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Oracle Corporation was founded with a mission of discovering and developing new and powerful ways to manage and access information. The company’s product focus is software and services for information management and Oracle has developed an international reputation in the field. However, in March of 1990, rumors spread among the investment community which triggered a considerable drop in the price of the company’s stock.
In September of 1990, because of mistakes made in the company’s finance department and a poor quarterly earnings report, the stock quickly dropped to an all-time low. This report seeks to identify by a financial analysis of historical data, why the share price dropped as low and as quickly as it did. Income Statement and Balance Sheet DataData in a consolidated income statement clearly show the company’s priority on growth. Revenues from services showed proportionally large increases in overall revenue generation over the time period under study.
Overall, income statement data showed signs of increasing profitability and growth followed by decreasing profitability and slower growth. A considerable reduction in company financial performance occurred during the time preceding and at the time of the share price reduction. Operating capital, which roughly measures the company’s reservoir of cash, started a decline in 1988 and continued into the first quarter of 1991. Accounts payable showed a decrease during 1985-1990 as did accrued expenses, however, long-term debt showed strong increases preceding and at the time of share price reduction.
Statement of Cash Flows and Financial Ratio DataWhile net income showed a gradual increase from 1985 to 1991, cash flow from operations started a general decline in 1988 which continued throughout the time period under study. Oracle was successful in generating cash immediately preceding the share price reduction by reducing the number of fixed and non-current assets, however, the company had to greatly increase financing to cover the decline of cash production from operations. The statement of cash flows clearly represents a deteriorating condition which must be corrected if the company is to remain in operation.
Financial ratio data mirrored the trends in income and cash flows, with decaying indicators for Oracle beginning in 1987 to the first quarter of 1991. For example, all three solvency ratios followed similar trends, with higher debt during 1985-1986, followed by a period of decreasing debt (1987-1988), then a period of increasing debt (1889-1990). All financial ratio data indicated a deteriorating condition for the organization which had to be rectified if the company was to remain in operation.
ConclusionThis case is an excellent example of the efficiency of analysis and evaluation of companies receiving funding through capital markets. The Oracle Corporation is now flourishing, but in order to make it through the difficult times in the late 1980’s and early 1990’s described in this report, the company had to lay off employees, refocus the company’s major priorities from growth to profitability and product quality, as well as make changes in its policies on software revenue recognition. The proper financial analysis is most important in the continual valuation of corporations in free market economies.
This case is an excellent example of the introduction race Systems Corporation, now named only Oracle Corporation, was founded in 1977 with a mission of discovering fast, easier, less expensive and more powerful ways to manage and access information. Since the company’s founding, Oracle has been solving difficult and critical information management challenges for companies of all types and sizes. Indeed, Oracle is now the world’s largest independent provider of software and services for managing information with over 20,000 dedicated software professionals, and operations in several countries.
Oracle’s market focus is database management software, and in 1990, the market demand for these products exceeded $10 billion. The company built the first commercial relational database system and marketed the first products employing SQL (structured query language), now the industry standard (Table 1). Oracle also saw the value of low-cost, client/server systems instead of mainframes, pioneered portable software that today runs on practically all hardware in most computers.
In recent years, the company has supported parallel software as the breakthrough that will drive very large database applications. Table 1 illustrates some of the major milestones for the company preceding and during the time of this case. The company’s technology innovations have helped drive the computer industry to where it is today and has enabled computer users to be more productive and more competitive with systems that cost less but do more. Oracle radically increased it’s sales every year from 1980 to 1989 (Exhibit 1). This focus on software innovation and expansion plans why Oracle’s information management software has been such a leader guiding the world into the Information Age. Table 1. Major milestones for the Oracle Corporation preceding and during the time of this case. | Oracle up to September 1990, had an aggressive business strategy where major priorities were focused on 5 specific areas: * Sell aggressively * Maintain technology and product leadership * Diversify into related fields * Expand internationally on March 20, 1990, the company reported quarter earnings which essentially changed little from the previous year’s first quarter.
Rumors such as a decline in quality, increases in accounts receivable, as well as reports of key employees leaving the company triggered a considerable drop in the price of the stock (Figure 1). After the drop in price, several lawsuits were filed against the company because of believed fraud and misrepresentation. On September 25, 1990, the Oracle reported its first quarterly loss (Exhibit 1). Because of the mistakes made by the company’s finance department, there was a reorganization within the company, and a large number of employees were laid off.
