Highlights From ORCL's Q2 Conference Call: Non-GAAP Operating Income Up 3%

Oracle Corp (NASDAQ: ORCL) reported Q2 EPS of $0.54, $0.03 worse than the analyst estimate of $0.57. Revenue for the quarter came in at $8.8 billion versus the consensus estimate of $9.23 billion. Shares are being punished, currently down 13.5% to $25.22.

Highlights From ORCL's Q2 Conference Call:

• (Safra Ada Catz) This quarter new software license revenue was $2 billion, up 3% in constant currency or 2% in U.S. dollars building off a 21% increase from last year.
  
• Technology new license revenues were $1.5 billion, up 4% in constant currency and U.S. dollars and applications were $569 million, off 1% in constant currency and 2% in U.S. dollars.
  
• Within application revenue, ERP and CRM grew very well. Geographically results were mixed as Latin America and Asia-Pacific excluding Japan did well in constant currency in most products consistent with the growth in their economies, while the U.S., Europe and Japan were up a bit, flat or down.
  
• In license we saw total new license growth rate of 1% in constant currency or flat in U.S. dollars in the Americas, and up 3% in constant currency or 2% in U.S. dollars in EMEA, while we saw 8% growth in J-Pac in constant currency or 11% in U.S. dollars.
  
• The quarter was not dependent on any large deals. Software license and product support revenues were $4 billion, up 9%. Support attach rates and software renewal rates continue at usual high levels.
  
• Hardware systems revenue was $953 million for the quarter, due in part to a product transition to T4 processor-based products as some customers moved to qualify the new servers and significantly slowed buying the older systems.
  
• We saw good early demand for the new SPARC SuperCluster but only released the product for general availability at the very end of the quarter, allowing us to ship only a couple.
  
• Exadata and Exalogic growth saw significant acceleration this quarter with triple-digit growth rates over last year's Q2. Hardware gross margins were 51% for the quarter on the lower volumes.
  
• Total revenue for the quarter was $8.8 billion, up 2% in constant currency and U.S. dollars.
  
• As for expenses, it was not a perfect comparison as in last year's number we got the benefit of $120 million in G&A expense reduction as a result of SAP's expense reimbursement for settling a small part of our intellectual property theft lawsuit against them. Net of that, G&A was flat.
  
• We're pleased with our non-GAAP operating income of $3.9 billion, up 3%, we expanded operating margins to 45%. We believe there remains ample leverage in our business model and we believe we could be back at pre-Sun operating margins shortly.
  
• The non-GAAP tax rate for the quarter was 26.3%. EPS for the quarter grew 6% to $0.54 on a non-GAAP basis. Operating cash flow increased to a record $13.1 billion over the last four quarters, while free cash flow grew 45% to a record $12.6 billion. We now have over $31 billion in cash and marketable securities.
  
• This quarter we repurchased 33.1 million shares for a total of $1 billion. We have received an additional $5 billion in authorization for our stock buyback program, and the board again declared a dividend of $0.06 per share.
  
• Our guidance for Q3 is as follows. New software license revenue growth is expected to range from 2% to plus 12%. So that's from positive 2% to positive 12% in constant currency and 0% to 10% in U.S. dollars. Hardware product revenue growth is expected to range from negative 4% to negative 14% in constant currency or negative 5 to negative 15 in U.S. dollars and that does not include the hardware support revenue. Total revenue growth on a non-GAAP basis is expected to range from 3% to 7% in constant currency and 1% to 5% in U.S. dollars. On a GAAP basis, we expect total revenue growth from 4% to 7% in constant currency and 2% to 5% in U.S. dollars.
  
• Non-GAAP EPS is expected to be $0.56 to $0.59 in constant currency and $0.55 to $0.58 in U.S. dollars, up from $0.54 last year. GAAP EPS is expected to be $0.44 to $0.47 in constant currency and $0.43 to $0.46 in U.S. dollars, up from $0.41 last year. This guidance assumes a GAAP tax rate of 26% and a non-GAAP tax rate of 26.5%. Of course, it may end up being different.
  
