Shares of Salesforce, Inc. (NYSE:CRM) surged 7% after it was reported that investment firm Starboard Value LP bought a stake in the cloud-based software company. The investment represents an important catalyst for Salesforce, whose share price has fallen out of favor with investors who are worried about the company's growth prospects in a post-pandemic world. Considering that Salesforce already announced a $10B stock buyback in August, I believe the combination of a stock buyback and the presence of an activist investor could drive shares of Salesforce into a new up-leg!
Salesforce has a strong position in the market for CRM applications and the software company is a leader in its niche. However, the market has shown signs of a slowdown in FY 2023, and investors are worried that the company's topline growth will continue to decelerate.
It didn't help that Salesforce downgraded, in the last quarter, its revenue forecast for FY 2023 from $31.7-31.8B to $30.9B-31.0B because it is taking customers longer to make software purchasing decisions. The updated outlook still calls for 17% year-over-year revenue growth, however. Additionally, for multinational companies that do business outside of the U.S., like Salesforce, the strong USD is a challenge for the company as well, at least in the short term.
Despite those challenges, Salesforce is doing a good job in growing product adoption and customer monetization, especially in the Platform business, which is Salesforce's fastest-growing business that helps customers scale their business operations. In FQ2'23, Salesforce's platform business grew 53% year over year to $1.48B in revenues.
One of the most attractive qualities of Salesforce is that the software company faces a growing addressable market for its core services as companies look for efficient ways to scale their operations. Salesforce's total addressable market for its CRM solutions is expected to grow 13% annually to about $300B by FY 2026 which is also when the company expects to have grown its revenue base to $50B, implying an average annual topline growth rate of 17%.
The goal is not only to grow revenues to $50B but also to grow profitability and margins while returning more of its free cash flow to shareholders. Two months ago, Salesforce announced a $10B stock buyback, the first-ever stock buyback in the company's history. The stock buyback represents approximately 6% of the firm's market cap, which currently stands at $160B.
Starboard Value took a "significant stake" in Salesforce recently, although it was not revealed exactly how big of a stake. The activist investor is likely going to push for margin growth and, potentially, higher stock buybacks, which could be supported by Salesforce's significant free cash flow. The software company generated $5.68B in free cash flow in the last year, so Salesforce could afford a higher stock buyback easily. Therefore, I believe the presence of Starboard Value could be a long-term catalyst for Salesforce shares, especially if the activist investor successfully pushes for a higher stock buyback.
A key reason for Starboard Value to get involved is Salesforce's low valuation relative to its rivals such as ServiceNow (NOW) or Intuit (INTU). According to Starboard Value's presentation, Salesforce's attractive valuation and potential for margin improvement were the two main motivators to buy into the software company.
Given Salesforce's leading role in the CRM market, a rapidly expanding market for all of its core operating segments, double-digit annual revenue, and now an activist investor on board, Salesforce's shares are not as expensive as they appear to be. Based off of expected FY 2024 revenues of $35.6B, shares of Salesforce trade at 4.4 X revenues which, considering the strong revenue potential, is attractive.
The strong USD is a challenge for the software company, as is slowing topline growth in a post-pandemic world. Fast-growing cloud-based companies like Salesforce are chiefly valued based off of their prospects for revenue growth, so a slowdown in topline growth could negatively affect the firm's valuation factor. What would change my mind about Salesforce is if the company decided to lower its FY 2026 revenue target or saw a material decline in its free cash flow (margins).
The presence of Starboard Value LP has so far been a positive catalyst for Salesforce's shares. It could result in an even bigger stock buyback for the CRM software firm in the near future. Salesforce is already profitable, which separates the company from many of its peers in the cloud-based platform market. Salesforce also generates a solid amount of free cash flow, which would support a raise in the stock buyback authorization. While the stock is not cheap, shares of Salesforce have a lot of potential going forward!
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Disclosure: I/we have a beneficial long position in the shares of CRM either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.