predominantly niche technology providers. Offering very concrete and very specific technology. The following companies described in Cerner's 2021 10-K report make up the list.
- Allscripts Healthcare Solutions, Inc.
- Epic Systems Corporation
- Arcadia Solutions, LLC
- Health Catalyst, Inc.
- Athenahealth, Inc.
- InterSystems Corporation
- Capsule Technologies, Inc.
- Innovaccer, Inc.
- Computer Programs and Systems, Inc.
- Medical Information Technology, Inc. (MEDITECH)
- eClinicalWorks, LLC
- Optum, Inc.
The competitive advantage that Oracle provides is the ability to offer a complete set of solutions with greater integration, scalability, performance and efficiency. Oracle's long and successful history at the heart of the enterprise technology industry positions it as a trusted partner. Cerner and Oracle will enable healthcare customers to reduce their internal IT expenses by reducing the number of IT vendors needed to execute their mission. Eliminating complexity alone is a powerful value proposition.
There is still the other 75% of the market available to Oracle in the US, while the global market opportunity is much larger and remains relatively untapped. As a result, there is a solid base from which to expect the healthcare market to contribute to accelerated growth for quite some time.
Cerner adds more than $13 billion of contracted backorders to Oracle's visibility, with about a third expected to be recognized as sales over the next year ($4.1 billion). Furthermore, the order book calculation is conservative in the sense that it excludes terminable contractual clauses (which are rarely exercised). If included, these contract provisions will add approximately $1.2 billion to the portion of the backlog that is expected to be recognized as revenue over the next year. The total order book, if included, is likely to exceed $17 billion. According to the 10-K of 2021 filed with the SEC.
The purchase of Cerner was reasonable, although slightly above the value of the company. With 5.8 billion dollars in sales in 2021, Oracle paid almost 5x sales or approximately 28 billion dollars. Cash flow-wise, Cerner generated $1.8 billion in 2021, leading to a purchase price of 16x its cash flow or 19x its free cash flow (cash flow minus capital expenditures).
Given the exceptional growth opportunity presented by healthcare IT modernization and the improved competitive positioning provided by Oracle, the acquisition appears to be an exceptional long-term capital allocation (investment) decision. This is especially true in a context of market averages trading between 22x and 49x net earnings of the S&P 500 and Russell 2000 respectively.
Guidance for 2023
Oracle's guidance for the current fiscal year shows its exceptional visibility. Total cloud revenue is projected to grow more than 30%, excluding currency effects and the Cerner acquisition. This would represent a material acceleration from the recently posted 22% growth in the fourth quarter of 2022. Including Cerner, cloud revenue is projected to grow between 47% and 50% year-over-year in the current quarter, excluding revenues. currency exchange effects.
Oracle projects total sales to grow in the range of 20% to 22% in the current year (including Cerner). In a generally recessionary environment, the company will report well above average growth in the short term. Above-average growth combined with exceptional visibility is an ideal match given the current market environment.
Fundamentals
Oracle trades at a deeply discounted valuation compared to the market average and to leading enterprise software companies. This strongly suggests the possibility of an asymmetric risk/reward opportunity. The bottom table, via Seeking Alpha analyst consensus, shows earnings estimates for Oracle through 2025. Estimates at the top are pre-earnings (6-12-22) release and the bottom are post-earnings release (6-15-22).
Estimates are beginning to rise. The increase in the consensus estimate since the report appears to be entirely the result of the addition of the Cerner acquisition to analyst estimates (yellow color). That is, the upward revision does not yet reflect Oracle's accelerated cloud growth, hyper-growth in its infrastructure segment, or the expanded healthcare opportunity set created by the enhanced competitive positioning of Oracle and Cerner combined.
This interpretation of the consensus estimates is confirmed by the revision in earnings estimates from the earnings release, which are shown in the following table compiled by Seeking Alpha analyst consensus.
The consensus sales estimate for 2023 has increased by $5.3 billion (yellow) and by $6.6 billion for 2025 (blue). Given that Cerner produced $5.8 billion in sales in 2021, consensus sales estimates increased by an amount that would be expected when including Cerner sales. Interestingly, Oracle's valuation is now lower based on expected 2025 sales than it was before the positive earnings report (orange). That means that the purchase has generated economies of scale!
Importantly, there is likely to remain significant potential for an upside surprise in earnings estimates in all quarters through 2025. The upward revision from the earnings release is simply the addition of Cerner, given that the acquisition just closed. Upward adjustments have not been incorporated due to the positive trends that Oracle is showing. As we saw at the outset, these include the accelerated growth of Oracle's cloud, hyper-growth in its IT infrastructure segment, and the healthcare opportunity resulting from Cerner's enhanced competitive positioning under the Oracle umbrella.
Oracle did not experience abnormal cyclicality behaviour during the current period and, therefore, has not had excessive earnings. Therefore, Oracle's growth estimates offer a much lower risk of disappointment than most, as underlying earnings offer a more accurate estimate of earnings ability in coming quarters.
Technical analysis
In addition to the fundamentals, the technical background also offers excellent visibility. Oracle's likely downside potential is well defined by what appears to be an exceptionally strong long-term support base. The red line on the weekly 5-year chart below shows the main support level to watch out for, while the 200-period moving average has been dynamic support for the last 5 years.
The 20-year monthly chart below provides an excellent overview of the underlying long-term trend.
The long-term stable uptrend is evident by looking at the top 20-year monthly chart. A linear trend line from 2003 to the present would roughly arrive at Oracle's current stock price. The stability of the trend speaks to Oracle's historical consistency and structurally enhanced visibility.
Dario Garcia, EFA
XTB Spain
