Salesforce.com’s Strong Fundamentals Are Clouded By Growth Concerns

Salesforce stock is currently facing downward pressure as investors weigh its solid operational performance against a backdrop of slowing growth. Despite reporting an upbeat quarter, the company’s revenue guidance came in slightly below expectations, sparking concerns about its future trajectory.

The company’s fundamentals remain robust. Key strengths include:

• Solid Financials: Salesforce has demonstrated an average revenue growth of 11% over the last three years, maintains a healthy operating margin in excess of 20%, and operates with a low debt-to-equity ratio of 5%.
• Shareholder-Friendly Actions: In a sign of confidence, the company has raised its earnings outlook and expanded its share buyback program by $20 billion.

But, not everything is promising. The primary issue plaguing the stock is the deceleration in growth. The company’s top-line grew at 9% in constant currency in the latest quarter, after rising 8% in the previous quarter.

• Disappointing Guidance: The forecast for continued single-digit revenue growth is forcing investors to reconsider the premium valuation the stock has historically commanded.
• Unrealized AI Potential: Significant investments in artificial intelligence were expected to be a major revenue driver, but this has not yet materialized, adding to investor disappointment.

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Valuation Analysis

At its current price of around $240 per share, Salesforce trades at 22.5 times its trailing adjusted earnings of $10.68. While this is a significant discount compared to its five-year average price-to-earnings (P/E) ratio of 40x, it is not necessarily cheap in the current context. See our dashboard on Salesforce.com’s Valuation Ratios for more insight into the company’s valuation.

For comparison, a faster-growing and more profitable company, like Google, trades at a comparable 25 times earnings. This suggests that a 22.5x multiple for a company with single-digit growth prospects may not be as attractive as it appears on the surface. While the stock might seem undervalued relative to its own history, this does not protect it from further declines if growth fails to pick up. We don’t foresee CRM stock trading at multiples of 40 times earnings in the near future.

The Verdict

Salesforce presents a mixed picture. It is a financially sound company that is rewarding shareholders, but its growth engine is sputtering. The anticipated boost from AI has not yet kicked in, leaving a critical gap in its growth narrative.

Given the uncertainty, the stock is best avoided for now in our view. Despite the seemingly attractive valuation, the prudent strategy would be to wait for tangible signs that the company can re-accelerate its revenue growth before considering an investment. See, there always remains a meaningful risk when investing in a single, or just a handful, of stocks. Consider Trefis High Quality (HQ) Portfolio which, with a collection of 30 stocks, has a track record of comfortably outperforming the S&P 500 over the last 4-year period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics.

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