On the eve of the earnings report, Oracle's CDS hits an all-time high, and the $300 billion bet on OpenAI triggers panic in the bond market

Oracle will release its second fiscal quarter earnings report on Wednesday Eastern Time (Thursday early morning Beijing time), with market focus on its debt-driven AI infrastructure expansion plans and heavy reliance on OpenAI. The enterprise software giant has sparked a stock price frenzy this year by signing contracts worth up to $300 billion with OpenAI, the creator of ChatGPT, but as concerns about the AI bubble have intensified, investor sentiment has shifted from exuberance to caution.

Since the stock price surged 36% in a single day after announcing backlog contracts on September 10, Oracle has given back all its gains and further declined, currently testing the 200-day moving average. Although the year-to-date increase still exceeds 30%, the 23% drop in October marks the worst monthly performance since 2001. Meanwhile, the company's five-year credit default swap (CDS) prices have soared to an all-time high, becoming a popular tool for investors to hedge against AI-related credit risks.

Notably, Oracle has become the largest investment-grade bond issuer among non-financial companies, raising $18 billion through massive bond issuances in September alone. Citigroup analysts estimate that the company will need to raise $20-30 billion in debt annually over the next three years.

Analysts expect Oracle's cloud infrastructure business to drive strong growth, with second-quarter revenue expected to increase by 15.3% to $16.21 billion, marking the fastest growth rate in over two years. However, according to a previous article by Wall Street Insight, investors are more concerned about how the company will fund its ambitious data center construction plans and the risks of over-reliance on a single major client, OpenAI.

Over $100 billion in debt, AI infrastructure investment faces huge financing challenges

Oracle is funding its AI data center expansion through significant borrowing. As of August, the company's total short-term and long-term debt has increased from $84.5 billion a year ago to $111.6 billion, while cash and cash equivalents have slightly decreased from $10.6 billion to $10.45 billion.

Daniel Sorid, head of U.S. investment-grade credit strategy at Citigroup, stated that as credit investors, there is an "inherent discomfort" with transformations that require substantial capital. Oracle has secured billions of dollars in construction loans related to data centers in New Mexico and Wisconsin through a banking syndicate.

RBC Capital Markets software analyst Rishi Jaluria pointed out that Oracle is considering various financing options, including off-balance-sheet financing tools, bond issuance, equity financing, or seeking participation from foreign investors such as sovereign wealth funds. The market is also discussing whether the company can utilize options like vendor financing to reduce upfront capital requirements

OpenAI Dependency Raises Concerns Over Single Customer Risk

Analysts estimate that a significant portion of Oracle's capital expenditures is tied to data centers related to OpenAI. This has raised concerns among investors about how the $500 billion yet unprofitable OpenAI will fund its total expenditures exceeding $1 trillion by 2030, with relevant details still scarce.

Bernstein analyst Mark Moerdler pointed out in a research report that the $300 billion OpenAI data center contract exposes Oracle to "unprecedented single customer revenue risk." Although Oracle stated in October that it expects cloud infrastructure revenue to grow to $166 billion by fiscal year 2030, it emphasized that new orders are coming from a diversified customer base, including a new $20 billion contract signed with Meta Platforms.

D.A. Davidson analyst Gil Luria stated that if OpenAI fails and the contract is terminated, Oracle would need to scale back construction, write off some contracts, and begin repaying debt, but would not default. He also noted that if OpenAI achieves superintelligence and invests $1.4 trillion, Oracle's prospects would be very bright.

Market Remains Optimistic About Oracle's Performance Outlook

According to a previous article from Wall Street Watch, TD Cowen analyst Derrick Wood maintains a buy rating on Oracle with a target price of $400, believing that the second fiscal quarter will be the first quarter where Oracle Cloud Infrastructure growth begins to accelerate. With the launch of the "Stargate" data center project in Abilene, Texas, growth rates are expected to further accelerate in the second half of the year.

According to Visible Alpha data, analysts expect Oracle's cloud infrastructure revenue to surge by 71.3% during the September-November period, up from a 55% growth rate in the previous quarter. This will echo the strong growth shown by Amazon, Microsoft, and Google Cloud in their latest financial reports.

Remaining performance obligations are expected to exceed $500 billion, more than five times the amount from the same period last year. Oracle disclosed in September that remaining performance obligations surged by 359% to $455 billion, driving the stock price to its best single-day performance since 1992. However, the stock price has since retraced all gains and continued to decline