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Oracle Corp. (ORCL) reported disappointing free cash flow (FCF) on March 7 for its latest fiscal quarter, and ORCL stock has fallen. Value investors are looking at shorting out-of-the-money (OTM) put options to set a lower buy-in target price.
ORCL is at $154.88 in midday trading on Monday, March 24. It's well off a recent high of $186.47 on Jan. 23, although up from a trough price of $144.18 on March 11. That might mean it's a good time to set a buy-in target price.
This article will show how to do this by selling short out-of-the-money (OTM) put options in near-term expiry periods. That way an investor can get paid while waiting for the stock to hit that price.
Oracle Produces Lower Free Cash Flow
On March 7 Oracle reported that it generated $5.8 billion in free cash flow (FCF) over the last 12 months (LTM) as of its fiscal Q3 ended Feb. 28. That was well below the fiscal Q2 LTM FCF of $9.54 billion and the Q1 LTM FCF of $11.5 billion. This can be seen in the table Oracle provides below.
The main reason for this is that Oracle is spending significantly more on capital expenditures (capex) due to its AI investments. That is also seen in the table above.
For example, in the last year the company has spent $14.9 billion on capex, vs. $10.7 in the prior quarter (over the prior year). That is a huge 39% increase in spending over the year.
Investors can see that the $4.2 billion increase ($14.933b - $10.745b) in higher capex spending from Q2 to Q3 (on an LTM basis) accounts for more of the $3.73 billion decline ($9.542b - $5.82b) in FCF.
In other words, the company's FCF would have been higher had it not spent deeply in new data centers and related AI investments. Larry Ellison, Chairman and CTO, said the company will double its data center capacity this calendar year. He said that customer demand is at record levels. That is what is driving their capex spending.
This should pay off in higher free cash flow (FCF) in the long run. That could be why Oracle's board approved a huge 25% increase in its quarterly dividend. These investments and resulting FCF could eventually push the stock higher.
Valuing ORCL Stock
For example, let's assume that revenue hits $65.2 billion for the year ending May 2026 as forecast by 36 analysts surveyed by Seeking Alpha. If we believe that FCF margins normalize at 40% of revenue (up from 28% in Q3) , its FCF could soar:
$65.2 b FY26 revenue x 0.40 = $26.08 billion FCF FY26
$26.08b / $5.82b LTM = 4.48x
Note that in Q1 Oracle's FCF margins were 58.9% (i.e., $11.27b FCF / $19.1b revenue), and in Q2 it was 47% ($9.54b FCF / $20.29b revenue).
This could mean that ORCL stock would be worth considerably more. For example, if we assume that the market will give ORCL stock an FCF yield valuation of 4% (i.e., equal to 25x FCF as a multiple):
$26b FCF FY 2026 x 25 = $650 billion mkt cap
That is 50% higher than its value today of $432 billion, according to Yahoo! Finance today. In other words, ORCL stock could be worth $232.32 per share within the next 12 months.
Analysts tend to agree. For example, Yahoo! Finance's survey of 37 analysts shows they have an average price target of $186.16 per share, or +20% upside from today. Similarly, Barchart's mean survey has a price target of $186.50.
AnaChart.com, which reviews recent analysts' stock recommendations and their performance, shows that 33 analysts have an average price target of $171.39. That is still 10.6% higher than today.
The bottom line is that ORCL looks to be too cheap here. One way to set a lower buy-in target price and get paid while waiting is to sell short out-of-the-money (OTM) puts.
Shorting OTM Puts
For example, look at the April 25 expiration period, 32 days to expiry (DTE). It shows that the $145.00 put option strike price contract has a premium of $2.30 per put contract.
That means that a short seller of these puts, which are over 6% below today's trading price, stand to make an immediate yield of 1.59% (i.e., $2.30/$145.00 = 0.01586).
Here is what that means. An investor who secures $14,500 in cash or buying power with their brokerage firm can enter an order to “Sell to Open” 1 put contract at $145 for expiry on April 25. The account will then immediately receive $230 if the trade executes at the midpoint.
This works out to a one-month yield of 1.59% - i.e., $230/$14,500, which, if repeated each month for a quarter, works out to an expected return (ER) of 4.76% (i.e., $690/$14,500). As long as ORCL does not fall to $145.00 the account will not be assigned to buy 100 shares using the $14,500 collateral.
But, even if that happens, the investor's breakeven price is lower, due to the income already received. For example, $145.00 - $2.30 = $142.70 breakeven, 7.9% below today's trading price.
As a result, this is a good way to set a lower buy-in point for a new investor in ORCL. For existing investors, it provides a way to increase income and potentially lower the overall average cost in ORCL.
That is not to say the investor may end up with an unrealized capital loss, if ORCL falls below the breakeven point. Investors should study these risks beforehand. Barchart's Options Learning Center and related pages can help with this.
The bottom line is that ORCL looks very cheap here. One way to play it is short OTM puts each month to provide a lower buy-in point and gain extra income.
