USATODAY.com - Oracle? Buy, sell or snooze?

I think Oracle might be undervalued again. As you can guess from the title USATODAY.com - Oracle? Buy, sell or snooze? suggests that Oracle is sleepy stock that isn't worth pursuing. That may be (certainly it has been true for last year or so). Let's go over Matt Krantz's arguments step by step.

"Step 1: Measure the stock's risk and reward."

Beta is the measure of how a stock's price moves in comparision with the overall market. According to Oracle's beta, the stock is extremely risky. (It also suggests that Oracle isn't a sleepy stock.) This chart illistrates the risk.

I think most people would be happy with this sort of risk, but it's obvious that if you bought at the wrong time (during 2000) you would have lost a ton of money. On the other hand, if you bought at some of the right times (not during 2000), odds are good you would have come out ok. (I originally bought in 2002, so I'm feeling pretty good about Oracle right now.) If you know how to evaluate Oracle, high beta is actually a plus.

"Step 2: Examine the stock's earnings multiple."

According to the article, Oracle looks pretty good from the P/E ratio standpoint. "But even this should give investors pause, because it shows that Oracle's profitability (defined by return on equity) also has been declining sharply. This is not an encouraging sign." As a matter of fact, since its peak in 2000, ROE has fallen from 97.5% to 26.6%. For comparision, Microsoft's ROE peaked in 1997 at 35.3% and fell to 10.9% for 2004. It's now at 25.5%—a bit less than Oracle. Let's just say, I'm not discouraged.

"Step 3: Calculate the company's value using forecasted future cash flows."

Using the discount cash flow tool at Smartmoney.com I find that is worth somewhere between $11.50 (if you take beta into account) and $13.18. The key assumption is a 12.2% growth rate over the next five years. I think this growth rate is possible, even likely, but I'll talk about why in a moment. Since Oracle is currently priced around $12.80, I'd say it's overpriced if you think beta is a good proxy for risk and fairly priced if you don't.

"Step 4: Check the USA TODAY Stock Meter score."

To be honest, I don't have any idea what this adds to the argument. I tried out a few other stocks to see what their "USA TODAY Stock Meter score" might be, and most companies seem to be in the 3.0 region. I guess I'm not sure what it tries to measure.

So the real question is will the aquistions of PeopleSoft and Siebel provide enough extra earnings to make Oracle's current price a bargain? I think Oracle paid too much for that to happen from cost-cutting alone. As a shareholder, I'm betting that there will be more opportunities for Oracle to sell expensive bundles to companies as a result of these aquisitions. I see Oracle in much the same situation that Microsoft was in around 10 years ago.