SAP SE (SAP) Q2 2025 Earnings Call Transcript

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Overview

The earnings call highlights robust financial performance, with significant growth in cloud revenue and free cash flow. The Alibaba partnership is a positive catalyst, enhancing market potential in China. Despite some uncertainties in megadeals and elongated deal cycles, the company's strong pipeline and strategic initiatives like AI integration and the Business Data Cloud are promising. The cautious guidance and potential severance payments are concerns, but overall, the positive aspects outweigh the negatives, suggesting a positive stock price movement in the short term.

Key Financial Performance

Cloud Revenue Cloud revenue rose 28% year-over-year in Q2 2025, marking an increase of 2 percentage points compared with Q1. This growth was driven by the Cloud ERP Suite, which has been expanding at a rate of over 30% for 14 consecutive quarters.

Total Revenue Total revenue grew by 12% year-over-year in Q2 2025. This growth was attributed to broad-based strength, particularly within the share of more predictable revenue, which increased to 86%.

Current Cloud Backlog The current cloud backlog grew by 28% year-over-year in Q2 2025, reaching EUR 18.1 billion. Despite currency headwinds, this growth reflects strong performance in cloud bookings.

Operating Profit Operating profit surged 35% year-over-year in Q2 2025, reaching EUR 2.6 billion. This increase was driven by cloud revenue growth, expanding cloud gross margin, and a significant reduction in share-based compensation expenses.

Software Licenses Revenue Software licenses revenue decreased by 13% year-over-year in Q2 2025. This decline aligns with SAP's strategy to transition customers towards cloud-based solutions like RISE and GROW with SAP.

Cloud Gross Margin The non-IFRS cloud gross margin expanded by 1.8 percentage points year-over-year in Q2 2025, reaching 75.2%. This improvement was driven by strong cloud revenue growth and operational efficiencies.

Free Cash Flow Free cash flow increased by 83% year-over-year in Q2 2025, reaching EUR 2.4 billion. This growth was mainly due to higher profitability, positive working capital development, and lower payouts for share-based compensation, restructuring payments, and income tax payments.

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Operating Highlights

Cloud ERP Suite: Cloud ERP Suite continued to grow at a rate of over 30% for 14 consecutive quarters, driving cloud revenue growth of 28% in Q2. It remains a foundational part of SAP's cloud business, representing 86% of total cloud revenue.

Business AI: SAP is rapidly increasing productivity with Business AI. Over half of cloud order entry volume in Q2 included AI use cases. SAP released 14 AI agents in H1 2025 and plans to release 40 by year-end, addressing various business functions.

SAP Business Data Cloud: The pipeline for Business Data Cloud is growing rapidly, with key customers like Adobe and GSK adopting it. Over 100 prebuilt SAP-managed data products have been released, with plans to double this by year-end.

Strategic Partnership with Alibaba: SAP entered a strategic partnership with Alibaba to roll out SAP Business Suite end-to-end and address market potential in China.

Regional Performance: Cloud revenue growth was particularly strong in APJ and EMEA regions, with outstanding performance in countries like Brazil, India, and South Korea.

Operating Profit: Operating profit surged 35% in Q2, driven by cloud revenue growth, cost base improvements, and internal adoption of Business AI.

Free Cash Flow: Free cash flow increased by 83% to EUR 2.4 billion in Q2, supported by higher profitability and positive working capital developments.

AI-Driven Transformation: SAP is transforming its workforce with AI, reskilling employees, and reducing headcount in areas with lower demand. AI is also being used internally to boost productivity, such as increasing sales productivity by 50% and developer efficiency by 30%.

Focus on Cost Discipline: SAP is decoupling expense growth from revenue growth through strict cost discipline and transformation programs, ensuring resilience amidst market uncertainties.

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Risk or Challenges

Global Market Uncertainty: Uncertainty in global markets from earlier this year remains, impacting customer decision-making and extending approval workflows in industries such as the U.S. public sector and manufacturing.

Geopolitical and Trade Policy Risks: Ongoing uncertainty about trade policy is contributing to elongated sales cycles in sectors like the U.S. public sector and industrial manufacturing. This could pressure global trade and customer decision-making if prolonged.

Currency Headwinds: Currency fluctuations have created headwinds, impacting financial performance despite strong revenue growth.

Elongated Sales Cycles: Extended approval workflows and elongated sales cycles in certain sectors are delaying deal closures, particularly in the U.S. public sector and manufacturing.

Dependence on Cloud ERP Growth: The company's strong performance is heavily reliant on the Cloud ERP Suite, which, while growing, represents a concentration risk if growth slows.

Software License Revenue Decline: Software license revenue decreased by 13%, reflecting a shift to cloud-based solutions but also indicating a decline in traditional revenue streams.

Macroeconomic Volatility: Broader macroeconomic volatility, including geopolitical developments, could impact customer spending and decision-making.

Operational Efficiency Challenges: The company is undergoing workforce transformation, including reskilling and reductions, which could pose challenges in maintaining operational efficiency during the transition.

