SAP Underperforms

SAP AG (SAP) released its earnings results for second quarter 2010, reporting earnings per share of €0.41 or 52 cents. The company’s earnings for the quarter missed the Zacks Consensus Estimate of 59 cents by 11.9%. However, the company’s earnings per share for the quarter exceed that of second quarter 2009 by 14% in local currency.
 
Revenue
 
The company reported total revenues of €2.89 billion or $3.68 billion, above the Zacks Consensus Estimate of $3.45 billion. The revenues in the quarter increased by 8% at constant currency, led by strong growth in software revenue, support revenue and double digit growth in subscription revenue. The company recorded double digit revenue growth in the emerging markets such as Latin America and Asia. Strategic markets, like US, also provided substantially good revenue growth for the company.    
 
Software and software-related revenue increased by 16% year over year to €2.26 billion. Excluding currency effects, software and software-related revenue increased by 8%.
 
Software revenue for the period was €637 million, an increase of 17%. Excluding currency effects, software revenue increased by 5%.
 
Income & Expenses
 
Operating income, representing 26.7% of revenue, increased by 21% year over year to €774 million in the quarter.  Though operating margin increased by 1.8% during the quarter, it was negatively impacted by 0.4% on account of severance expenses of €11 million. The second quarter 2010 results were not materially impacted by the restructuring expenses, which had negatively affected the 2009 results by 0.7%.
 
Profit after tax increased by 15% year over year to €491 million. The effective tax rate was 27.4% compared with 28.5% in the second quarter of 2009.
 
Balance Sheet & Cash Flow
 
Total group liquidity, including cash and cash equivalents and short-term investments amounted to €3.96 billion at the end of the quarter.
 
Operating cash decreased by 30% in comparison with the period in 2009 to €1.28 billion, due to increased collections received in 2009 of amounts due in 2008 and net cash outflows for derivative financial instruments in 2Q10. Cash flow was also negatively affected by a payment in the quarter for a lawsuit settlement, the reimbursement of which would be received in the subsequent quarters. Free Cash flow was €1.16 billion, representing a decrease of 33%.
 
Sybase Acquisition
 
The company has completed the cash tender offer for all outstanding shares of common stock of Sybase. As per the agreement, after the completion of the acquisition, Sybase will operate as a separate company. Sybase will continue to work on its core business, executing plans and product strategies around its database and information management business. The experience of Sybase in the mobile business provides good prospect for both the companies.
 
Outlook
 
The company expects its full-year 2010 non- IFRS software and software-related service revenue to be in the range of 9% to 11% on constant currency.  Non- IFRS operating margin is expected to be in the range of 30% to 31% at constant currencies. Effective tax rate is projected to be in the range of 27.5% to 28.5% (based on IFRS).
 
The company continues to derive benefit from go-to-market strategy and remains focused on it. The strategy has helped SAP to make customer-driven innovation and reach out to about 100,000 customers, thus expanding its scope of business in small and midsized enterprises (SME). The success in SME provides the company a strong base to develop its new version of on-demand platform SAP Business ByDesign.
 
Decreased software spending by US companies negatively affects SAP’s CRM, ERP and BI software. Once the economic environment improves and customers begin to invest for growth, the company remains well positioned to benefit.
 
Major competitors of SAP AG are International Business Machines Corp. (IBM), Microsoft Corporation (MSFT) and Oracle Corp. (ORCL).
 
Headquartered in Walldorf, Germany, SAP AG is one of the largest independent software vendors in the world and the leading provider of enterprise resource planning (ERP) software. Its solutions are designed to cater to the needs of organizations, ranging from small and medium businesses to large, global enterprises. SAP’s business suite solutions help clients to improve customer relationships, enhance collaboration, and improve efficiencies across their supply chains and business operations.
 
We currently maintain our Underperform rating on SAP AG, with a Zacks #2 Rank over the next one-to-three months.

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