What happened
Shares of customer relationship management software giant Salesforce (CRM 0.77%) slumped in early trading Wednesday, losing 1.8% of its share price through 10 a.m. ET.
So what
This morning, investment banker Bernstein downgraded shares of Salesforce from market perform (i.e., neutral) to underperform (sell). The analyst also cut its price target on the software giant by 11%, to $119 a share, implying that shares could tumble a further 18% from today's price, StreetInsider.com reported.
As Bernstein explains, Salesforce has an aggressive target of hitting $50 billion in annual sales by 2026 -- nearly double the revenue it collected last year, according to data from S&P Global Market Intelligence. Salesforce also wants to get its pro forma operating margin up to 25%.
Bernstein thinks that this target is too low, and that investors want to see even stronger profit margins out of the software company. Microsoft (MSFT 2.65%), for comparison, regularly scores operating profit margins of 30% and even 40%
But whatever pro forma number Salesforce is targeting, S&P Global data clearly show that the company's profit margins, as calculated under generally accepted sccounting principles (GAAP), are nowhere near 25%.
Indeed, since 2016, GAAP operating profit margins at Salesforce have been stuck in the single digits. They were only 2.3% last year, for example -- less than one-tenth of the level of profitability that the company is promising as pro forma profits.
Now what
GAAP profits are only one way to measure a company's profits, even if they are the generally accepted way. Valued on GAAP earnings, Salesforce stock sells for an on-its-face ridiculous price-to-earnings ratio of 525. Valued on its cash profits, on the other hand, the stock costs a more modest-seeming 26 times free cash flow, and so it looks less overpriced from that perspective.
Still, with growth slowing, Salesforce announcing layoffs, and the mammoth sales and profits the company is promising still three years in the future, there's plenty of uncertainty remaining in this stock. Until the price falls into obvious bargain territory -- and it's not there yet -- I'd stay away.
