|  | | | | Oracle (ORCL): The Comeback Kid |
| A week before Paris was liberated by Allied Forces in August 1944, Larry Ellison was born to an unwed mother on New York’s Lower East Side. At nine months, he came down with pneumonia. He was sent to Chicago to live with his aunt and uncle, who formally adopted him. He would not see his mother again until he was in his late forties.
While Ellison’s birth mother likely had compelling practical reasons to part with him, it would not be the last big rejection by an important woman in his life. His first wife Adda filed for divorce in 1974. (There have been three more divorces since.) |
| Perhaps these early emotional wounds are what drove Larry Ellison to build Oracle Corporation (ORCL) into one of the world’s most valuable technology businesses. Despite its extraordinary success to date, we believe the AI revolution has opened up an entirely new chapter for this great American company. We are also drawn to what we regard as a sensible valuation for ORCL shares relative to peers trading at much higher multiples. We have added ORCL as a new holding within the the American Resilience Model Portfolio. |
| Ellison shared many details of his early adulthood in a humorous 2016 commencement speech at the University of Southern California.
He dropped out of his pre-med program at the University of Illinois at Urbana-Champaign. He originally pursued it because his family wanted him to become a doctor, but he found the material extremely boring.
After relocating to northern California in the late 1960s, Ellison was floundering around. He worked various jobs from part-time computer programmer to rock climbing instructor. As a sort of compromise with his wife, who wanted him back in school pursuing a degree, he started taking classes at UC Berkeley.
The only class he says he remembers was a sailing course. |
| | When my class was over, I wanted to buy a sailboat. My wife said this was the single stupidest idea she had ever heard in her entire life. She accused me of being irresponsible, and she told me I lacked ambition. She kicked me out. And then she divorced me. This was a pivotal moment in my life. - Larry Ellison, 5/13/2016 |
| | Notwithstanding his soon-to-be ex-wife’s assessment, Ellison did buy the sailboat, which became his permanent residence. He lived onboard with his cat in a Berkeley marina. Rather than being distraught, he described the experience as a moment for “rejoicing.” For the first time in his life, he would do what he wanted to do and be who he wanted to be.
Afterwards, he spent a lot of time in the Sierra Nevada Mountains and the San Francisco Bay and continued to work as a programmer. He soon came to realize there were a lot of interesting things happening “in the area south of Stanford University and north of San Jose.” Silicon Valley was just beginning to emerge. |
| As we write some fifty years later, the allegedly ambitionless Larry Ellison is now according to Forbes the fifth wealthiest person in the world. The Oracle founder’s net worth is estimated to be $175 billion. |
| Ellison’s love of sailing never diminished. As the main sponsor of Team USA in the 2013 America’s Cup held in San Francisco, he was involved in one of the most compelling come-from-behind victories in sailing history, if not all sports.
It was Ellison’s preference, as the sponsor of the defending champions, to organize the most high tech America’s Cup ever. He decided upon an advanced catamaran boat design in which the dual hulls would emerge from the water on foils and obtain speeds beyond 50 knots.
After a series of initial races in the first few days of the competition, New Zealand was ahead of the U.S. by a score of 8-0. The Kiwis only needed 9 points to take the Cup back to Auckland.
The sailing world was in a state of shock. Ellison was on the brink of total humiliation. And to make matters worse, all of this was playing out in the very same waters that welcomed him after he was discarded by his first wife—the same waters where he decided what kind of man he would be and what direction his life would take.
If Larry Ellison, now one of the greatest technologists and richest men in world history, was going to lose here, it wouldn’t be without doing everything in his power to prevent it.
The competitors were permitted to use a “postponement card.” Either side could take a time-out that would delay the competition by 48 hours. Facing defeat, Team USA requested the delay and scrambled to understand was going wrong.
Working around the clock, Ellison’s team studied the tapes and desperately tried to figure out what New Zealand was doing better. They were ultimately able to identify a flaw in their computer model, related to the optimal angle for sailing upwind, that was causing them to underperform.
After making a number of crucial technical adjustments, Oracle Team USA would go on to defeat New Zealand in every single subsequent race. America successfully defended the Cup. (Rob had the opportunity to witness a couple of the races firsthand from a chase boat.) |
|  | Source: Personal photo collection |
| | One of the ironies of Larry Ellison’s life story is that he credits his success to a decision to live the life he wanted to live and to pursue the things that made him happy. Yet his extraordinary success came from developing products that made him absolutely indispensable to his customers.
In fact, the man who was orphaned as an infant and tossed to the curb by his first wife would go on to create software solutions that became so deeply entrenched in the core operations of the companies and government agencies that bought them, they would rarely if ever be replaced. And he would build an organization that provided such high levels of service, efficiency and innovation that clients wouldn’t want to get rid of them anyway. |
| The relational database
Just as Oracle Team USA was propelled to victory after carefully studying the competition, Larry Ellison owes much of his success to IBM. Ellison made his fortune from the computer database, but he did not invent it. That honor belongs to an Englishman and engineer named Edgar “Ted” Codd.
