Oracle and Agile a Natural Combination; Where is SAP?

Last night Oracle announced that it has reached agreement to acquire Agile Software for $8.10 per share or approximately $495 million in cash. The deal is expected to close in the second half of July.

The consolidation in the product lifecycle management space has been going on for a while now with Dassault’s acquisition of MatrixOne more than a year ago, and more recently Siemen’s acquisition of Unigraphics. Agile has been an obvious target for sometime given its continuing losses and its stop and go progress on the top line.

The fit with Oracle is pretty straightforward, given that Agile’s software has been built on Oracle’s infrastructure. Moreover, the attractiveness of Agile to Oracle is obvious as part of Oracle’s strategy to surround SAP. The deal will enhance Oracle’s position in the manufacturing sector and more specifically in the high technology and consumer packaged goods verticals. In addition, there is little question that where Agile has struggled to expand beyond its core markets, Oracle’s dramatically greater scale and industry presence should enable Agile to finally fulfill these long standing ambitions.

Agile’s product will become the core of Oracle’s PLM offering. As investors well know the PLM space has been long touted as one of the more strategic, compelling and high growth sectors within the enterprise software space, and yet all of the specialized vendors in this space have struggled to produce the expected growth.

The valuation of Agile with an enterprise value of approximately 2.2x trailing twelve month revenues and 5.2x trailing maintenance revenues is toward the lower end of the range, relative to the valuations for MatrixOne and UGS. However in each of those cases it could be argued that the deal was more strategic to the acquirer. Another point to consider is that despite the prospect of a couple of other companies as possible buyers, notably SAP, IBM and Parametric, we strongly suspect that none of these companies expressed serious interest. While we can understand Parametric being somewhat conservative in this case, moreover although IBM has been an active acquirer of software companies they continue to avoid buying applications vendors, one has to wonder what SAP is thinking. The recent Wall Street Journal article “German Company’s Plan to Globalize Hits Cultural Barriers” Friday, May 11, 2007 did an excellent job summarizing the company’s cultural challenges, which we believe represent a major distraction.

Separately and for what it’s worth, our checks on Oracle’s business momentum for the all important May quarter have been to date quite positive with broad based reports that the field is executing well.

Another important takeaway from last night's announcement is that the continuing consolidation of the enterprise software market is far from over.

A Brief Post-Mortem on Q1

With Q1 earnings results largely out for the vast majority of enterprise software companies, we thought some high level observations were in order. While we are not going to comment in great detail since there are many financial analysts who have been doing just that at a breathless pace as the earnings reports come out, there are a number of themes that are important.

First and foremost, the overall state of spending on enterprise software continues to gradually improve. This is an easy assertion to make given that each of the largest software companies, Microsoft, IBM, Oracle and SAP, had decent to good to strong quarters. While we are still waiting for BMC and CA’s fiscal Q4 results, we would be surprised if they prove to be visibly disappointing. Likewise while inevitably there have been companies that have disappointed (BEA is one that comes to mind) these can be attributed more often than not to competitive or execution issues.

Software as a service – is still the hot market, even as there is greater recognition of the importance of on-premise for many strategic applications, particularly in larger companies. The continuing success of Salesforce.com, as well as its substantially outsized market valuation is an excellent indication that software as a service is both a strong trend from a fundamental perspective that has an even stronger attraction for investors based on the visibility of revenues. SAP’s big push to build a major on-demand offering to broaden and deepen their penetration into the SMB market is just one of the more recent indications that SaaS is really here.

Market consolidation is ongoing. The recent talks between Microsoft and Yahoo which became public last week are simply the most recent evidence. In addition to Oracle’s pending acquisition of Hyperion for more than $3 billion, there are certainly other deals in progress ranging from the pending acquisition of Mobius by ASG, the Tibco deal, Siemen’s acquisition of Unigraphics, to much smaller transactions such as Thomas Cressey’s acquisition of Embarcadero. It is interesting to note that there is growing evidence of private equity becoming more aggressive in the enterprise software industry. In addition to the stealthily built Infor, NetIQ and Embarcadero’s acquisitions are further indications that enterprise software is attractive to private equity investors. This should hardly be surprising given the increased maturity of the sector, coupled with the increased importance of scale, meaning that many companies with a substantial franchise are effectively thwarted from significant growth and yet have very large and predictable cash flows that can be readily leveraged.

The options scandal appears to be receding into the background. Unlike last year where many software companies were seeing their stocks banged hard by indications of backdated options, this year these types of scandals have been considerably less of a disruptive factor.

Software stocks continue to lag the broader market. The WSJ 5/5/07 article “Technology stocks give rally a boost" underscores the fact that tech stocks generally have been poor performers. While business conditions seem pretty good all things considered, stock performance remains broadly disappointing. With the Dow at an all time high and the S&P 500 closing in on its former all-time high reached in 2000, the NASDAQ is still well below its record high, it has been a good year so far. Year to date gains for the major indices are all up more than 6%. With the notable exception of Oracle (up 10% year to date) and CA (up 24%), other leading companies such as Microsoft (up 2%), BMC (down 2%) and SAP (down 10%) appear to be treading water. Salesforce.com is up 18% year to date. The biggest gainer so far this year is Hyperion (up 45%). Excluding deal activity, there really haven’t been any terribly dramatic gains evidenced in the group certainly among large and mid cap names. Interestingly there are a number of micro cap and small cap companies that have posted some impressive gains.