Overview: Salesforce.com, Inc.(NYSE:CRM) provides customer and collaboration relationship management services to businesses and industries worldwide. The company also offers a technology platform for customers and developers to build and run business applications. The company has experienced rapid revenue increases as its on-demand/subscription model has been very successful and it is the market leader in its space. This has propelled the stock price to triple in price over the last year.
Prognosis: Although the outlook for continued revenue increases look to be solid for the foreseeable future as the company is in the vanguard of firms surfing the on-demand subscription model wave, we believe the stock has gotten ahead of itself and if vulnerable to a significant pullback in the near term. We based this on the following:
Valuation: CRM is selling at approximately 120 times trailing earnings as well close to 60 times predicted earnings for the current year. In addition, the stock is priced at over seven times sales and while projected annual sales growth(18%) over next two years is impressive, it is less than its growth in the recent past. Balance sheet is solid with net cash of close to $10/share. However, the stock also sells at approximately 55 times Enterprise Value/EBITDA and nine times book value.
Key Red Flags: We are concerned for several reasons about the near term prospects for stock price appreciation for CRM:
1. Increasing competition: This is a lucrative space for other major software firms to target including Microsoft, SAP, and Oracle. SAP will have a launch of a new product in this area sometime in the 2nd or 3rd quarter of this year and is looking more and more to small and medium sized businesses for their growth. This could impact sales and/or margins going forward depending on success of the product.
2. Cash Flow: While Net income has grown over 400% over the last two years, operating cash flow has only grown a little over 30%
3. Insiders: There have been over 200 insider transactions over the last six months, and they have all been “Sells”. In addition, S&P estimates stock based compensation expense for 2010 of 89 million and for 2011 of 110 million. To put that in perspective, the company had net income of a little over 80 million for its most recently completed fiscal year
Technical outlook: The stock price seems stretched from a technical perspective as well. It has struggled to get above the $75-$76 level over the last few months. This is the same price point that is approached and failed at back in Sept 2008 prior to Lehman.
Conservative to Medium risk investors: Avoid
High Risk investors: Short
Very aggressive traders: Sell Jan 11 naked calls. Two that I would look at from a risk/reward perspective are the 80 strike price at $7.60 or the 85 strike price at $5.60.
Disclosure: Short CRM out of the money naked calls