Some analysts fail to see Conway's elephant

Some market analysts are not buying PeopleSoft CEO Craig Conway's argument that Oracle's takeover bid is the main cause (or, as Conway put it, the "elephant in the room") behind PeopleSoft's latest earning shortfall. In particular, Charlie Di Bona writes in a research note (quoted in an article in The Street):

We remain unconvinced that this [the Oracle hostile bid] was the sole factor behind the shortfall. Instead, we believe PeopleSoft was impacted by the same market factors impacting Siebel Systems and other applications vendors that missed: namely an infrastructure-focused software spending cycle; systemic pricing pressure exacerbated by the declining cost of custom development; and overblown expectations for the past several quarters that had pressured companies to meet numbers even if that meant draining pipelines.

Let's take a closer look at what Di Bona says are the strategic factors that are working against application software vendors today:

1. At this point in the economic cycle, customer spending appears to be oriented more toward infrastructure software (operating systems, databases, messaging, middleware, etc.) than application systems.
   


2. The cost of custom development is declining, probably due to cheaper labor offshore, which is putting pricing pressure on application software providers. I'm not sure I buy that for general purpose applications (e.g. financials, HR, manufacturing), but it might be the case for company-specific applications.
   


3. In order to pump up their financial results, application software vendors have been discounting heavily in the past several quarters, which has "drained the pipeline." This is exactly the point that I made in my post yesterday.

As evidence that it's not delayed sales that are the problem, Di Bona pointed out that the total number of PeopleSoft sales transactions increased in the quarter from 596 in Q1 to 725 in Q2, and the number of new customers increased from 120 in Q1 to 160 in Q2. At the same time the average selling price dropped from from $382,000 in Q1 to $346,000 in Q2.

If customers were delaying deals based on Oracle concerns, it doesn't seem logical that transaction volumes should be up sequentially given the abundant press reporting of the trial in the second quarter....If customers are truly delaying purchases because they are concerned about PeopleSoft's future independence, then price should be immaterial and even heavy discounting would not drive any sales.

So, if Di Bona is correct, PeopleSoft's problems go beyond the uncertainty around Oracle's takeover bid. We already know from the Oracle trial that in competitive situations the major application vendors are discounting to a much greater extent than most of us realized. Although PeopleSoft is the latest example, most of the major vendors, with the exception of SAP, are posting disappointing performance. Apart from a general lackluster recovery in the tech sector, perhaps Di Bona has identified some of the reasons. If Di Bona's analysis is legitimate, it's going to mean continued tough going for most vendors.

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