The company announced it would then emphasize profitability and product quality rather than sales growth to calm market concerns. Following the September announcement, the stock dropped to an all-time low of $8. 125 per share (Figure 1). The analysis described in this report seeks to determine by financial statement evaluation why the share price fell so low, and whether such a drop was warranted given the content of published financial statements available to investors. | | | Figure 1.
An illustration of the month-end share prices (adjusted for stock splits) for Oracle Corporation from 1/89 to 6/90. ANALYSIS We will first summarize income and growth patterns over a period of six years, followed by balance sheet accounts and cash flow characteristics. Then three broad categories of performance by financial ratio analysis will be evaluated. Finally, using data collected on the Internet, the performance of Oracle shortly following the time of the case will be described. Company Growth and Income
Growth was a priority for Oracle for many years. Figure 2 plainly shows this phenomenon by graphing overall operating expenses and net income from 1984-1990. Net income increased only linearly for much of the period while revenue and operating expenses increased exponentially (Figure 2). However, a common sized income statement shows that the increases in operating expenses, revenue, and net income were variable but followed similar trends during the time period under consideration (Exhibit 5).
These data do however clearly illustrate the rapid growth of the company from 1984 to 1990 (Figure 2). An income statement showing trends was constructed to view percent changes by account over time. Revenues from services showed striking changes over the period especially during 1987 as did taxes (Exhibit 4). Notably smaller increases occurred in nearly all accounts during 1990 in comparison to the previous 3 years, helping to illustrate the poor financial condition of the company.
When a common-size income statement was produced, the most notable changes over the time period from 1984 to 1990 was the increase in revenue from services and an increase in sales and marketing costs, as well as a reduction in general and administrative expenses (Exhibit 5). | Figure 2. The growth of the Oracle Corporation simply illustrated by comparing the increase in operating expenses compared to the increase in net income. Balance Sheet Accounts Operating capital, which roughly measures the company’s reservoir of cash, started a decline in 1988 which continued into the first quarter of 1991 (data not shown).
Cash and cash equivalents also showed a continuing decline starting in 1987, suggesting a need for Oracle to practice better cash management (Exhibit 2). When a common-size balance sheet was constructed, this trend in cash was obvious (Exhibit 6). Accounts payable showed a favorable decrease as did accrued expenses during the time period under study, but long-term debt showed a striking increase especially during the first quarter of 1991 (Exhibit 6). These data indicate a serious lack of operating capital and should be of major concern for the company (Exhibit 2 and 6).
Oracle Cash Flows A consolidated statement of cash flows for the Oracle corporation from 1985 to 1991 was calculated from income statement (Exhibit 1) and balance sheet data (Exhibit 2) by hand and computer using the indirect method (Exhibit 3). While net income showed a gradual increase, cash flow from operations started a general decline in 1988 (Figure 1, Exhibit 3). Cash from investing declined steadily until the first quarter of 1991 [Figure 1: orange dotted line (annualized data); Exhibit 3].
Thus, Oracle was successful in generating cash by a reduction in fixed and other non-current assets during the first quarter of 1991, however, cash from financing (Figure 1: red solid line) had to greatly increase to fund the poor cash generation by operations (Figure 3: blue solid line; Exhibit 3). Obviously, this represents a deteriorating condition which must be corrected if the company is to continue functioning and undoubtedly is at least partly responsible for the poor performance of the company’s stock during the first three quarters of 1990 (Figure 1).
Net change in cash during 1990 was only $485,000, a cause for major concern especially considering the amount of debt the company took on during 1990 and the first quarter of 1991 (Exhibit 3). Figure 3. Cash flow characteristics of the Oracle Corporation from 1985 to 1991 (Note: 1991 data have been annualized from the company’s first-quarter report). Net cash flow from operations: blue solid line; net cash flow from investing: orange dotted line; net cash flow from financing: red solid line; net income: green dotted line.
Financial Ratio Analysis In order to more thoroughly analyze company financial data and hopefully determine more clearly why the company’s share price fell so drastically from December 1989 to September 1990, financial ratios were calculated and compared for Oracle using historical data from 1985 to 1990 in three major categories: * Profitability – how profitable is the firm for investors, * Asset Management – how well is the firm managing its assets, * Solvency – how heavily the company is in debt.
