By Harro Ten Wolde
WALLDORF, Germany (Reuters) – Europe’s largest software group SAP SE (SAPG.DE) cut its 2017 operating profit outlook on Tuesday, saying its push into cloud-based delivery will further eat into profit margins before clearing the way for profits to expand from 2018 onward.
The German company’s move to deliver business planning software via the cloud, or as internet services from datacenters rather than as packaged software on a customer’s in-house computers, has forced it to backtrack on near- and medium-term margin goals.
SAP is struggling alongside established U.S. software makers such as Oracle Corp (ORCL.N), IBM (IBM.N) and Microsoft Corp (MSFT.O) to boost internet-based software sales against competition from pure cloud-based rivals like Salesforce.com Inc (CRM.N), Workday Inc (WDAY.N) and Amazon.com Inc (AMZN.O).
SAP shares dropped as much as 4.4 percent in early trade, the biggest losers in Germany’s blue-chip DAX index (.GDAXI). In the past year, the stock has dropped more than 9 percent, underperforming most peers in the STOXX Europe 600 Technology Index (.SX8P), up more than 10 percent in the past 12 months.
SAP, one of Europe’s last big tech companies competing on a global scale, said it expects 2017 operating profit of between 6.3 billion euros (5 billion pounds) and 7 billion, excluding special items, on revenue of 21 to 22 billion. Its prior forecast was for operating profit around 7.7 billion euros.
At the midpoint of those ranges, the operating margin for 2017 would be just under 31 percent, well below a 35 percent target set a year ago.
“We are in a market-share game,” SAP Chief Executive Bill McDermott told reporters. “The more users and the more scale and reach you get, ultimately the more you win on the back-end when you have high renewal rates.”
SAP said it expects cloud software subscriptions and support revenue to approach the level of revenue from its traditional licensed software business by 2018. The company’s software runs multinational financial operations for many global firms.
Cloud software is expected to grow five times faster than classic packaged software over the next few years, research firm IDC predicts, as corporate customers switch to the cloud.
Delivering software via the Internet requires higher initial costs and revenue is realised over time, rather than upfront as for packaged software, weighing down short-term margins. Cloud delivery makes data easier to manage, analyse and use not just on computers but also mobile phones and other devices.
Looking further ahead, SAP said it is targeting operating profit, excluding special items, of between 8 and 9 billion euros in 2020 on revenue of 26 billion to 28 billion.
SAP had warned in September that it had to evaluate its mid-term targets after buying U.S. expenses software maker Concur for $ 7.3 billion, its largest merger deal ever, which it said will speed up its transition to cloud computing.
Chief Financial Officer Luka Mucic said in an interview SAP ruled out further large acquisitions over the next few years in order to concentrate on cutting its leverage and increasing dividends to shareholders.
“We will concentrate in the next three to four years on lowering our leverage, to raise our dividend and to grow organically via investments,” he said.
SAP last week said 2014 cloud software revenue rose 45 percent to 1.1 billion euros, but cloud growth continued to cut its profit margins, resulting in just a 1 percent rise in operating profit.
(Additional reporting by Eric Auchard in Frankfurt and Ilona Wissenbach in Walldorf; Editing by Georgina Prodhan and David Holmes)
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