• (Lawrence J. Ellison) This past Q2, Oracle sold over 200 Exadata and Exalogic engineered systems. In Q3, we plan to sell over 300 Exadata and Exalogic engineered systems. In Q4, we plan to sell over 400 Exadata and Exalogic engineered systems.
  
• That would make our annualized Q4 engineered system sales approximately $1 billion. Then we plan to double that - those sales again next fiscal year.
  
• Well, I'm going the start with Exalogic, the newer of our machines and talk about a few deals we won. At the University of Melbourne, they bought four Exalogic systems running our Fusion middleware where we beat Cisco Intel servers running VMware because the Exalogic systems were a lot faster and a lot more cost effective. But it was cost performance that won us that deal not peak performance.
  
• As our Engineered Systems business gets larger, it will drive revenue growth in our overall Hardware business. In Q2, we won some competitive deals because our engineered systems deliver much higher performance than IBM's fastest P-series computer.
  
• We won an Exalogic deal at the Food and Drug Administration, the FDA. They bought five large Exalogic systems, full racks, to add onto their existing Exadata systems. They are standardizing now for a series of applications including identity management and a bunch of custom applications they're standardizing on Exadata and Exalogic.
  
• Amway bought two Exalogic systems, replacing IBM AIX on pSeries machines. The E-Business Suite, the Oracle E-Business Suite ran 12 times faster on the Exalogic machines than on the IBM pSeries. They are custom - that's Amway's custom OLTP applications, which are - were solo job applications - ran 10 times faster than on IBM's pSeries machines.
  
• Exadata came out quite a bit before our Exalogic machines, and some customers are beginning now to standardize on Exadata. A very large American smartphone manufacturer now has over 30 Exadata systems as they build their cloud. A large European bank has over 24 Exadata systems. ACNielsen moved their Wal-Mart (NYSE: WMT) data off their IBM (NYSE: IBM) mainframe - off their IBM computer and onto an Exadata machine, where it ran queries 10 times faster, 10 times faster.
  
• (Mark V. Hurd) Our bookings for Exadata were a record; that includes Q4 of last year. The pipeline is the biggest we have ever had. We had the largest number of wins from new customers in Q2. Exalogic is ramping faster than Exadata. Sales more than doubled sequentially, and the first year sales for Exalogic are more than double the first year sales of Exadata.
  
• We are now winning with Fusion apps in the Cloud. We won Brocade (Nasdaq: BRCD, Living Social and Rainbow Media in the quarter. 100 apps now available in the Cloud or on-premise. And we believe this to be a key differentiator.
  
• On hardware, our introduction of the T4 SSC - SSC for us is SPARC SuperCluster, have driven material pipeline for the back half of the year. As Safra mentioned, the T4 hurt a few orders for us in Q2 but the pipeline has grown materially.
  
• These are the most exciting SPARC products we have had in years. ZFS storage doubled year-over-year. This is the fourth quarter of consecutive growth for ZFS in a row. And again as we start lining up these pieces of differentiated IP, aligned with incremental sales resources, we will drive yet more growth.
  
• (Q&A) Question has to do sort of with the general backdrop here. It looks like the Americas had a very difficult comp this quarter and it doesn't get any easier next quarter. EMEA had a relatively easy comp this quarter. That actually gets more difficult next quarter. Asia PAC's comp gets a little more difficult too. So I guess, Safra, with the guidance, how do you get comfortable, you know, how do we get comfortable with your guidance? You obviously see a lot more than we do in the numbers and where it's going. But you've given guidance that, at least from our calculations, is a little better than normal seasonality from this quarter to next, realizing this quarter was a little bit below what you had anticipated at the beginning of the quarter. (A) - Safra Ada Catz: Well, there are a few things. The first one is clearly this quarter was not as we thought it would be and we've been taking a look at the deals that really should have closed and that would have closed, but for sort of a regular environment. And a number of them have closed or are on track to close this quarter. So we feel very good about it. We've expanded our distribution capacity enormously and so we have a lot more feet on the street. And we're looking at really the business overall and though I'm trying to bring in some level of conservatism because of just what I read in the - about the economy, we are really comfortable that we will get there. That we should be there. There is no - I mean, I suppose if there's a giant global financial meltdown, we shouldn't. But in looking at what happened this quarter, we don't actually expect that to repeat. And I think we'll have a much more normal next quarter. We have, as I said in the beginning, we've put in some measures so that we can monitor really what's going on and make sure we are on time with the appropriate approvals. (A) - Mark V. Hurd>: Solid pipeline, John, so it's quite strong. We're not forecasting a higher, if you will, conversion rate if you think of it from a pipeline perspective. And to Safra's point, we have more resources. So I think the combination of that aligned with our product portfolio, our product portfolio is just - you know, John, I don't know how else - I think we talked about it before. We just have the best lineup of products in the industry right now. So when you look across the apps portfolio, remember, we're going to market now with an apps portfolio that's only been refreshed over the past two or three months. You go to the T4 SSC product line, those were just released at Oracle OpenWorld. Larry talked a lot about the Exadata and I added on the Exalogic numbers from a momentum perspective. So you've got the lineup of product line, strong pipe and more resources. And we have confidence.
  
