Salesforce Pre-Earnings: Robust Revenue Growth Squeezed By Climbing Costs

by Trefis Team
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Trefis
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Salesforce.com
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Salesforce.com (NYSE:CRM) is set to announce its Q1 fiscal 2014 (ending April 30, 2013) earnings on May 23. The company provides enterprise cloud computing and social enterprise solutions across businesses and is the market leader in cloud customer relationship management (CRM) segment. We expect it to continue to post double digit growth driven by the growing adoption of its Sales Cloud and Service Cloud offerings. New products such as Marketing Cloud for social analytics have also been gaining traction with customers. However, despite the impressive revenue growth, the company will continue to face pressure on its operating margins due to rising costs.

Last quarter, Salesforce reported quarterly revenue of $835 million, up 33% y-o-y. [1] For Q1 FY 2014, the company guided revenues of $882 – $887 million and non-GAAP EPS of $0.40-$0.42. [1] Below we take a look at the trends that affected the company’s performance during the quarter.

See our full analysis for Salesforce.com

Continuing Adoption of Cloud Services, Social Media To Drive Growth

The adoption of cloud-based services by small and medium size businesses is growing at a rapid pace as the Software as a Service (SaaS) model makes it cheaper to adopt and easier to integrate the deployment on the cloud. The global on-demand portion of the CRM software market is growing at a double digit rate compared with single-digit growth for the on-premise segment of the CRM software market. Salesforce has been the pioneer in providing CRM software delivered on-demand through the cloud and is benefiting immensely from this trend. Salesforce has also been expanding its offerings through new launches and integration of other services. The company recently launched Desk.com, a service cloud, to cater to small businesses. Overall we expect the Sales Cloud and the Service Cloud divisions to continue to post robust growth.

Further, marketing spend on social media is becoming a significant part of companies’ marketing budgets. Salesforce is tapping this demand with its Marketing Cloud suite, which now includes Buddy Media, Radian6 and Social.com. These tools enable clients to listen, engage, gain insight, publish, advertise and measure social marketing programs. Saleforce also launched a new Twitter ad platform to use Twitter’s advertising application programming interface (API). Its Marketing Cloud suite continued to make inroads into the market with the company beefing up its efforts to promote the product, which was evident from a significant increase in its marketing expenditure.

Soaring Costs To Continue To Hurt

In the previous few quarters, the cost of revenues as a percentage of sales has been trending higher and came in just under 20% last quarter. We expect gross margins to continue to remain under pressure in the near term. Further, as the company enters new businesses, we expect R&D costs and marketing expenses to outpace revenue growth before trending lower. Last quarter, these expenditures were up by more than 50% and 40%, respectively, on a yearly basis. [1] Another factor affecting its GAAP operating profit is the huge stock-based compensation, which has been increasing as a percentage of sales.

We currently have a $33 Trefis price estimate for Salesforce.com, which is about 30% lower than current market price. The stock is currently trading at a whopping price to sales ratio of 8, significantly higher than its peers. We will revise our price estimate post earnings.

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Notes:
  1. Salesforce Earnings Transcript, www.seekingalpha.com, Feb 28, 2013 [] [] []
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