From disdain to full commitment! Can Oracle Corporation's (ORCL.US) cloud business catch up with the three giants after relying on breakthrough customers for a comeback?

Larry Ellison of Oracle Corporation(ORCL.US) has previously scoffed at cloud computing calling it "complete gibberish" back in 2008. However, the success of Oracle Corporation's cloud infrastructure division is now the reason for the company's soaring stock price, making Larry Ellison, who serves as the company's chairman and co-founder, the second richest person in the world. The boom in artificial intelligence has significantly increased the demand for internet computing and storage. Oracle Corporation, which has long been searching for positioning in this market, has secured its foothold by acquiring major clients. The company is now providing power for Elon Musk's xAI in a data center in Utah, forming a cluster of tens of thousands of AI chips near Singapore for NVIDIA Corporation (NVDA.US), and recently signed one of the largest cloud computing deals in history with the leading AI company OpenAI. Facing energy and material shortages, Oracle Corporation needs to invest billions of dollars to develop unprecedentedly large data centers. According to insiders, this includes a plan to spend over $1 billion annually to power a new large power plant in West Texas with gas generators, instead of waiting for grid connection. With these expenses, Oracle Corporation recorded negative free cash flow for the first time since 1990. However, there are still questions from the outside about the sustainability and profit margins of the infrastructure business that provides the infrastructure for training AI models. Founded in the 1970s, Oracle Corporation had long faded from the tech stage. In its journey back to the stage in the era of AI, the company underwent internal lobbying to convince CEO Safra Catz to invest in the cloud business, attract key clients like TikTok, and rise a tough executive named Clay Magouyrk. Media interviewed over 30 current or former employees and clients to understand how Oracle Corporation is fulfilling its grand promises. They anonymously revealed the cost increases, accelerated timelines, regulatory obstacles, and hiring of hundreds of former Amazon.com, Inc. cloud employees to meet the demands of OpenAI. Building the cloud business Despite the rapid growth of cloud computing in the late 2000s, Larry Ellison was not very interested at the time. Oracle Corporation's core database business was a highly profitable on-premise product, installed on customers' own servers. Transitioning to a cloud sales model, where users rent software access, almost certainly meant a decline in profits and collaboration with competitors. After years of mocking cloud computing as a "marketing concept," Oracle Corporation's attitude began to change as its core business was threatened. Amazon.com, Inc. was promoting cheaper database alternatives among cloud computing customers, while application competitors like Salesforce, Inc. promised simpler installation and updates. Insiders revealed that Larry Ellison realized the need to migrate Oracle Corporation's Fusion applications (commonly used for finance and resource planning) to the cloud. In the 2010s, Oracle Corporation had internal competitive attempts to build cloud services for internal and external customers. The first attempt led by Thomas Kurian in 2012 had limited success. Another team, mostly comprised of former Amazon.com, Inc. employees led by Don Johnson, pushed the so-called "bare metal" solution. This solution allowed customers to have dedicated servers without sharing with other tenants, attracting privacy-conscious users. The team also focused on building smaller data centers to expand into countries where industry giants had not entered yet. The bare metal solution received Larry Ellison's approval - although he had stepped down as CEO over a decade ago, he was still a key decision maker. This new product was later named Oracle Cloud Infrastructure (OCI). Thomas Kurian's initiative was marginalized, and he left in 2018 to join Alphabet Inc. Class C, where he continues to lead competitive cloud services. Cloud business expected to be core of the company by 2029 Wall Street expects OCI to grow quickly in the coming years. When promoting new products, Oracle Corporation had to overcome its long-standing negative reputation for aggressive sales tactics. OCI's main selling points include lower prices through simplifying the product set, and good integration with other clouds. Oracle Corporation salespeople often mock the complexity of Amazon.com, Inc.'s AWS tools, telling customers that purchasing AWS cloud services is actually funding projects like its expensive satellite program "Kuiper." An Amazon.com, Inc. spokesperson responded, "More customers choose AWS over any other cloud provider because we offer unparalleled choice, innovation speed, security, and reliability." Breakthrough customers During the pandemic, some game-changing customers joined the Oracle Corporation platform. Zoom chose Oracle Cloud to handle increased demand during the pandemic. The company also secured a nearly $2 billion commitment from Uber Technologies, Inc. in 2023. One of the biggest victories at the time was undoubtedly TikTok. Tony Grayson, a former executive responsible for Oracle Corporation's data center construction, said, "OCI was completely different before and after TikTok." He noted that new clients forced the company to think on a scale it had never considered before. It was reported that in 2022, TikTok announced that all U.S. user traffic would pass through Oracle Corporation servers. Revenue from this new client quickly surpassed $1 billion annually, at one point exceeding the total of all other OCI businesses combined. Oracle Corporation also gained experience in AI infrastructure during this process, running thousands of NVIDIA Corporation GPUs for TikTok before the ChatGPT trend. "Ironic