Key Takeaways From Salesforce’s Q2 Earnings

In continuation with a strong performance over the past few quarters, Salesforce (NYSE:CRM) sustained its growth momentum with impressive Q2 results and managed to exceed market expectations for revenue and earnings per share (EPS) by over 2% and 3%, respectively. Additionally, the company released strong guidance for the third quarter and the full fiscal year. The company’s revenue grew by 26% year-on-year (y-o-y) to $2.56 billion for the quarter, primarily driven by growth across cloud products such as Sales, Service, Marketing and Commerce, enhanced by Einstein -the company’s artificial intelligence add-on. Despite the surge in revenues, the company’s bottom line remained under pressure, primarily due to higher cost of revenues, a significant surge in operating expenses and cost realizations due to the acquisitions made in the previous year. However, with the expectations of a significant boost in revenues due to increased adoption across a varied portfolio of products and services, the company expects to improve its annual operating margins by 125-150 basis points.

Increased Adoption Across All Offerings And Geographies

The company saw strong revenue growth across product categories. Sales Cloud – the company’s flagship product – grew 17% over the prior year and remained the largest contributor to the Subscription and Support segment. Service Cloud grew by 21% and Marketing Cloud saw a revenue increase of 36%, excluding Commerce cloud. The company’s investments in other innovative products and services such as Einstein will likely help it maintain its lead in the enterprise cloud market.

Geographically, Salesforce continued to perform well in the Americas region, which contributed over 72% of total revenues and grew 24% year-on-year to $1.85 billion for the quarter. Asia-Pacific – where the public cloud market is expected to grow at 12% and reach $11.5 billion by 2018, per Gartner – witnessed steady growth, with revenues from the region increasing 26% y-o-y to $243 million. The increased focus on the Asian market is likely to benefit the company in the long term.

Declining Bottom Line Is A Near-Term Concern

Profitability remains a key area of focus for Salesforce, as its GAAP EPS was just around $0.02 for the quarter, though non-GAAP EPS of $0.33 was up 38%, year-over-year. Operating expenses grew at over 24% as the company continued to spend extensively on sales and R&D in order to effectively compete with rivals such as SAP and Microsoft. Microsoft’s Dynamic 265, which is a direct competitor, has witnessed increased adoption of late.

Sales and R&D expenses, which have continued to grow in absolute terms, have seen a drop as a percentage of revenues over the past few quarters, and we expect that trend to continue. Moreover, with a low attrition rate and an expanding customer base and product portfolio, we believe that the growth in sales and R&D expenditures is justified.

As the company is focused on customer-centric growth and will likely remain acquisitive in the near term, it may continue to see some pressure on its bottom line.

Revised Annual Guidance

Going forward, Salesforce expects its growth momentum to continue over the rest of the year, with revenue guidance of over $2.64 billion in Q3 and $10.35-$10.4 billion for the full year. Margins are expected to improve due to the likelihood of increased adoption across product lines. We expect an increased adoption rate internationally, as the demand for cloud solutions and integrated end-to-end CRM solutions with AI support grows globally.

See our complete analysis for Salesforce

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