Codd flew Sunderland bombers for the Royal Air Force after receiving degrees in mathematics and chemistry from Exeter College, Oxford. Shortly after the war, in 1948, he moved to New York and found employment at IBM.
In 1970, Codd published “A Relational Model of Data for Large Shared Data Banks.” The relational model refers to a method of representing data in tables where each row has a unique ID called a key, while each column holds the various attributes.
Although relational databases would eventually form part of the foundation of the information age, IBM slow-walked adoption of Codd’s ideas. IBM wanted to protect revenue from its “hierarchical” database model, which organized data in fields.
In 1977, Larry Ellison didn’t have any legacy business to protect. After becoming familiar with Codd’s work, he founded Software Development Laboratories (SDL) along with Bob Miner and Ed Oates. The purpose of the company was to commercialize Codd’s ideas around relational databases.
The company’s first customer was the CIA. Oracle was the secret code name given to the project.
In 1979, the company was renamed Relational Software and introduced Oracle V2, a database software system that used an advanced programming language known as SQL. As sales grew rapidly, the decision was made to change the company’s name to align with the flagship product. The business was renamed Oracle Systems in 1982.
It was the dawn of the computer age, and business was booming. Successive versions of the database product were introduced in the following years, and the company obtained global reach. Oracle went public on the NASDAQ Stock Exchange on March 12, 1986 under the ticker ORCL. |
|  | Investors who participated in the IPO have done quite well. ORCL has generated a total return since inception of 265,000%. That is approximately 23% annualized over nearly 40 years, versus approximately 11% for the S&P 500. An investment in ORCL on its first trading day would now be worth more than 50 times an equivalent investment in the S&P 500. Ellison still owns just over 40% of the company. |
| Oracle today
Oracle Corporation is now a much larger, more diversified and more complicated operation than the small software business that Larry Ellison says he set out to create so he and his friends could work in an environment they enjoyed.
ORCL was built over the decades on the strength of its position as the leading database provider with a focus on large enterprises. It now provides a wide range of technology solutions to over 400,000 enterprise clients. ORCL offers both software and hardware products in key areas like Enterprise Resource Planning (e.g., financial management), Supply Chain and Manufacturing (e.g., inventory management), Customer Experience (e.g., salesforce management) and Human Capital Management (e.g., human resources).
But ORCL’s journey hasn’t always been a straight line up and to the right.
After a period of rapid growth from its IPO through the first decade of the 2000s, ORCL’s growth trajectory decelerated considerably. While the business was stable and sticky, ORCL failed to take advantage of many of the changes in the technology landscape that peers like Microsoft (MSFT), Amazon (AMZN) and Alphabet (GOOG) were able to exploit. In fact, from 2011 through 2021, ORCL revenues only grew marginally. |
|  | Ellison may have been enjoying his America’s Cup victory in 2013, but he was missing the boat (so to speak) on the revolution in cloud computing. As ORCL struggled to develop a cloud strategy, ORCL shareholders lost significant ground versus investors in several large cap technology peers.
Among other things, the cloud represented a cost-saving opportunity for corporations still reeling from the effects of the Global Financial Crisis. Many of ORCL’s rivals who were leading the way in the cloud saw their share prices improve dramatically. As their earnings per share grew rapidly, the market rewarded these companies with higher multiples based on the growth they were delivering. |
|  | To some extent, ORCL’s growth dilemma was reminiscent of the original mistake IBM made, which created the opportunity for ORCL to enter the database market in the first place.
ORCL was enjoying high margins and sticky business selling software and hardware for use on premises. Moving to the cloud would potentially be disruptive to ORCL’s bread and butter business. Yet the cloud (which refers to the relocation of equipment and computing functions to data centers rather than a customer’s own facilities) was clearly the direction of travel for the IT industry.
Although ORCL struggled to operationalize a growth strategy in this period, Ellison continued to believe in the long-term outlook for ORCL. As ORCL continued to generate abundant free cash flow (just not growth), he focused on buying back stock. The market was applying what Ellison and his team believed was an inappropriately low multiple to the stock because of the lack of growth.
Between the fiscal years ending May 2011 and May 2021, ORCL reduced its own share count by approximately 45%, from 5.1 billion to 2.8 billion shares. The scale of share buybacks executed in this period was for the most part unprecedented and generated some controversy, especially since it also involved a material increase in corporate debt.
But if ORCL could gets its momentum back, these share repurchases at low prices would prove to be a stroke of genius. Ellison was betting on himself again. The buybacks nearly doubled his percentage ownership of ORCL into the mid-40’s.
As the second decade of the 21st century came to a close, ORCL had fallen way behind MSFT and AMZN as a technology provider to enterprises. This was perhaps as bad a deficit as he faced in the first half of the 2013 America’s Cup. Except this time, there were hundreds of billions of dollars on the line, not just bragging rights.
An urgent need to adjust
Oracle Team USA was able to deploy technology to figure out its disadvantage over the course of a sleepless 48 hour period. For Oracle the company, it took many years and multiple attempts, but they have also been able to get back on a winning path.
