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Oracle Corp. (ORCL - Analyst Report) reported earnings (including stock-based compensation of 4 cents per share) of 60 cents per share in the second quarter of 2013, which beat the Zacks Consensus Estimate by a couple of cents.

Revenue Details

Total revenue increased 3.4% year over year to $9.11 billion. Revenue was well ahead of the consensus mark and was within management’s guided range of 0.0% to 4.0% growth forecast.

The year-over-year upside in revenue was primarily driven by strong new software license sales. Software revenue climbed 10.3% year over year to $6.67 billion, primarily driven by 17.2% jump in new software license sales (beating management’s guided range of 5.0% to 15.0%) and 6.7% increase in software license update and product support revenues.

New software licenses and cloud software subscription sales were particularly strong in Americas, where revenue surged 22.0% year over year, followed by Asia Pacific, where revenue grew 13.0% year over year. Europe, Middle East & Africa revenue was up 10% year over year in the second quarter.

Cloud revenue was $230.0 million in the quarter. The company added a number of new customers in both customer relationship management (“CRM”) and human capital management (“HCM”) portfolios. These include Abercrombie & Fitch (ANF - Analyst Report), Expedia (EXPE - Analyst Report), Macy's (M - Analyst Report), T. Rowe Price (TROW - Analyst Report), United Airlines, U.S. Bancorp, Whirlpool (WHR - Analyst Report) and Xerox (XRX - Analyst Report) to name a few.

Hardware declined 16.6% year over year to $1.32 billion, primarily due to a massive 23.0% plunge in hardware systems products and 6.9% decline in hardware systems support revenue.

Hardware systems product sales declined in all the regions with Europe, Middle East & Africa down a massive 27%, followed by Americas, where revenue declined 25% year over year. Revenue declined 10.0% in the Asia-Pacific region.

Engineered systems (Exadata, Exalogic, Exalytics) continued to grow at a significant rate with more than 70% sequential growth in unit bookings. Oracle sold more than 700 engineered systems to customers that include names such as China Mobile, Facebook (FB - Analyst Report), Samsung and Time Warner Cable in the reported quarter.

Services revenue declined 4.7% year over year to $1.12 billion in the reported quarter.

Region wise, Americas (52.6% of total revenue) increased 5.6% year over year to $4.79 billion. Europe, Middle East & Africa (29.7% of total revenue) declined 2.0% year over year to $2.70 billion. Asia Pacific (17.7% of total revenue) jumped 6.8% year over year to $1.61 billion.

Operating Details

Total operating expenses remained flat from the comparable prior-year quarter at $5.03 billion. All expense items, except research & development expense (“R&D”) & sales & marketing (“S&M”), declined significantly in the quarter, reflecting stringent cost control. From the year-ago quarter, R&D and S&M expenses surged 8.8% and 4.5%, respectively. Services remained flat at $930.0 million in the reported quarter. 

Operating income (excluding one-time items of $613.0 million but including stock-based compensation expenses of $188.0 million) soared 8.1% year over year to $4.08 billion. Operating margin expanded 190 basis points (“bps”) primarily attributable to lower operating expenses.

Net income was $3.12 billion or 64 cents per share compared with $2.78 billion or 54 cents in the year-ago period. Earnings were slightly better than the company’s guided range of 59 cents to 63 cents per share.

Liquidity

Oracle exited the second quarter with cash and marketable securities of $33.70 billion compared with $31.61 billion at the end of the previous quarter. GAAP operating cash flow was $13.53 billion compared with $13.99 billion in the previous quarter.

Free cash flow of $12.82 billion ($13.37 billion in the previous quarter) was impressive providing ample liquidity to Oracle in order to pursue acquisitions, sustain dividend payments and further share repurchase. Oracle bought back 96.1 million shares for $3.0 billion in the quarter.

Guidance

For the third quarter of 2013, Oracle expects non-GAAP earnings in the range of 64 cents to 68 cents per share, which is significantly higher than the year-ago level (62 cents). Currently, the Zacks Consensus Estimate (includes stock-based compensation) is pegged at 58 cents.

Total revenue on a non-GAAP basis is expected to grow in the range of 1.0% to 5.0% (in $). New software license and cloud subscription revenue growth is expected to range from 3.0% to 13% (in $). Hardware product revenue is expected to be in the range of (10%) to flat (in $) for the upcoming quarter.

Our Take

After reporting a disappointing first quarter, Oracle bounced back in the second quarter on the back of strong new software license sales. Management’s third quarter guidance is positive on both year-over-year and sequential basis. We believe that speedy adoption of engineered systems and cloud suites will drive incremental top-line growth going ahead. Oracle’s solid product suite lends a competitive edge over rivals like International Business Machines Corp. (IBM - Analyst Report) and SAP AG (SAP - Analyst Report).

However, lower hardware volumes remain a concern in the near term. As Oracle sells higher-margin products compared to its competitors, we anticipate that a sluggish market and lower IT spending may act as a headwind to hardware volume going forward. Oracle could see integration issues due to the rapid pace of acquisitions within a short span of time.

We maintain a long-term Neutral recommendation on Oracle. Currently, Oracle has a Zacks #4 Rank (Sell).

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