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What ails Oracle?

The company calls its recent slowdown in application sales a fluke. But others say it's a sign of bigger problems.

Is Oracle's recent slowdown in the applications business a one-time fluke or just the latest setback in a troublesome area for the software maker?

The company


What's new:
Oracle reports that sales of its business applications have been far below expectations, leading to speculation that its pursuit of rival PeopleSoft has become a distraction.

Bottom line:
Despite Oracle's claim that the slowdown is a one-time event, application sales remain a trouble spot for the software giant. Whether a potential takeover of PeopleSoft would improve Oracle's bottom line is unclear.

More stories on Oracle

Oracle's chief financial officer, Harry You, dismissed concerns about weakness in Oracle's applications business overall. And during the company's quarterly conference call on Tuesday, Oracle executives deflected questions over whether the ongoing PeopleSoft takeover attempt has become a distraction. "I urge people not to get...misled. It's not as if it is a serious negative situation in our view, because we expect growth for the year," You told analysts.

One reason cited by Oracle for the big percentage drop in application sales this quarter, as compared with the same period last year, is a $30 million deal the company inked last year in Russia. Excluding that deal, Oracle's applications sales declined by 11 percent. "Either way, we have work to do," You said.

Analysts were less optimistic. Oracle's application sales were "abysmal" and "well short of...even the most pessimistic estimates," according to J.P. Morgan analyst Adam Holt. If anything, the shortfall continues a downward trend. In July, Oracle reported that its applications business declined by 6 percent during the past year, even though analysts had projected growth of 10 percent.

To bolster its applications business--and drive greater database and maintenance revenue--Oracle launched a hostile bid for rival PeopleSoft more than a year ago. The company earlier this month won a victory against the Justice Department, which opposed the deal in an antitrust trial in a U.S. District Court in San Francisco.

But that victory--just one step in a long and ongoing process--has come at a price, said Josh Greenbaum, an analyst with Enterprise Applications Consulting. "The irony of this whole takeover attempt is that Oracle hasn't been minding its own applications business; they've let that slip. Fundamentally, they haven't put the effort into applications that they've put into databases and technology."

Oracle executives deny that the PeopleSoft deal has hurt business. But there's some evidence that the battle has hurt Oracle on the public-opinion front. A recent survey indicated that technology buyers' opinion of Oracle is at its lowest level in 12 years and is deteriorating.

Analysts maintain that the PeopleSoft takeover attempt has clearly hurt Oracle's sales. "They've made some excuses, but I think that they're hiding the fact that the publicity around the PeopleSoft takeover has hurt their business. Just like it has hurt PeopleSoft's business, it has hurt Oracle's business," said Paul Hamerman, an analyst with Forrester Research. PeopleSoft reported lower than expected revenue for its second quarter, ended June 30.

Rival SAP has been winning deals, Hamerman noted. "The competitive deals are going SAP's way. If you look at SAP, they have had substantial growth in the U.S. market and meanwhile, Oracle's apps revenues are off in this quarter, and PeopleSoft's have been off for the last couple of quarters. I think that it is related to the trial."

There are other factors at work. Overall, the enterprise applications business is in a slump and even market leader SAP has admitted that times are tougher. AMR Research projects that new license sales will increase this year, but by just 3 percent for core enterprise resource applications, to $15.8 billion.

Moreover, it's unclear whether that prediction will hold, given diminished spending expectations for the technology market as a whole. Goldman Sachs, which regularly surveys chief information officers, said in July that tech spending would grow by 2.3 percent this year. But this week, the company revised its prediction to say spending will rise just 0.4 percent for the year.

Hard road ahead
None of this will come as news to most enterprise software makers, which have struggled to sign new deals in recent months. Their best customers--big multinational companies--are trying to do more with less by exploiting to the fullest the software they already have in house. When they do buy, it's usually add-ons to existing systems.

Software makers are attempting to pump up revenue from maintenance, which includes fees derived from product updates and support. Oracle on Tuesday said maintenance revenue grew by 14 percent in its most recent quarter, compared with the same period last year, and now constitutes 53 percent of the company's total revenue, up from 50 percent of total revenue one year ago.

An industry that thrived on the megadeal during the 1990s, when new, multimillion-dollar contracts were commonplace, is now adjusting to smaller deals. SAP's chief executive, Henning Kagermann, said earlier this year that the size of the average SAP sale has gone down in recent years. "We will see some increase in deal size. But we will not see a return to the old days," he told CNET

Oracle trails SAP and PeopleSoft in the enterprise applications market, and competition will likely intensify if Microsoft enters the field.

The applications business has beena historical trouble spot for Oracle in particular. Despite the company's clout in the database market, Oracle hasn't always been successful in converting those customers into applications buyers. The thinking is that, since business applications run on top of a database, Oracle--which leads the market for database software on servers other than mainframes--should have an inherent advantage over its competitors.

But Oracle trails both SAP and PeopleSoft in the enterprise applications market, and competition will likely intensify if Microsoft--which clearly has an interest in expanding its applications business--enters the market in the next few years. The software giant disclosed earlier this year that it had started merger discussions with SAP, but said those talks had ended.

Oracle's claim that the application sales slowdown is simply a one-quarter aberration will soon be put to the test. The company plans to launch Oracle 11.5.10, an update to the company's suite of business applications, in the next few months and Oracle management expects customers to buy in earnest. "We expect the release of 11.5.10 later this year to help drive customer demand," Oracle's You said on Tuesday.

Oracle "can probably get some sales momentum from that," Hamerman said.

In addition, Phillips indicated that Oracle may soon certify its applications to run on top of the popular 10g release of Oracle's database software, which could drive new sales.

Oracle has also revamped its application software sales force. The company claims that greater specialization among sales personnel will lead to better growth in the long run. And Phillips indicated that he expects a greater volume of new sales in the coming quarter.

But one thing that won't change soon is widespread discounting, which has become the bane of enterprise software makers in recent months. During the Oracle-PeopleSoft antitrust trail, several technology buyers and company executives testified that large-scale discounts on enterprise software license fees--of up to 90 percent--are now commonplace. Those big discounts eat into software makers' sales and profits.

The trend started several years ago and isn't expected to stop anytime soon. In a recent Forrester Research survey of 25 IT managers in companies with at least $1 billion in annual revenue, roughly half expect discounting to continue through 2004 and in the foreseeable future.

"Discounting is still fierce," Charles Phillips, Oracle's president, said during a conference call on Tuesday. "We just have to live with that--that's the way the market is."'s Alorie Gilbert contributed to this story.