SAP SE Earnings - Q1 2025 Analysis
Positives
- Operating profit was up 58% in Q1, and the cloud gross margin improved by 2.6 percentage points to 75%.
- Operating cash flow in Q1 was up by 31% to €3.8 billion, and free cash flow increased by 36% to €3.6 billion.
- GROW with SAP had two-thirds of deals in Q1 were net new customers, which underlines the attractiveness of the offering for fast-growing companies in the mid-market.
- Non-IFRS operating profit was up 58% to €2.5 billion in Q1, way above the 26% to 30% growth rate if guided for the full fiscal year 2025.
- Operating profit was up 58% in Q1.
Q&A Highlights - Q1 2025
Analyst asked about the impact of the new regulations on the company's business and the success of the automated examples.
Christian Klein explained that the company has been seeing a lot of interest in their products and services from multinational companies looking to comply with new regulations. They have also been successful in automating processes and have seen a lot of positive feedback from customers.
Analyst asked about the deceleration in cloud deals and the impact of delayed ramp-ups.
Dominik Asam explained that the deceleration in cloud deals was caused by later timing of some cloud deals that were signed in Q4. He also mentioned that there was a certain lead time for provisioning these cloud deals, which resulted in a backlog in Q4. He also stated that the company expects to see a certain acceleration in Q2 due to easier comps.
Analyst asked about the driver of the backlog in CCB and the dynamics of the backlog in March and April across various end markets and customer groups.
The backlog in CCB was expected due to the technical effect of provisioning lead times, which causes late quarter-end closings to be in the backlog. The backlog will normalize as the seasonality of Q4 ends. The company is still on track to meet its guidance, and the CCB boost by the acquisition of WalkMe will also fade out towards the end of the year.
Analyst asked about the sustainability of the large deals and the FX assumption of $1.08/$1.14.
Christian Klein explained that the company is running an account planning process to ensure the value of deals and to secure large deals in the quarters to come. He also mentioned that there is a phasing in large deals, and this is natural given the mission-critical nature of SAP projects. Dominik Asam explained that a weaker dollar is a headwind for the company in the mid to long-term, but they have implemented hedges to protect their free cash flow. He also mentioned that the company has flexibility to protect both profitability and cash flow, and they are currently a little bit prudent in managing expenses.
Analyst asked about the potential impact of macro disruptions on SAP's pipeline conversion rates, specifically cloud migrations versus net new activity.
Christian Klein, CEO of SAP, explained that the company is seeing a slight acceleration of cloud revenue in Q2 due to the strong Q4 performance, but the CCB side is not volume-wise their biggest quarter. He also mentioned that Q4 will not have a big impact on this year's guidance, as the revenues will come next year. He stated that the company is still seeing conversion rates like last year's, but they are not seeing a large swing in cloud revenue and total revenue. He also mentioned that the company is seeing success with net new customers, such as VFS, who have outgrown their current ERP and need a suite that allows them to scale their business. He also noted that the company is seeing success with installed base customers, but it depends on where they are in their ERP lifecycle. He stated that the company remains confident for the rest of the year, despite the uncertainty in the macro environment.
Analyst asked about the impact of tariffs on hardware and servers on SAP's cloud gross margins.
Christian Klein, CEO of SAP, explained that the company's strategy is based on a 4+1 strategy, which includes four hyperscalers and their own Converged Cloud. He stated that the company has closed multi-year contracts with the hyperscalers, giving them price security, and they are consuming heavy volumes, which puts them in a solid position to extend those contracts. He also mentioned that the company has their own Converged Cloud, which helps them with AI and the chips. He stated that the costs for hardware have become materially cheaper, and the TCO improvements have helped to bring down costs. He also mentioned that the company is not planning to increase prices for customers due to tariffs, but they are not seeing a significant impact on their gross margins.
Analyst asked about increased client interest in SAP's own infrastructure offering due to geopolitical events and the possibility of revitalizing the offering or working with additional partners.
Christian Klein, CEO of SAP, replied that the company has not seen existing SAP customers changing their infrastructure due to geopolitical tensions or tariffs. However, some customers have reached out asking about the cost of moving to an SAP infrastructure or a sovereign cloud offering. SAP is building up capabilities in sovereign cloud offerings, including NS2 in the United States, and has signed deals in the public sector and Germany. Klein emphasized the importance of educating customers on what sovereignty means, and that it can mean different things, such as data location sovereignty or access to global networks.
Analyst asked about the risk of Business Data Cloud (BDC) crowding out or replacing other areas of spend, and whether it is purely an additive activity of creating an additional data lake to support the broader ecosystem.
Klein explained that BDC will not replace other assets in SAP's portfolio, and that the company has already removed data warehouse capabilities from its legacy and acquired stacks. He also mentioned that the value proposition of BDC is strong and that the company can price it with a good margin. The margin of BDC will come from the data products, which Klein expects to have a healthy margin in the years to come.
Analyst asked about the percentage uplift of BDC and the margin associated with it.
Klein stated that the technical integration of BDC with Databricks is already in place, and that the company is now building the data products. He mentioned that there will be an uplift in upselling and cross-selling, but it's hard to say at this point what the percentage uplift will be. However, he emphasized that the pipeline is developing well and the multiples look healthy.
