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To Own Salesforce Stock, An Investor Still Has to Trust the Market

CRM stock is one of the most expensive mature stocks in history

For several years now, I’ve called out Salesforce (NYSE:CRM) stock as an intriguing barometer of market sentiment. The reasoning is relatively simple.

A hand with pink painted fingernails holds a Salesforce (CRM) sticker.
Source: Bjorn Bakstad / Shutterstock.com

After all, there’s little debate about the quality of Salesforce as a business. It brought the SaaS (software-as-a-service) model to the mainstream. By one definition, it’s the first cloud vendor to ever hit $5 billion in revenue in a single quarter. Year after year, Salesforce delivers revenue growth over 20%. More recently, margins have expanded, and the company has begun to deliver solid profits as well.

The debate, however, is over valuation — and has been for some time. CRM stock in recent years has been one of the most expensive large-cap tech stocks in the market. Over that stretch, many investors (admittedly myself included) have seen it as too expensive. The market mostly has disagreed.

The debate continues, even as (or because) Salesforce stock has continued to rally. If anything, the debate seems more acute now, and more reflective of very real concerns in the market at the moment. For investors who believe the recent dip is a buying opportunity, CRM stock should be near the top of the watch list. For those who believe the tech sell-off is just the beginning, patience obviously is advised.

CRM Stock Tops the Market

It’s too simplistic to argue that Salesforce stock has been buoyed by broader optimism toward tech. Certainly, tech has rallied last year. Even with weakness over the past week and a half, the tech-heavy Nasdaq composite is up 32% over the past year, and a whopping 125% over the past five. The Nasdaq 100, which includes that exchange’s largest non-financial stocks, has done even better.

But CRM has outgained both indices. It’s up 57% over the past 12 months and has rallied 245% during the past five years.

Obviously, the big gains after last month’s blowout earnings report are a factor. But even before that release, and a 26% one-day rally, CRM had topped even the best part of the market and did so routinely.

Valuation Concerns, Again?

But history also shows how sensitive the stock can be to market conditions. Amid the pandemic-driven sell-off in March, CRM fell 36% in less than a month. The tech correction in the fourth quarter of 2018 led to a 24% decline. And as tech has seen volatility of late, the same pattern has held, with Salesforce stock declining 13.6% in just the last seven trading sessions.

Obviously, very few stocks are immune to market gyrations. To cite just one example, Microsoft (NASDAQ:MSFT) shares have dropped 12% over the same recent stretch.

But Salesforce’s valuation requires sentiment to stay bullish. And indeed, the stock has underperformed the market during the two big sell-offs of the past two years.

Even with the stock retrea ting over the past week and a half, valuation remains a significant concern. After the fiscal Q2 report, Salesforce raised its full-year adjusted earnings per share guidance to $3.72 to $3.74.

That in turn suggests CRM stock still is valued at roughly 65x this year’s earnings. But even that understates the case.

After all, that EPS guidance excludes share-based compensation. And it’s a huge expense. According to the Q2 release, the removal of share-based comp adds some $2.35 to the figure.

That’s well more than half of the adjusted EPS figure. Year-to-date, share-based comp has accounted for almost 50% of operating cash flow.

Price or Quality?

The fact is that CRM stock is inordinately expensive. It’s priced more like a newer, high-growth name than a mature industry leader.

But it bears repeating: it’s been expensive essentially since its 2004 initial public offering, save for perhaps a brief stretch during the financial crisis. Most investors who paid up for the stock have been well-rewarded for doing so.

And in this market, paying up for quality has been far preferable to buying a weaker business because its stock is “cheap.” The market’s biggest winners in recent years, and this year in particular, often have been the most expensive stocks in their sector. Examples include Tesla (NASDAQ:TSLA), Zoom Video Communications (NASDAQ:ZM), and Sea Limited (NYSE:SE).

That trend has to come to an end at some point. Price does matter. The question is when — and what price.

That question has come to the forefront in the recent sell-off, which has focused mostly (though not solely) on the best-performing names in tech. CRM stock hasn’t escaped that sell-off, and won’t be immune if it continues. There’s a great business here, but investors buying CRM stock now have to believe that the market is getting ready to bounce.

On the date of publication, Vince Martin did not have (either directly or indirectly) any positions in the securities mentioned in this article. 


Article printed from InvestorPlace Media, https://investorplace.com/2020/09/crm-stock-investor-trust-market/.

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