ERP has been knocked down by Y2K
The carnage lately among enterprise resource planning (ERP) and related software companies has
been breathtaking. Among the leading ERP vendors, Germany-based SAP (NYSE:SAP - news) has
dropped 41% from its 52-week high hit just after its splashy American intro late this summer, while its
California-based rival PeopleSoft (Nasdaq:PSFT - news) has plunged 66% and Netherlands-based
Baan (Nasdaq:BAANF - news) has imploded for a 82% collapse. Smaller niche players have also
been deeply wounded, including firms working the supply chain management space, which the ERP
vendors seem determined to capture. i2 Technologies (Nasdaq:ITWO - news) trades 68% off its
52-week high, while Manugistics (Nasdaq:MANU - news) has been manhandled for a 84% beating
and JDA Software (Nasdaq:JDAS - news) has been slashed 80%. So what's happened, and are
there any bargains among these tech casualties?
The short answer to the first question is that earlier this year these stocks traded at exceptionally high
P/E multiples, often even above the stunning 50% to 70% earnings growth rates many had delivered in
recent years. A slowdown in high-margin software licensing revenue has caused earnings multiples to
contract even as earnings projections have been cut. This is the double whammy that makes some
short-sellers willing to venture into the treacherous arena of highflying tech stocks. While favorable
sentiment drives these darlings ever higher, a shift in momentum can lead to a cascade-like washout.
Recent earnings announcements have only added to investors' anxieties. After the market closed
yesterday, PeopleSoft reported Q3 earnings of $0.17 per share, up 55% versus $0.11 per share last
year and in line with estimates. Yet the company said full year FY98 revenue would increase by just
60%, suggesting a continued drop-off in the current quarter given that revenue is up 71% year-to-date
and 67% in Q3. What's worse, the company now expects FY99 revenue gains of just 25% to 35%,
in line with the 30% growth in third quarter license fees, which were down from the 58% gain in
software revenue seen in the first half of this year. Though that guidance may be conservative,
management pointed to uncertainty over big-ticket capital spending, especially given some apparent
diversion of information technology (IT) budgets to address the Y2K problem. Also, price-cutting by
competitors has hurt profits, with fourth quarter operating margins expected at the low end of the
company's 18% to 20% target range. A flurry of analyst downgrades pushed PeopleSoft down $6 to
$19 3/4 for the day.
Meanwhile, industry leader SAP added fuel to the fire. Following the firm's preliminary report on
October 9, the company's estimate-beating Q3 results came in as expected last night, with revenue up
43% to $1.2 billion and pre-tax profits up 50% to $221 million, or 53% excluding a one-time
expense. While revenue growth has slowed from the 63% seen in Q1 and the 59% seen in Q2, sales
to the Americas jumped 55% and sales to Europe, the Middle East, and Africa increased 50%. The
real sore spot is Asia, where revenue plunged 20% mostly due to currency issues. However, SAP's
management doesn't foresee a quick rebound in Japan.
It also expects "some moderation of demand due to year 2000 issues." As a result, the company
guided investors to expect a 30% to 35% increase in pre-tax profits for FY98 on 40% sales growth.
The problem is that this forecast implies Q4 sales could rise just 16%. That exasperated some
analysts, who considered it so overly conservative as to constitute bad investor relations. "You really
have to dig and do your own research," complained Credit Suisse First Boston analyst George Gilbert
to TheStreet.com, in what are surely some of the Wisest words of the week given that that's what
analysts are paid to do (or so we've been led to believe).
While concerns about Asia and a shift in IT spending due to the Y2K problem are weighing on these
stocks, a report issued today by AMR Research Inc., a leading tracker of the ERP market, found that
price pressures, particularly on sales to mid-market firms with annual revenues of $50 million to $500
million, may be the most significant issue facing ERP vendors. A September/October survey of 12 of
the top 20 ERP companies traded on U.S. markets found that the average firm does 66% of its
business with U.S. corporations, 22% with European companies, and just 9% with the Asia-Pacific
region. Nearly all expect steady or increasing sales to the U.S. and Europe, with Europe looking a bit
weaker than the U.S. Even more interesting, three-quarters of the firms surveyed said they were
"seeing more deals because of Y2K," with one vendor claiming 25% of the deals "were closing faster"
because of the issue.
Bruce Richardson, VP of research strategy, said AMR continues to forecast "solid growth in most
parts of the enterprise applications market, including ERP, supply chain management, and customer
relationship management" but that "the growth is not being shared by all vendors." While sales cycles
have lengthened as companies make sure they're getting the best product functionality and service,
AMR expects sales will remain strong even during economic downturns. This makes sense given that
productivity gains and cost-cutting at Fortune 1000 companies have been partially driven by the
adoption of such enterprise and supply chain software.
While SAP and PeopleSoft seem like inevitable winners in the coming consolidation of the overall
enterprise space, getting a handle on product differences among industry players and tracking sales
(which often come in a flurry -- or not -- at the end of a quarter) can be a challenge for individual
investors. Indeed, trying to invest in this area often feels like an endeavor best left to Peter Lynch's
lame brained Houndstooth. On the other hand, some of the niche players seem like potential takeover
candidates at their current prices. By Motley Fool 10/21/98 |
