Oracle’s disappointing 2QFY12 results, delivered just before Christmas, sent shockwaves through a tech tape that had been riding fairly high in the weeks prior. 3Q11 numbers had been generally positive, with a string of beats from the major enterprise IT vendors, with IBM’s strong quarter a bellwether for the sector. Even companies with fiscal years askew to include October in the quarter – e.g. Cisco, HP, Dell, NetApp, and Brocade – showed up with good results for the period (Exhibit 1). Generally, these companies suggested that IT spending was holding up, despite ongoing global economic distress, and although most managements cautioned that their vision of future business was unusually murky, guidance for deceleration in YoY sales was taken as conservatism.
Oracle’s numbers, a month later and including November, have changed this perspective, despite guidance that includes a fairly sharp reacceleration of sales growth into 2012. Oracle is a big, global company with its tentacles into most elements of the enterprise IT market, and without significant exposure to consumer demand. Poor November results are difficult to pin on category specific issues – i.e. floods in Thailand disrupted hard disk shipments which killed PC sales – or company specific excuses – although management was quick to put the blame on its sales managers. Oracle missed in software and it missed in hardware. It missed in data bases and it missed in applications. It missed in Europe, Asia and the US. Oracle reports that its projects are being delayed because approvals are being referred further up the chain to customer CEOs. Despite Oracle’s bravado, this is NOT a good thing for future sales.
The pathology of this sort of quarterly miss works something like this: Company sales projections are built bottom up from the individual forecasts of its salesforce. Sales people predict what sales they can close in what timeframe, based on their experience and checked by the typically greater experience of their managers, who like to keep a bit of fudge factor in the numbers to reduce the risk of disappointment. When a big diverse company like Oracle misses its sales target, it is usually because a) it missed its mark with a new product; b) an unforeseeable exogenous shock – e.g. Tsunami in Japan; or c) a major inflection point that changes the behavior of customers, invalidating the assumptions underlying the sales forecast process. The concern here is that c) has happened, that Oracle is underplaying it, and that it will also affect the rest of the IT industry.
There are other reasons to be concerned for enterprise IT. The expected PC upgrade cycle had been tepid before the well publicized disruption of hard disk supplies from Thai factories. Data center virtualization, which has driven a very strong investment cycle in servers, storage, virtualization software, and a variety of related technology, may have peaked as IT managers begin to eye the big, scary move to the cloud. Projections for a global acceleration in enterprise IT spending may be quite optimistic in this light, and given the panoply of economic issues overhanging corporate decisions. Note also that governments the world over have been a substantial piece of the growth in enterprise IT spending over the past decade, moving from under 12% of the market at the start of the decade to nearly 18% by the end (Exhibit 2). This is obviously not a sustainable trend.
I remember the quarters leading up to the big Internet meltdown in 2001. Sales were decelerating around the industry, but companies were universally chalking it up to temporary conditions or execution. When the @#$% hit the fan, management was shocked – Cisco CEO John Chambers famously called it a “100 year flood, which no one could have predicted”. While the current circumstances (and current valuations) do NOT portend a second “100 year flood” for these companies or their investors, the concern is the same on a smaller scale. Management visibility is filtered through optimistic sales organizations that systematically delay recognition that conditions have fundamentally changed. In this light, the nature of Oracle’s miss may well be a canary in the coal mine, portending quarterly misses across the enterprise IT sector in 2012.
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