Q3 2023 Summary
Published Jan 28, 2025, 4:43 PM UTC- Strong Demand for Cloud ERP Solutions despite Macroeconomic Headwinds: SAP is experiencing robust momentum in both converting its installed base to the cloud and attracting new customers with offerings like RISE with SAP and GROW with SAP. Customers are focusing on transforming and future-proofing their businesses, making ERP in the cloud a critical component of their strategy. This resilience is evident even during macroeconomic uncertainties.
- Unique Position in Business AI with High-Quality Data: SAP's Business AI strategy, including the launch of the digital copilot Joule, leverages its comprehensive access to structured business data. This positions SAP to provide significant value to customers by offering accurate and authorized AI-driven insights that competitors may not replicate easily. The ability to cross-correlate data and provide high-quality, reliable AI solutions differentiates SAP in the AI space.
- Improving Cloud Gross Margins through Operational Efficiencies: SAP is enhancing profitability by improving cloud gross margins. The adoption of scalable platforms like the Business Technology Platform (BTP) and ongoing operational efficiencies are contributing to margin expansion. This focus on efficiency not only boosts current profitability but also sets a foundation for sustainable growth.
- Potential decline in Q4 operating profit due to unpredictability in software license revenue, increased FTE costs, and accelerated amortization of capitalized sales commissions. Dominik Asam mentioned that Q4 is the biggest quarter for licenses and is difficult to predict. Additionally, the accelerated amortization of commissions will weigh on Q4 results, similar to the EUR 65 million impact in Q3. Increased headcount will also impact the P&L in Q4.
- Macroeconomic headwinds in the Americas region, particularly affecting transactional revenues from Concur, Fieldglass, and Ariba. Christian Klein noted that these businesses have dominant share in the Americas and are experiencing macroeconomic challenges. The transactional revenue was flat or slightly down, and there is uncertainty about improvement in upcoming quarters.
- Decline in software license and maintenance revenues expected in Q4, with software licenses being notoriously difficult to predict. Dominik Asam stated that they are expecting a significant decline in software licenses in Q4, which could negatively impact total revenues and operating profit. This uncertainty in on-premise revenue streams adds risk to achieving financial targets.
-
Cloud Revenue Growth Guidance
Q: What drives cloud revenue acceleration into Q4?
A: SAP expects continued acceleration in cloud revenue growth into Q4, driven by factors such as the annualization of the Litmos divestiture, which will no longer be a headwind. Dominik Asam noted that the underlying growth rate is already close to 24%, which is needed to fulfill the lower end of the guidance. The transactional business, which was flat or slightly down, is not expected to be a strong headwind moving forward. Despite macroeconomic challenges, SAP feels confident in achieving its cloud revenue guidance.
-
Operating Profit Guidance
Q: Why is Q4 operating profit growth expected to decline?
A: SAP's implied operating profit growth guidance suggests a decline at the low end due to several factors. Dominik Asam explained that increased headwinds include the impact of the Litmos divestiture and challenges in the transactional business. SAP has added a net of 1,200 FTEs, which will impact operating expenses in Q4. Additionally, the company recognized an accelerated amortization of commissions of €65 million in Q3 and expects a similar amount in Q4. These factors contribute to a more prudent outlook for Q4 operating profit growth.
-
AI Strategy and Pricing
Q: How does SAP differentiate in AI, and what's the pricing feedback?
A: SAP leverages its integrated data model and authorization concepts to provide accurate and relevant business AI solutions. Christian Klein highlighted that SAP's ability to cross-correlate data and ensure data quality makes its AI offerings highly valuable. Regarding pricing, SAP introduced the RISE premium offering, which includes AI features and other advanced capabilities at a premium price. Customer feedback has been positive, and SAP offers flexibility with consumption-based pricing models for AI embedded in its products.
-
Cloud Gross Margins
Q: What is driving improvements in cloud gross margins?
A: Improvements in cloud gross margins are driven by the scalability of SAP's Business Technology Platform (BTP). Christian Klein noted that BTP is a native cloud platform, and continuous efforts to optimize total cost of ownership, such as innovations with AWS on ARM architecture, contribute to margin enhancements. Dominik Asam mentioned that the cloud gross margin expanded by about 2.4 percentage points year-over-year in the first nine months, aligning with the trajectory for the 2025 cloud gross profit guidance.
-
Pipeline and ERP Cloud Adoption
Q: Are you seeing any slowing in pipeline or differences in customer adoption?
A: SAP continues to see strong momentum in converting its installed base to the cloud and attracting new customers through GROW with SAP. Christian Klein stated that the pipeline remains healthy, citing LG Electronics as an example of customers undergoing significant transformations requiring new ERP systems. Despite macroeconomic challenges, SAP's relevance to customers' transformation efforts keeps demand robust.
-
S/4HANA Cloud Adoption
Q: What's the progress on S/4HANA Cloud adoption among large customers?
A: Large enterprises are transforming their businesses by moving to S/4HANA Cloud through multiyear programs like RISE with SAP. Scott Russell explained that customers are not just migrating to the cloud but also optimizing their core processes to seize future opportunities. These initiatives contribute to SAP's total cloud backlog and set the foundation for future innovation, including generative AI integration.
-
Americas Market Performance
Q: What's happening in the Americas market?
A: While SAP observed balanced performance globally, the Americas, particularly North America, faced macroeconomic pressures. Scott Russell noted that the market remains highly competitive with high expectations, but SAP continues to see strength in the region. Christian Klein added that the transactional businesses of Concur, Fieldglass, and Ariba, which are dominant in the U.S., experienced some macroeconomic headwinds.
-
Maintenance Revenue Outlook
Q: Will maintenance revenue remain stable with price increases?
A: Maintenance revenue has been down only 1% for three consecutive quarters. Dominik Asam indicated that the key variable is software licenses, which are more volatile, especially in Q4. The company remains prudent in its assumptions for software revenue but did not provide specific guidance on maintenance revenue.
-
Free Cash Flow Guidance
Q: Are there specific factors affecting Q4 free cash flow guidance?
A: SAP expects free cash flow to be on a good trajectory but acknowledges some phasing topics that make precise predictions challenging. Dominik Asam mentioned that they aim for a clean underlying free cash flow of €7.5 billion by 2025 but have not updated the current guidance due to uncertainties. The company is monitoring payment receipts and does not expect any significant surprises.
-
Amortization Period Change Impact
Q: What is the impact of the amortization period change?
A: SAP shortened the amortization period for sales commissions due to updated forward-looking assumptions about the lifetime of support revenues. Dominik Asam explained that this change reflects the shift from on-premise to cloud and increased adoption of RISE with SAP. The impact on 2025 is expected to be minimal, as the company will benefit from having taken less capitalization by then.
-
Stock-Based Compensation
Q: Any updates on stock-based compensation treatment?
A: SAP aims to keep stock-based compensation expenses steady and dilute them as a percentage of revenues over the coming years. Dominik Asam emphasized that stock-based compensation is considered a real expense, representing value transferred from shareholders to employees. The company plans to provide more details on handling this in 2024 during its January update.