Last week, SAP SE reported the company’s Q2-2019 financial performance that in-essence provided additional signposts for customers with existing high supply chain management or Ariba B2B Network profiles.

 

Q2 Financial Performance Highlights

The Cloud Applications and ERP technology provider reported that total revenues of €6.6 billion, up 11 percent. That number was a disappointment to equity markets in that Q1 revenues had grown 16 percent.

Of that number, Q2 Cloud revenues were reported as €1.69 billion, up 40 percent, compared to the Q1 revenue number of €1.6 billion, up 45 percent year-over year.  In the briefing of financial performance, CFO Luka Mucic noted that Cloud revenues have grown 40 percent or higher in the last quarter. At face value, that would be impressive, save the fact that other Cloud software providers have also consistently reported double-digit growth rates. The total of Cloud and software revenues were €5.5 billion, up 11 percent. SAP reported an operating profit of €827 million, a 21 percent decline on a year-to-year basis. That number remains a concern to equity markets. Information Technology

The same equity markets were especially impressed with Microsoft’s blowout report of fiscal Q4 FY19 financial results that reported revenues for the company’s Intelligent Cloud business unit, that includes the Azure Cloud being reported as $11.4 B in revenues, up 19 percent. Total revenues for Microsoft were $33.7 B, up 12 percent, while operating profits were $12.4 billion, up 20 percent.

As in Q1, SAP continues to deal with the financial impacts of prior acquisitions, especially the announced acquisition of Qualtrics. Operating profit was impacted by higher share-price compensation related to the Qualtrics acquisition, as well as ongoing restructuring charges related to a higher than expected participation in voluntary headcount reduction announced last quarter. SAP’s CFO pointed to €600 million of charges related share-based compensation and €1 billion related to higher restructuring charges. Further noted was that 2019 full year operating cash flow is expected to be slightly lower than previous estimates because of an expense drag.

As noted in our Supply Chain Matters blog commentary reflecting on SAP’s Q1 financial performance, the global software company has declared Ambition 2023, a rather aggressive five-year window for tripling Cloud subscription and support revenues and growing total revenues to more than € 36 billion, with gross margins upwards of 78 percent. Further included is the stated goal of a dividend payout ratio of 40 percent or more of the prior year’s profit after tax.  That remains the shadow of the recent €1.2 billion stake taken by hardball activist firm Elliott Management. The Q2 financial performance likely added to building shareholder disappointment in SAP’s profitability track record and its share price underperforming.

In the briefing call to investors, CEO Bill McDermott had to respond to some specific questions on the future revenue and profitability outlook.

He once again reiterated that new recruits to the company will either code software, sell products, or will be on the front lines with customers. An internal process has been established to “manage headcount with an iron fist,” and that any proposed new hires must be evaluated by several different executives.

McDermott went somewhat further in his candor relative to products.

Regarding the S/4HANA ERP suite, he viewed that as the flagship platform, with more growth coming from the Cloud. “We’ve got more growth coming with S/4 HANA especially as more and more of it comes from the cloud.” Regarding database: “We’re going after the database market (with HANA) with all we have.”

 

The U.S. and China Trade Impact

A theme brought forward in SAP’s revenue shortfall discourse had somewhat to do with the impacts on global companies related the ongoing U.S. and China trade war. There was an admission that revenues originating from China and other Asia regions were not as strong in Q2. Noted was that companies are moving manufacturing away from China to alternative regions such as Malaysia, Vietnam or Mexico. Such dislocation, according to SAP executives had led to laggard deals across Asia while companies attempt to figure out the technology investment landscape.

CEO McDermott was quick to note that the Digital Supply Chain business grew in triple digits because: “many of the customers are now counting on SAP to help them.”

In candor, we were not at all sure how the above relates to the actual market given that other enterprise technology providers have not indicated weakness in Cloud and software sales due to the trade war. Connecting Q2 growth of Digital Supply Chain to the trade war is, from our lens, a bit of a stretch, but we’ll keep an open mind.

 

Added Supply Chain Matters Thoughts and Perspective

For SAP license and Cloud platform customers, Q2’s financial performance provides added indicators for what to expect in the coming quarters.

First, expect constant calls and meeting requests from multiple SAP sales teams. The heat is definitely raised for sales and profitability performance, along with accountability.

As noted in a previous blog, Resolving a Path Forward for Business Transformation in SAP Business Systems Landscapes, yet another architectural shift involving Cloud infrastructure platform, data warehousing, advanced analytics and business intelligence deployment is underway, and internal teams need to be educated as to what all that implies.

From a line-of-business (LOB) and supply chain systems support perspective, business demands and supply chain uncertainty factors are so elevated, that the status quo in process responsiveness and needs for more-informed decision making  can little be tolerated. No business wants to tolerate a mission critical systems disruption caused by an upgrade. Neither is their tolerance for multi-million-dollar systems conversions without clear accountability.

Processes and supporting systems need to be faster and more agile along with respective team decision-making, and the timeline is fast contracting.

SAP’s revised product strategies now compel on-premise customers to become more active in determining whether they elect to move to SAP S/4 HANA on-premise or various Cloud application deployments, or partner with other Cloud providers in areas of infrastructure platform, database, analytics, enterprise content or other supply chain specific business process and applications support needs.  There are further considerations for integrating physical and digital information sources and decision-making.

SAP has been clear that it does not intend to be in the Cloud infrastructure platform space, but rather the public Cloud. When under market or investor pressure, SAP’s go-to strategy has always been to leverage the global partner community with promises of large support and implementation revenue streams. Thus, customers will have to decide, which Cloud infrastructure platform provider, either AWS, Google, Microsoft or even Oracle are best suited for the reality of a hybrid integration landscape that will need to integrate on-premise with multiple Cloud platforms. The termed “SAP ring fence strategy” remains alive and well.

As noted, one of the most important considerations is the integration and normalization of data and information from a variety of sources. Some may have to remain on-premise because of information or process security needs, some may be in an individual business Cloud, some may reside on a physical device or digital twin, and some in a B2B Business Network or industry-centric Cloud.

There is the further consideration of the integrating end-to-end supply and customer demand channel networks together, which spans more than just indirect and direct procurement, but areas of product management, supply planning, logistics and channel customer fulfillment.

 

More Than an IT Response

This crossroads, and the systems deployment strategy implications cannot be delegated to the solely to IT or functional supply chain teams. It requires the education and consideration of C-Suite executives including the CIO, CSCO (Chief Supply Chain Officer) and other stakeholder executives.

From our lens, it is a best matching of timetables.

The timetable of your company’s business and supply chain process support needs, the associated internal budget and IT cost considerations, and the timetable of required time-to-value.

SAP’s timetable, as reflected in required financial performance, has other more obvious considerations. In some cases, there may be alignment, in others, there may not.

Rest assured, the stakes and the implications are indeed more compelling.

Bob Ferrari

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