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Guidance & Outlook

Pipeline for H2 2025: SAP has an excellent pipeline for the second half of 2025 in almost all markets and regions, despite some industries experiencing extended approval workflows.

AI Adoption and Product Innovation: SAP expects Business AI adoption to further accelerate with the release of 40 AI agents by the end of 2025, covering various business functions such as finance and supply chain management.

Cloud Revenue Growth: SAP anticipates continued strong performance in its Cloud ERP Suite, which grew by 34% in Q2 and represents 86% of total cloud revenue.

Market Uncertainty Impact: SAP is preparing for potential adverse outcomes due to ongoing geopolitical and trade policy uncertainties, which have elongated sales cycles in sectors like U.S. public sector and manufacturing.

Cost Discipline and Profitability: SAP remains focused on disciplined execution, cost control, and protecting its bottom line and free cash flow for the remainder of 2025.

AI-Driven Workforce Transformation: SAP is transforming its workforce with AI, including reskilling, reductions in low-demand areas, and hiring for future-focused roles like data and Business AI.

Data Product Expansion: SAP plans to release over 200 prebuilt SAP-managed data products by the end of 2025, covering the entire Business Suite.

Regional Performance: SAP expects strong cloud revenue performance in APJ and EMEA regions, with solid performance in the Americas.

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Shareholder Return Plan

The selected topic was not discussed during the call.

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Key Q&A

Q:Can you discuss the operating margin and EBIT growth for the second half of the year?

A:Dominik Asam explained that the strong performance in the first half was partly due to a EUR 331 million improvement in stock-based compensation. He mentioned ongoing workforce adjustments, including hiring for AI transformation and potential severance payments. The full-year guidance is on track, with cloud revenue being a protective factor against trade disputes.

Q:How sustainable are the substantial margin improvements, especially with AI investments?

A:Dominik Asam stated that operating leverage will remain in the 80%-90% range. He highlighted the impact of a recent restructuring that eliminated 10,000 jobs and mentioned potential for further improvements in selling expenses, R&D, and G&A. He noted that gross margin improvements will slow due to fewer one-off effects.

Q:Can you provide details on the Alibaba partnership and its impact on the Chinese market?

A:Christian Klein explained that the partnership allows SAP to deliver cloud solutions in China for China, addressing trade conflict challenges. He noted significant growth potential in the Chinese market, particularly with tech companies and the upper mid-market. Dominik Asam added that China contributes mid-single-digit percentages to SAP's revenue.

Q:What is the impact of transformation credits on cash flow and their current size?

A:Dominik Asam clarified that transformation credits are cash vouchers for customers to offset project costs, amortized over the deal term. He did not disclose the size due to competitive sensitivity but emphasized that they are part of working capital management and do not significantly impact long-term cash flow.

Q:What are your assumptions for demand and CCB growth in the second half of the year?

A:Christian Klein mentioned a planned slight deceleration in CCB growth, with strong pipeline coverage similar to last year. He highlighted uncertainties in megadeals and specific sectors like U.S. public sector and manufacturing. Dominik Asam noted the impact of the WalkMe deal on CCB growth.

Q:Were there any one-off catch-up payments in cloud revenues this quarter?

A:Dominik Asam stated that there were no significant one-off catch-up payments. He noted that transactional business was disappointing but its dilutive effect on cloud revenue growth is decreasing.

Q:What is the potential of the Business Data Cloud (BDC) and its impact on revenues?

A:Christian Klein explained that BDC is integrated into various solutions and can uplift Wise deals by 20%-30% of ACV. He expects BDC to become a multi-billion business in the future, leveraging SAP's installed base.

Q:What has changed in the macro environment affecting demand and deal cycles?

A:Christian Klein noted elongated deal cycles due to stricter cost controls in certain industries. He emphasized that no deals are lost, but megadeals are harder to predict. He highlighted SAP's resilience and broad portfolio as strengths.

Q:Why does operating profit growth slow in the second half despite strong H1 results?

A:Dominik Asam attributed the slowdown to the front-loaded impact of stock-based compensation improvements and planned investments, including hiring and potential severance payments. He emphasized a cautious approach to guidance.

Q:What is SAP's contribution to the 'Made For Germany' initiative?

A:Christian Klein highlighted SAP's investments in AI research and collaboration with German universities. He emphasized the importance of reducing over-regulation in Europe and SAP's role in digital transformation, particularly in defense and public sectors.

Q:What are the business impacts of the Sapphire event and the U.S. public sector challenges?

A:Christian Klein stated that Sapphire generated a strong pipeline for the year. He acknowledged challenges in the U.S. public sector, including elongated decision cycles, and emphasized efforts to accelerate sales in the second half.

Q:Review of Unclear Management Responses

A:Management avoided providing specific details on the size of transformation credits, the exact number of headcount changes, and the precise financial impact of the 'Made For Germany' initiative. They also used vague language regarding the predictability of megadeals and the impact of macroeconomic factors on demand.

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Earnings Word Cloud

The most frequently occurring keywords in this quarter's earning call

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