Why salesforce.com's Price Drop Makes No Sense

salesforce.com's (NYSE: CRM  ) earnings announcement didn't sit well with investors. With its stock down over 6% since sharing its fiscal 2014 Q1 results, you'd think Salesforce had either missed estimates by a mile, provided a poor outlook for the balance of its fiscal year, or both. But this is where things get interesting: Neither occurred. When you look at non-GAAP results (in other words, removing one-time items), Salesforce grew revenue and operating cash flow, and raised guidance for the year. So, what's the problem?

A few specs
It seems Salesforce has always traded like a growth stock: With a non-GAAP price-to-earnings ratio in the 85 to 90 range, investors and analysts alike have been content to focus on revenue growth and future prospects in its core customer relationship management market and cloud solutions. So Salesforce's 28% jump in revenue compared to last year, up to $893 million this past quarter, would appear to be a win. Incidentally, the $893 million in revenue beat average analyst expectations for the quarter by $6 million.

Both deferred revenue and unbilled deferred revenue were also up significantly, 30% and 33% year-over-year, respectively. Toss in a 33% increase in operating cash flow and non-GAAP earnings of $0.10 a share this quarter -- meeting expectations -- and the sell-off of Salesforce shares makes even less sense. And what a sell-off it was, with nearly 21.58 million shares traded the day after Salesforce's May 23 earnings announcement, compared to its daily average of 5.54 million shares.

After raising revenue expectations for fiscal 2014 to $3.835 billion to $3.875 billion, a 26% to 27% improvement from last year, Salesforce now expects non-GAAP EPS in the $0.47 to $0.49 range for the year, compared to $0.49 average estimates from analysts. The problem? An analyst at Pacific Crest Securities said it all, "The guidance is just in line, and we're used to seeing these guys raise."

What's changed?
Some grumblings you'll hear relating to Salesforce include its move toward expanding via acquisition in lieu of strictly organic growth. That can be an expensive proposition to be sure, and is expected to impact Salesforce's GAAP numbers this year by an estimated $86 million.

A legitimate concern for Salesforce, just as it's always been, is growing competition in both the CRM and cloud computing markets. German-based SAP (NYSE: SAP  ) and CRM up-and-comer Microsoft (NASDAQ: MSFT  ) and its Dynamic CRM are certainly not to be trifled with.

Microsoft's Dynamics CRM generates about $500 million annually; a pittance compared to its total revenue, but its integration with Office 365 could change that going forward. Like Microsoft, SAP isn't reliant on CRM revenue -- it currently accounts for about 11% of total IFRS sales -- and diversified business lines are rarely a bad thing. For both SAP and Microsoft, revenue diversification gives them time to grow their respective solutions, while Salesforce is heavily reliant on its CRM suite to drive revenue. With that said, Salesforce deserves some credit; it became the No. 1 CRM provider as measured by revenue in 2012 according to Gartner, replacing SAP.

From here
Given Salesforce's $3 billion in cash and equivalents, improving operating cash flow and revenue, and its strong presence in the explosive cloud market, Salesforce is positioned well for future growth, just as it was prior to its recent earnings announcement.

About the only thing different about Salesforce today compared to last week is its stock price. If Salesforce made sense at price-to-earnings multiples of 85 or 90 prior to its earnings announcement, then it still does. If you're a growth investor, Salesforce was already a solid long-term opportunity. Now, it's even better.

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Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 28, 2013, at 9:30 PM, banmate7 wrote:

    I really think you are doing yourself a disservice by glossing over GAAP numbers. This company simply does not make good money. Year on year revenues & bookings are slowing, while profit margins keep getting thinner.

    I am not sure what there is to be bullish about. You yourself brought up competitors like SAP & MSFT, 2 juggernauts with much more money, profits, and versatility. Throw in Oracle, Google, and IBM, well, I'm not sure why SF deserves favorable punditry and valuations compared to these profitable companies...not when SF market cap is $25 billion. Keep in mind the aforementioned companies also can build IAAS & PAAS, as well as SAAS, components of the cloud stack...whereas this is not true for SF.

    Something tells me the SF stock is going to end badly. What is particularly upsetting is that insiders keep taking most of money that's made, quickly selling. I believe the CEO has already sold about $500 million worth of stock.

    Meanwhile, institutions like Fidelity are heavily invested here. Once again, it is the money of retail investors that is at risk in a sentiment inspired attempt to chase growth. It's ironic that Oracle fell 10% last quarter for being profitable, but SF gets a free pass for being highly unprofitable, which to me corroborates that the market irrational...articles like this being no exception.

    It may turn out that I am wrong. But I just can't invest in risk like this. I'm sticking with companies that offer compelling value.

  • Report this Comment On May 29, 2013, at 10:37 AM, zoningfool wrote:

    " When you look at non-GAAP results (in other words, removing one-time items)"

    That statement shows how very little you know of Salesforce.com's accounting 'maneuvers'.. IF its non-gaap presentation truly was to represent a clearer picture of underlying operations by removing ONE-TIME items as you describe, I would agree that the non-gaap numbers are credible.

    HOWEVER--that is not the 'tactic' Salesforce uses. No. No. Instead of presenting a *clearer* picture of the company's financial results, it obfuscates it by removing the bulk of its employee compensation--stock options--from expenses.

    IOW Salesforce expects us to believe in the fiction that its employees essentially work for free.

    FYI these expenses equal 13% of total revenues. Hardly insignificant. And hardly a one-time expense.

    Get your facts straight about the fictional results Salesforce attempts to pass off on the less-informed investor.

    The TRUTH is this company has been incurring operating LOSSES for 10 consecutive quarters. In light of that REALITY vs Benioff Bluster the price drop makes TOTAL sense.

  • Report this Comment On May 29, 2013, at 11:48 AM, dj235 wrote:

    What this quarter really showed was growth the last year was driven by changes in their invoicing period.

  • Report this Comment On May 29, 2013, at 7:57 PM, IlluminatInvest wrote:

    Really, non-GAAP results are calculated by removing one-time items? One-time items like paying employees with stock options? Highly doubt they're going to stop doing that, at least not without a huge dropoff in revenue.

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