In addition, financial ratio data was obtained from a number of software companies and averaged in order to estimate an industry mean figure for each calculation. Table 2 shows a complete list of the companies used to create industry mean financial data. Table 2. The name of companies whose data were included in determining an industry means value for financial ratios. | Profitability Ratios. Exhibit 6 shows six different measures of profitability.
In all cases these measures showed an upward trend from 1985 to 1988 (Exhibit 6), however, nearly all began a decline starting in 1989 (some in 1988), indicating reduced operational efficiency and a poor return on the company’s assets and equity (Figure 4 ). These data in combination with the cash flow statements (Exhibit 3) are worrisome and suggest Oracle must take immediate action in order to preserve the integrity of the corporation. These characteristics again show that the company is moving into dangerous territory and could lead analysts into devaluing the companies share price (Figure 1).
Asset Management Ratios. Asset Management ratios were calculated for the company using historical data or taken directly from the case. The average collection period decreased during the data series from a high of 418. 5 to 292. 7 days during 1990. These data suggest that Oracle is practicing good receivables management, however, the industry average is 102 indicating receivables management could definitely be improved (Exhibit 7). Inventory turnover decreased from a high in 1985 of 69. 97 days to its lowest of 18. 0 days in 1990, considering the fiscal state of the company, this reduction may indicate that Oracle is living from “hands to mouth,” because the industry average is 73. 14 days (Exhibit 7). | Figure 4. Return on assets and return on equity for the Oracle Corporation from 1985 to 1990. Solvency Ratios. Ratios for solvency, measuring the firm’s ability to meet its financial obligations, were obtained directly from calculations in the case. Three ratios were evaluated, debt/total assets, debt to equity, and times interest earned (Exhibit 7).
All three ratios followed similar trends, with higher debt during 1985-6, followed by a period of decreasing debt (1987-8), then a period of increasing debt (1889-1990; Exhibit 7). These measurements match those observed in the statement of cash flows, where the company must take immediate action if it wants to remain solvent by containing costs, focusing on product quality rather than growth, and exercising great care in the utilization of its resources. Performance of Oracle Corporation during the early 1990’s to the Present Oracle has done quite well since the publication of this case.
Indeed, the company has very impressive financial data published on the Internet. Figure 5 compares net income during 1990 with the net income during 1992 -1996 as listed on the company’s Internet materials. Oracle plainly states on the materials relating to financial performance on the Internet, that effective June 1, 1992, the company changed its accounting practices for recognizing software revenue. Before this change, 1993 net income was $141,726,000 while after the change net income during 1993 was $216,979,000, a 51. 1% increase. | Figure 5.
Net income data for the Oracle Corporation for 1990 (yellow bar) and for years 1992 to 1996. CONCLUSION This case clearly illustrates the need for constant monitoring of company financial data both inside a particular company, as well as by stock analysts. The case also shows an excellent example of the efficient market hypothesis, where a company’s stock price contains all publicly available information. Figure 1 shows the rapid adjustment of Oracle’s share price during 1989 and 1990 quickly following the release of quarterly earnings and other information.
A consolidated statement of cash flows was constructed from the income statement and balance sheet data and was most beneficial in following the financial decline of the company during the time period under evaluation (Exhibit 3). Oracle in response to a strongly declining financial condition made a number of internal adjustments, including company layoffs, a changing focus from growth to product quality and profitability, as well as a change in revenue recognition rules.
The company also paid off a considerable amount of debt in the early 90’s (data not shown). Cumulatively, these changes resurrected the company in the eyes of investors and have moved Oracle into solid financial condition. This assignment clearly illustrates the critical role financial analysis plays in the successful functioning of economies based on capital markets. Exhibit 1 Oracle Systems Corporation Income Statements, 1984-1990 (Thousands of Dollars) Exhibit 2 Oracle Systems Corporation
Balance Sheets, 1985-1990 (Thousands of Dollars) Exhibit 4 Oracle Systems Corporation Trends Analysis: Income Statement (Thousands of Dollars) Exhibit 4, concluded Oracle Systems Corporation Trends Analysis: Income Statement (Thousands of Dollars) Exhibit 5 Oracle Systems Corporation Common-Size Income Statement, 1984-1990 (Thousands of Dollars) Exhibit 6 Oracle Systems Corporation Common-Size Balance Sheet (Thousands of Dollars) Exhibit 7 Oracle Systems Corporation Financial Ratios