DAVOS: Cloud Has a Silver Lining for SAP

SAP's (SAP) outlook is full of clouds – but it isn't cloudy.

The Walldorf, Germany-based company, which provides software that helps businesses manage their back offices, warehouses, stores, desktop computers and mobile devices, spooked investors Tuesday by pushing back its margin target from 2015 to 2017.

SAP's American depository receipts slipped more than 2%, but the weakness is a buying opportunity for investors. The stock can add as much as 20% in the next 12 months as the company advances its transition from traditional software applications to cloud-based computing and analytics.

The stock traded at $80.43 on Wednesday afternoon, giving SAP a market value of $98 billion. Analysts, generally, are bullish on the stock, with a consensus price target of $86.56. However, the more upbeat estimates approach $96, which look feasible given the company's prospects.

"We are the fastest-growing mega-cap company in the information technology industry. We are also the fastest-growing mega-cap company in the cloud in the information technology industry," Co-Chief Executive Bill McDermott told a small group of reporters on the sidelines of the World Economic Forum in Davos Wednesday.

A day earlier, SAP reported preliminary results for 2013 that showed operating profit in 2013 increased 13% from a year earlier to 5.51 billion euros ($7.46 billion) on an 8% rise in revenue to EUR16.90 billion. Operating margin jumped by 1.5 percentage points to 32.6%.

The performance was impressive, but it was the outlook that got investors all jittery. SAP pushed its target for a 35% profit margin from 2015 to 2017.

McDermott attributes this to the shift in business to the cloud, where customers rent software rather than pay for it up front. "Instead of recognizing your software revenue all up front, you recognize it over time," McDermott says. "And it takes a few years before that starts to kick in. Therefore, for the first few years, it is going to flatten out the margin."

Investors seemed to ignore more positive aspects of the outlook: A 2015 revenue target of EUR20 billion, including $2 billion from cloud services, was updated to more than EUR22 billion, with EUR3 billion to EUR3.5 billion for cloud, by 2017.

"I can harvest the margin," adds McDermott. "That's not the hard part. The important part is to create a massive new business in the cloud for SAP."

SAP's ADRs trade at about 17 times forecast 2014 earnings of $4.75 per share. That looks a bit steep compared with rivals like Oracle (ORCL) and Microsoft (MSFT), both at about 13 times. But with HANA offering a single platform for its entire product portfolio, delivered on premises or in the cloud, SAP seems to be ahead of the crowd.

For SAP, the cloud could be a silver lining.