David Herro Comments on Software AG

Software AG (XTER:SOW), a German software and services technology company, was one of the Fund’s largest detractors for the fourth quarter. In October, the company reported a ransomware attack conducted by Clop, a malware organization that claimed it took possession of corporate files and employee information. Clop demanded a ransom payment of $23 million to prevent release of highly sensitive and confidential data from Software AG’s internal network and employee laptops. Later, management disclosed that some of the data was released, though services to customers apparently were not disrupted. Still, investors were unnerved by the attack, and Software AG’s share price fell. Soon after, the company reported preliminary third-quarter revenue and earnings that were lower than market expectations by roughly 6% and 23%, respectively, prompting a further selloff of shares. This caused management to accelerate its shift to a subscription-based business model, which we support, a move that will likely depress near-term revenue and earnings but should materially improve the company’s value over the long term. New business bookings—a critical metric for the company—performed in line with expectations, and overall, the company’s results matched our expectations. In particular, Software AG’s IoT (Internet of Things) and Adabas & Natural (A&N) businesses performed well, and management increased full-year bookings growth guidance across segments. We think the raised guidance was warranted as the company’s Digital Business Platform and A&N segments each added a large, high profile client in the fourth quarter. In addition, management stated that it had effectively contained the malware attack, and the company’s bookings momentum suggests that the attack has not adversely impacted customer relationships. We believe that Software AG remains a solid business that has the right fundamentals and business strategy to overcome its near-term challenges.

From David Herro (Trades, Portfolio)’s Oakmark Intl Small Cap (Trades, Portfolio) Fund fourth-quarter 2020 shareholder commentary.

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Sydnee Gatewood

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