• Mark, has those new procedures that were put in place to sort of keep track and make sure these deals close, and Safra mentioned that some of these deals have closed, have they sped that up and has that also given you sort of the confidence...? (A) - Mark V. Hurd: I'm not going to talk about what's going on in Q3. This is a Q2 call. But, yeah, I mean obviously we get to look at a lot of deals. Listen, this is the life we chose though in the context that there are always going to be big deals and it's our job obviously to get about the job of getting them closed but we get a pretty good view of them and, yeah, we feel good about the momentum that we've got. And I really have to fall into those key categories, which are how's your product line up? How's your sales resource lined up? And how is the pipe? Because we need pipe obviously going into the quarter. That's obviously our preliminary indicator. And those are the basic fundamentals behind the guidance, John.
  
• I wanted to follow up, Safra and Mark. You guys mentioned that in your comments to John about how you've been hiring aggressively and I think you mentioned you've hired about 1,700 people since the start of the fiscal year in your press release. Can you talk about, Safra, how you think about balancing kind of your EPS goals? And I'm not talking about November, but just as you look going forward over the next few quarters or next year. How do you think about balancing your EPS goals with the demand opportunity you see in front of you based on the pipeline and the product lineup that you have? (A) Well, with us it's always - we're always very EPS-protection driven. If markets are more difficult, we're always the ones who are somehow able to bring in the EPS as a general matter. So we've taken a little bit of a lesson from this quarter and we'll continue to monitor it. Remember, a lot of this is our new product updates and support, product support and updates business. The overall business gets bigger. That is, of course, very profitable for us. And we think we can grow profitably. I want to point out that even in this quarter, our operating margins increased. Okay? Even in a quarter where we did not actually end up selling as many new licenses as we'd hoped, our operating margins increased, and we are really on track to get back to our pre-hardware company margins which puts us of course as still the highest operating margins in the software industry. And we have a $4 billion hardware business in us. So I'd bet on us to keep those earnings growing and protected.
  
• I was wondering if you can compare and contrast the database and middleware, and then the applications businesses, just in terms of guidance for next quarter and just the business trends that you're seeing there and how you think about that rolling forward? And then a follow-up for Larry, just in terms of HANA versus Exadata. You mentioned a win there directly versus SAP. Wonder if you can give us your thoughts on that? Thanks. (A) Safra Ada Catz>: Okay. In general, we expect both database and applications to be strong next quarter, actually. The reality is that we've got extremely difficult comparisons, frankly, in both, and in database particularly, but we do expect really - obviously a significantly better quarter in Q3 across the board. Larry? (A) - Lawrence J. Ellison>: There were a series of benchmarks at the customer where they compared HANA, SAP's in-memory analytical database, and they compared the performance of that against just our Exadata database machine, and Exadata was faster. Which I think surprised a lot of people because Exadata is not what we'd line up against HANA. That is not our product that we line up against HANA. We have a product called Exalytics, which is our in-memory analytic database. But it was interesting that our database machine, which is a combination of memory, flash and disk, outran HANA without Exalytics. With Exalytics, we're 10 times again faster. So we're fairly confident that if Exadata can beat HANA, Exalytics will beat HANA by even more. So again, that came as a surprise to us.

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