Oracle sell-off socks software sector

The giant sucking sound you hear is coming from the software sector.

Software stocks deflated across the board Friday in heavy trading--and the Nasdaq as a whole lost air--the day after a warning from software giant Oracle that it would miss third-quarter expectations. Shares in the database giant fell 21 percent as 220 million shares changed hands, making it the third most-active day ever for a U.S. stock. The loss shaved $25 billion off Oracle's market value.

Though investors had expected Oracle to feel the effects of an economic slowdown, the company's profit warning and talk of executives delaying information technology spending clearly rattled Wall Street.

Analysts said that Oracle's warning indicates trouble ahead for every software company. Oracle provides a suite of e-business applications to help customers cut costs by using the Internet. Along with its software peers, it was supposed to be resistant to an economic downturn.

"Oracle was one of the last generals left standing on a brittle technology battlefield, and in the end couldn't avoid the bullets and hand grenades that were showering down from above," wrote Morgan Stanley analyst Charles Phillips, who slashed his rating from "strong buy" to "neutral." "It has become clear that in an environment like this one, there are no bulletproof vests."

Oracle shares closed regular trading down $4.50 to $16.88 in heavy trading.

Gartner analyst Timothy Tow says Oracle's earnings warning spotlights an area in which the company's applications unit needs to improve--selling to top-level executives. see commentary

The news also brought down other software stocks as well. The downgrades were too numerous to mention, but the biggest losers were Siebel Systems, off $8.52 to $36.1 (19 percent), Commerce One, off $2.56 to $15.50 (14 percent), Ariba, down $2.56 to $14.56 (14.7 percent) and i2 Technologies, down $2.94 to $24.62 (10.7 percent). Other stocks including Vignette and BEA Systems also slumped.

The Nasdaq closed down 65.74, or 3 percent, to 2117.63

Oracle warned on Thursday that revenue for its fiscal third quarter would grow about 9 percent from a year ago, which puts total sales around $2.67 billion, below First Call's expectation of $2.89 billion for the quarter.

The most damning of Oracle's statements was lack of visibility to upcoming quarters. When questioned how the pipeline looked coming into this quarter relative to prior quarters, CFO Jeff Henley admitted it was hard to tell. Oracle said the source of its woes was that a number of customers delayed closing deals at the end of the quarter because of economic uncertainties.

Deutsche Banc Alex Brown analyst James Moore cut his rating to "buy" from "strong buy," and said the "shortfall was far worse than expected, even with expectations ratcheted down by the Street throughout February."

Goldman Sachs analyst Rick G. Sherlund cut the stock to "market outperform," taking it off Goldman's "Recommended List."

A sudden downturn
Oracle's warning shook investors because it came at the last minute. At its applications conference, Oracle delivered an upbeat message, which was based on a robust pipeline on the second to last Tuesday before the quarter closed. Then, in those last few days, CEOs and CFOs suddenly pulled out of deals that had already been negotiated, said Oracle CEO Larry Ellison.

The fact that Oracle had been confident in its projections up until even a week ahead of the warning caused great concern in visibility for Oracle and other stocks.

"Visibility is low and we probably cannot rely on other software vendors to close their pipelines at the end of their quarters as they may expect. This applies more to those vendors that are more dependent on end-of-quarter deals, particularly larger deals," Sherlund said.

Added Phillips: "The cracks in Oracle's pipeline did not appear until the final days of the quarter. Events like these highlight the risks of low visibility and the last-minute nature of software sales."

Phillips was one of many analysts to shift gears on the entire sector. He downgraded his remaining "outperform" rated companies to a "neutral."

Phillips' list of software stocks now graded "neutral" includes 14 companies: BEA Systems, Click Commerce, Computer Associates, Epiphany, i2, Informatica, PurchasePro, Siebel, SeeBeyond, TeleTech, Tibco, Veritas Software, Vignette and WebMethods. All of those stocks took a tumble Friday.

"This is worse than past downturns in the suddenness and severity," said Phillips, who sees a prolonged downturn. "A shock to the system of this magnitude is only repaired by time."

Credit Suisse First Boston analyst Brent Thill also doled out downgrades to the sector, though with more discretion.

Thill lowered ratings on 12 companies. Stocks that went to "buy" from "strong buy" included Actuate, Art Technology Group, Commerce One, Epiphany, i2, Retek and Siebel. Those that went to "hold" from "buy" included Documentum, Onyx Software, PeopleSoft and Vignette.

A caution against blind selling
While most analysts downgraded software stocks across the board, some cautioned against blind selling. Today's sell-off could prove to be a buying opportunity for Oracle and others--especially if the worst is over.

Merrill Lynch analyst Christopher C. Shilakes lowered Oracle only slightly--from "accumulate" to "long-term accumulate"--and said that while the software sector will be pressured by the disappointment, investors should guard "against selling blindly at current levels."

Software companies that were considered slightly more immune to the problems included BEA Systems, Veritas, Micromuse, Mercury Interactive and Advent Software, Lehman Brothers analyst Neil Herman said.

"The buildup of a substantial backlog of business combined with smaller deal sizes" should make them better off, Herman said.

He added that business is on track for Mercury Interactive and Veritas and said he expects Veritas to indicate its solid position soon. BEA Software remained his "single best idea."