Adobe and Salesforce overturn the old software order in a cloud revolution

Shantanu Narayen, the chief executive of software company Adobe, sounds almost incredulous about his company’s recent stock market transformation.

Best known for its Photoshop image-editing software and Acrobat document reader, Adobe had a stock market value of $8 billion in the wake of the financial crisis. Late last week, however, it overtook Oracle to become the world’s second most valuable software company after Microsoft, with a stock market value of more than $170 billion.

“We’re worth more than Oracle, we’re worth more than SAP — we’re worth a lot more than IBM,” said Narayen, ticking off the old powers of the IT world that his company has eclipsed. His short explanation for this reordering of the pecking order in tech: “We’re all about growth.”

There has been a changing of the guard in the software world. A rejuvenated Microsoft, under Satya Nadella, still sits at the top of the heap. But below it, companies growing fast on the back of cloud computing have benefited from a surge in investor interest.

Salesforce, known for its cloud-based sales automation software, itself overtook German software maker SAP in market value last week and is now within 4% of overtaking Oracle. For Marc Benioff, the former top Oracle salesman who co-founded Salesforce 21 years ago, that would represent a big victory over his former mentor, Larry Ellison. The Oracle boss long scoffed at what he claimed was the faddishness of Wall Street’s infatuation with cloud stocks.

Speaking late last week, Benioff wouldn’t be drawn in on the rivalry with his old employer, but was dismissive of Oracle’s own stuttering efforts to latch onto the cloud.

“Customers don’t talk about them much,” Benioff said. Pointing to the sales growth that has lifted companies such as Salesforce, he added: “The customers have spoken, in terms of the revenue acceleration of the cloud companies.”

With stock market investors starved of growth, cloud software has become “one of the only durable growth markets out there right now in a low interest rate environment,” said Alex Zukin, a technology analyst at RBC Capital Markets.

Public fascination with the most recent generation of highly valued tech startups, or unicorns, has centered on companies that serve consumer markets, like Uber and Lyft (now valued at $62 billion and $14 billion, respectively). But business software startups have turned out to be a more reliable bet, with companies such as ServiceNow and Shopify — each founded within the last seven years — now worth $64 billion and $54 billion, respectively.

The rise of cloud software has been a rapid one. Seven years ago, Adobe became the first traditional software company to jettison its old way of doing business — shipping discs loaded in return for an upfront license fee — and make the switch completely to the cloud.

Salesforce Tower dominates the skyline in San Francisco.

(Josh Edelson / For The Times)

Swapping upfront license sales for regular subscription fees meant delaying the recognition of revenue until future years, leading to a pause in reported sales. It took three years for Adobe’s revenue to get back to the point it had been at the start of the transition. But in the four years since, it has jumped more than 130%.

Both Adobe, which makes tools for creative professionals and marketers, and Salesforce, which expanded from sales to marketing departments, have benefited from the greater penetration of software in the “front office” of businesses, reshaping the roles of many people whose jobs involve dealing with customers.

This was partly a result of luck, said Zukin: As online interaction began to produce a deluge of data from customers, both companies were well placed to help businesses understand and manage the new flood of information.

Adobe, whose core software products were used by creative types like designers and illustrators, benefited from an explosion in digital content creation that came with the advent of smartphones and the cloud. The cloud also opened the way for “measurement and monetization,” said Narayen — giving marketers tools to analyze how people were interacting with their content, as well as ways to cash in on it.

Companies of all types are still at an early stage of reshaping their operations around this new fount of customer data, added Benioff. “We’re just still at the beginning of the digital transformation of so many companies,” he said.

Making their software applications available over the cloud has also made it possible to reach many more users. “We used to serve the top of the pyramid, people [in creative jobs] viewed us just as people in finance view the Bloomberg terminal,” said Narayen. Low-cost versions have expanded the market, particularly in the developing world, he added.

The huge shift in stock market value to companies that have risen with the cloud also speaks volumes about the struggles of the old guard to latch onto the cloud revolution. Shares in SAP dropped 6% last week after it reported a falloff in new cloud business, with a deceleration in bookings to 17% in the most recent quarter, from 34% in the preceding three months.

Salesforce founder Marc Benioff: “The customers have spoken, in terms of the revenue acceleration of the cloud companies.”

(Eric Risberg / Associated Press)

SAP has placed some big bets on the cloud, including two $8-billion acquisitions in recent years — of Concur, whose software is used to manage travel expenses, and Qualtrics, which runs online surveys. But SAP’s main growth has come from reengineering its original back-office applications to process and analyze large volumes of data more rapidly. What cloud growth it had managed had come from “add-on services and applications” rather than its core business, said Kevin Walkush, a portfolio manager at Jensen Investment Management.

Shares in the German software maker have at least fared better than Oracle, whose stock has underperformed the wider U.S. stock market by 60% over the last five years. But SAP and Oracle have been held back by their focus on back-office systems, said Brent Thill, an analyst at Jefferies — a result of their rise at a time when enterprise resource planning, or ERP, was the driving force in business automation. “Neither has figured out the front office,” Thill said.

“It takes years to implement an ERP system, and once it’s implemented you want to run it for years” rather than replace it with cloud software, said Walkush at Jensen, an Oracle investor. In addition, he said, companies using cloud services had become less concerned about the underlying technology they ran on — eroding the loyalty toward Oracle’s database software, which has been a core part of the IT foundation for many corporate applications.

In its fiscal year ending in May, Oracle is expected to generate revenue of about $40 billion — only 8% more than it did eight years before. The company stopped disclosing its cloud revenue separately in 2018, adding to worries on Wall Street about the slow pace of the transition.

The huge valuation swing to fast-growing cloud software companies, meanwhile, has left them more vulnerable to any shift in stock market sentiment or economic outlook. For companies such as Salesforce and Adobe, investor attention has also started to focus on profit margins as well as growth, as they digest recent acquisitions and their sales growth moderates.

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