management" OCI department head Clay Magouyrk received high internal recognition for this. The 39-year-old executive swiftly rose through the ranks, reporting directly to Larry Ellison. He was one of the first employees at OCI, coming from a background at Amazon.com, Inc. He was promoted to president in June of this year, seen by top executives as the potential successor to the 81-year-old Larry Ellison. Clay Magouyrk once said in a podcast, "Looking back, I'm not sure if I was completely competent at every step, but so far it seems to have gone smoothly." People who have worked with him describe him as efficient but filled with conflict. In a lawsuit from 2021, it was alleged that he publicly scolded an executive at a high-level meeting saying his actions were "f---king stupid," highlighting the toxic work culture within OCI. Blunt supervisors are not uncommon in a company under the leadership of Larry Ellison, who has described his leadership style as "ironic management." In the early days of OCI, the department was referred to as "Sparta." It offered higher salaries to employees than other departments at Oracle Corporation, was headquartered in Seattle instead of the Bay Area, and followed AWS practices, constantly weeding out low-performing employees. As the importance of the cloud business increased within the company, OCI's importance grew. Currently, approximately 23,000 employees are under Clay Magouyrk's management. In the past two years, over 600 employees have moved from Amazon.com, Inc. to OCI. Amazon.com, Inc.'s policy of requiring employees to return to the office five days a week has made it easier for Oracle Corporation to poach employees, as OCI still primarily practices hybrid or remote work. Unprecedented scale Today, AI is the biggest driver of OCI's growth. It is reported that most of Oracle Corporation's backlogged orders are related to clients using GPU-based servers to train or deploy AI models. OpenAI is expected to become Oracle Corporation's largest client. The two have reached an agreement to provide over 5 gigawatts of computing power, an unprecedented scale enough to meet the energy needs of millions of American households. The timeline for the construction of related data centers is very tight, with the goal of being completed by early 2027, and many servers expected to come online next summer. These facilities are expected to be used for both training AI models and inference (running pre-trained model applications). It is generally believed that the profit margins for infrastructure needed for AI training are lower than for inference, as it requires more advanced semiconductors and cooling systems. There has long been a disagreement within Oracle Corporation about the positioning of OCI. Some in the leadership believe its primary role is to protect the database business and modernize applications; while others hope to directly compete with Amazon.com, Inc. and Microsoft Corporation, and carve out a piece of the multi-billion dollar cloud market. It has not been easy to convince Oracle Corporation CEO Safra Catz of this grand vision. Insiders say she remains skeptical due to high operating costs and low profit margins. This cost consciousness initially led OCI to focus on small data centers. However, with the hefty deals like TikTok and OpenAI, she and other traditional executives were eventually convinced. The search for developers and power suppliers remains challenging. Tariffs and strong demand have driven up prices for various goods and services. Meanwhile, getting approval and building infrastructure to draw the scale of power needed from the local grid may take years. Cash flow turns negative due to cloud business expansion Oracle Corporation plans to rely entirely on natural gas power for its new site in Shackelford County, Texas. Developed by Vantage Data Centers, the site will have 1.4 gigawatts of computing power, making it one of the largest known data centers. OCI's appeal to AI companies is partly due to its long-standing focus on bare metal servers. This approach has become a standard for AI work, and Oracle Corporation is one of the first major vendors to offer this service. Users and employees also point out that Oracle Corporation's network quality and highly customized offerings are its strengths. Industry analyst firm Semianalysis ranked Oracle Cloud at the forefront in its March ranking of AI infrastructure providers, citing its high value, good network quality, and excellent customer service. Another major AI client for Oracle Corporation is NVIDIA Corporation, which uses OCI for internal development and supports its own cloud infrastructure services. NVIDIA Corporation leases Oracle Corporation's computing power for its H100 chip clusters in Japan and data centers in Batam Island, Indonesia. It is reported that Oracle Corporation is also in talks with Meta and Musk's xAI for further collaboration. The scale of Oracle Corporation's cloud business is still much smaller than Amazon.com, Inc., Microsoft Corporation, and third-placed Alphabet's Alphabet Inc. Class C. However, its growth potential is enormous. According to data from Synergy Research Group, the market revenue in the last quarter was close to $100 billion and is expanding at an annual rate of about 25%. Bernstein analyst Mark Moerdler says the key question is how Oracle Corporation will finance this construction and what it means for profitability. However, he points out that unlike smaller competitors like CoreWeave, Oracle Corporation has not taken on debt for developing data centers. Mark Moerdler states, "We believe that once the investment phase is behind us, profit margins will rebound, and cash flow will increase significantly." He compared the current Oracle Corporation under this business model transformation to Microsoft Corporation under Satya Nadella's cloud transformation, "Oracle Corporation is undergoing a business model shift, and it's having a more impactful one in a shorter period of time."