Did Salesforce.com (CRM) dropped strictly out of fear the first week of May? If they did, does that mean they will bounce back? Are they a good investment on the recent dip? These are questions that run through my mind. If I am going to try and make money on the stock I have to weigh out what I read and know.
The Recipe for Its Dip
I believe there were two catalysts working together that caused this negative reaction. The first was a research note from analyst Brad Zelick that found Salesforce.com partners indicated their (Salesforce related business) was a mere 29% above plan in the quarter. That compares with 54%, 39% and 41% in the last three quarters. Is it showing a direct down turn? Then in another note, research firm William Blair wrote that the company's April quarter appears to be somewhat below expectations mostly because U.S. business was below plan. This is the first catalyst. Now, let's combine that with Cisco's Chief Executive John Chambers warning that large companies and governments were cutting spending and delaying decisions making on technology investments. Combine those two together and we have our recipe for a sell off.
There is something to be said for the IT spending slow down
Clear back in October of 2011, it was forecasted the growth rate of global IT spending will weaken at 5.5 percent in 2012. Because of the current economic downturn in the US and Europe, slower growth rates are predicted. In India though India's industry body Nasscom said there are still no signals of reduced IT budgets from companies. But the problem is the U.S. and Europe. Software exports to the US and Europe account for almost 90 percent of the IT industry's $70 billion revenue. This is where the majority of Salesforce.com revenue originates.
Are Analysts pulling our legs?
IT growth in the beginning of 2011 was strong before the financial crisis kicked off in the middle of 2011. That resulted in slower growth in the last quarter. Pointing to last year's experience, some say tech spending may rebound in the second half, potentially boosting equipment maker's shares again. For this reason Morgan Stanley is advising its clients to start making bets in anticipation of a pickup in tech spending.
And most analysts are still bullish on Salesforce.com. Equities research analysts at MKM Partners initiated coverage on shares of Salesforce.com in a research note issued to investors. The firm set a "buy" rating and a $185.00 price target on the stock. Barclay, on April 16th reiterated an overweight position on the stock with a price target (155-169) There have been other analysts reiterating buys before the drop also and non have come back to reverse their positions. Are they just attempting to cover their positions and trying to get investors to stay put to protect themselves or do they really have convictions that the stock will continue up.
So My Wrestle is with these Issues
On the one hand I show poorer performance by Salesforce.com than usual with a slow down in IT spending where it counts (U.S. & Europe). Then on the other hand I have analysts uniformly saying they all expect the stock to continue to move up and investors should keep buying on growth. Personally I will have to go with concrete economic data over analyst opinion just because they could have less than neutral motives in mind when they give their recommendations. I will go with a short term bearish options strategy.
(click to enlarge)
The Options Play
- Buy an August 2012 put with a '135' strike (priced at $12.40)
- Sell an August 2012 put with a '130' strike (priced at $10.20)
- Net Debit to start: $2.20
- Maximum Profit: $2.80
Reasoning behind the Trade
- 'Above Plan' Sales Figures seem to be slowing by quarter.
- If IT spending slow down continues then we may see a poor 2Q 2012 report.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