A turning point came in October 2022, when ORCL hosted a Financial Analyst Day focused on its cloud initiatives. Wall Street analysts and fund managers gathered for a glimpse into whether or not ORCL would once again become a true technology leader.
The event had two major impacts. It revealed the significant progress ORCL had been making transitioning its customer base to the cloud, and it set out ambitious growth goals.
In 2016, ORCL had one data center in Phoenix, Arizona which offered five different cloud services. As of the October 2022 meeting, ORCL was offering over 100 services from over 40 data centers around the world.
Perhaps most importantly, Oracle laid out the following financial targets for fiscal year 2026: revenue of $65 billion, 45% operating margins, and 10+% EPS growth.
Late mover advantage
ORCL shares have performed well since the 2022 event, outperforming the S&P 500 and the Nasdaq 100 as well. ORCL not only laid out a set of expectations, which, if achieved, meant the shares were significantly undervalued, but the company has since been producing impressive financial results that demonstrate these goals could be met or surpassed (including a very well-received full-year earnings report about four weeks ago). |
|  | Performance since 10/2022 Analyst Day |
| ORCL is now generally expected to surpass the targets established in 2022, on the back of significant reported revenue backlogs. Although ORCL was somewhat late to the cloud party, this appears to be beneficial in that it is now able to deploy more advanced technologies at the exact moment when AI-related spending on data centers is taking off.
We believe ORCL now enjoys a number of important advantages as it joins the likes of MSFT, NVDA and AMZN and builds out the global data center infrastructure of the future.
(1) Its next-generation technology is better and cheaper. Oracle Cloud Infrastructure is winning business now because its offerings are not only more advanced than competitor products, they are materially less expensive (up to 30%). ORCL’s enterprise software business is skewed towards large corporate and institutional customers, but ORCL now has access to what is almost an entirely new market segment (small and mid-sized businesses) through its cost-competitive cloud offering.
(2) Cloud conversion revenue opportunities. As ORCL migrates its large enterprise customers to the cloud from on premises, ORCL has access to significant revenue opportunities, while saving customers money overall. With on premises business, a customer using ORCL software or hardware would also need to invest significantly in IT personnel, equipment and other items that would not benefit ORCL at all. (For example, an IT guy who maintains the server in the office closet.) Now, customers are spending more with ORCL but spending less in total.
(3) Leveraging the database. As the premier enterprise database provider, ORCL is uniquely well-positioned when it comes to AI-related cloud spending. Artificial intelligence is fundamentally about processing enormous quantities of information—information which already sits in ORCL databases. Being at the leading edge of database technology is an advantage that even the large cloud incumbents do not have.
(4) Partnerships. ORCL’s relative newcomer status also positions it nicely vis a vis the large incumbent competitors in terms of its ability to forge strategic partnerships. Customers increasingly want “multi-cloud” arrangements that do not leave them entirely dependent on a single vendor. ORCL has announced formal partnerships with both MSFT and NVDA, among others. |
| | Strategic relationship with Digital Realty (DLR)
We note with special interest that ORCL and DLR (an Income Builder Model Portfolio position we have previously discussed) have recently announced an expansion of their partnership in bringing GPU-based AI solutions to customers. This is a great example of DLR benefiting from AI-driven migration to the cloud, rather than suffering share losses from it, as some DLR bears were speculating in 2022 and 2023. |
| | Attractive valuation
Many companies throughout the technology ecosystem (and even beyond it, from copper miners to electric utilities to natural gas pipeline operators) stand to benefit from the massive anticipated growth in AI/data center related investments.
Our strong preference is to identify opportunities where the growth outlook is not only highly secure but the valuation does not rely on aggressive targets being achieved. Simply put, the loftier one’s expectations, the more painful a disappointment is likely to be.
ORCL no longer trades like an ex-growth mature software company as it did five or more years ago, when management was very aggressively scooping up its own shares. But it still only trades at approximately 20x next year’s earnings. This multiple represents a significant discount to software peers and other large cap AI plays, like MSFT (35x forward) or NVDA (50x forward).
While we have confidence in the company’s ability to achieve its growth forecasts, from a valuation perspective, we also take comfort in the stability of ORCL’s revenue base, given the stickiness of its enterprise customer relationships.
Most importantly, after a prolonged phase of underwhelming growth and strategic confusion, we think the company now finds itself well-positioned in multiple ways to take advantage of some of the most important structural trends in information technology.
Larry Ellison has not always taken the straight path to success. But he has a knack for learning from the experience of others and a clear tendency to win in the end. |
| | We have the advantage of seeing what all the other guys did, and we took a different road. It took us a bit longer, but we think we’re better off in terms of security. We’re better off in terms of scalability. By the way, that means the ability to go down in size and up in size. It allows us to get to every corner of the globe and provide a level of privacy for your data that other cloud providers cannot provide. - Larry Ellison, ORCL earnings call, 6/12/2024 |
| |  | | Oracle (ORCL): Company Snapshot |
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