Oracle Data Center Delays Hit More Than Just the Stock

Oracle is spending heavily on data centers to power artificial-intelligence technology. (Courtesy Oracle)

Key Points

• Oracle’s five-year credit default swaps rose to about 144 basis points, more than three times the level three months ago, indicating higher perceived default risk.
• Oracle’s projected capital expenditure for AI infrastructure increased to $50 billion from $35 billion for the current fiscal year.
• Credit credit-rating firms S&P and Moody’s have issued negative outlooks for Oracle, citing the impact of cloud infrastructure on free cash flow.

Oracle stock may be slumping, but Wall Street’s eyes have pivoted from its equity to its debt—and its credit default swaps.

Sure, Oracle stock was down 4.5% at $189.97, its lowest since June 11. And yes, the stock dropped 13% this week, its worst since 2018. Being long Oracle stock right now isn’t much fun.

But it is even less fun owning Oracle debt. Remember, stocks are supposed to be volatile—you know what you are getting. Bonds, though, are supposed to be relatively safe, especially Oracle’s, which have an investment-grade rating. Yet prices on Oracle’s 30-year debt have fallen 11% to $88.13 today from $98.764 on Oct. 10, according to Bloomberg data.

The company’s five-year credit default swaps, meanwhile, traded at 144.3 basis points on Friday, according to Bloomberg Terminal, the highest since the financial crisis of 2008-2009. That means it costs $144.30 a year to insure $10,000 of Oracle debt, compared with $43.62 three months ago, on Sept. 12.

This insurance had moved sharply higher after Oracle’s earnings, when the company flagged that spending on AI infrastructure would drive its capital expenditure to $50 billion in its current fiscal year, up from a previous forecast of $35 billion.

Oracle now faces a dual burden: Proving itself to shareholders and debt investors alike. Microsoft, Apple, and other tech juggernauts rarely spend time convincing traders about their viability to pay back debt. Tech firms generally have solid credit quality. Oracle has found itself in a different spot lately.

“I think it’s important that everyone understand that we’re committed to maintaining our investment grade debt rating,” CEO Clayton Magouyrk said Wednesday. It was a promise management had made earlier in the call as well; a signal that the company recognizes the market’s anxiety.

Oracle needs to maintain its rating: If the company falls to junk status, it’s going to get much harder for investors focused on quality bonds to invest dollars.

“This combination of ‘more debt now’ and ‘payback later’ is not ideal,” Ryan Jungk, Investment Grade Portfolio Manager at Newfleet Asset Management told Barron’s. “These are equity like risks these companies are taking and they’re funding it with debt.”

Jungk says he’s “cautious on adding AI bonds here.”

But things are not dire.

“When I look at 145 [basis points] it’s interesting,” Peter Tchir, Academy Securities head of macro strategy, told Barron’s. “But to me this is still much more an equity valuation story than a real credit risk story.”

Tchir pointed out that investment-grade bond defaults are exceedingly rare. “They have so many levers they can pull and so many things they can say and do simply to calm credit markets.”

A credit default swap acts as insurance for corporate debt, with the buyer receiving a payout if the company can’t repay its bonds. Higher prices—or spreads—typically mean the market is pricing in a greater default risk. Credit-default swaps on single companies can be volatile because they are often thinly traded.

Oracle had around $90 billion in long-term debt as of August and issued $18 billion in bonds in September. Its five-year credit defaults swaps hit a 16-year high on Thursday, according to Bloomberg, and are about four times more expensive than equivalent instruments for Microsoft, Amazon.com and Alphabet, all of which are also spending heavily on AI data centers.

Credit-ratings firms S&P and Moody’s have both issued negative credit rating outlooks for Oracle in recent months, citing the effects of building cloud infrastructure on its free cash flow. Oracle had a free cash flow loss of $13 billion in the past 12 months, with $10 billion of that coming in the latest quarter.

One particular concern is Oracle’s dependence on spending by OpenAI, the developer of ChatGPT, which accounts for the majority of Oracle’s $523 billion in remaining performance obligations, or contracted revenue not yet recognized.

In a report last week, Moody’s noted that “Oracle has the highest exposure to OpenAI and has the weakest credit metrics among investment-grade hyperscalers.”

Those worries were front and center on Friday after a Bloomberg report that said Oracle has pushed back the completion dates for some of the data centers it is developing for OpenAI to 2028 from 2027. The report citied people familiar with the work.

Oracle, in a comment to Barron’s, said “there have been no delays to any sites required to meet our contractual commitments, and all milestones remain on track.”

“We remain fully aligned with OpenAI,” Oracle spokesperson Michael Egbert wrote.

Oracle executives said on their earnings call on Wednesday that borrowing required for AI plans would be less than the $100 billion that some Wall Street analysts have modeled.

Yet, Oracle’s 10Q, which was released this morning, revealed “previously undisclosed $248bn of additional lease obligations,” according to D.A. Davidson analyst Gil Luria. “Considering Oracle is already barely hanging on to an investment grade rating, we would be concerned about Oracle’s ability to live up to these obligations without restructuring its OpenAI contract,” he continued.

It can’t happen soon enough.

Write to Adam Clark at adam.clark@barrons.com