Is Salesforce A Buy After Earnings Rise 10X??
Back in early October I showed you 1 Reason To Avoid Salesforce…
Today, I give an update and answer – Is Salesforce A Buy After Earnings Rise 10X?
You can read the past article in full using the link above.
But if you don’t want to; here’s a quick recap before we get to today’s update.
1 Reason To Avoid Salesforce
It’s Enormously Overvalued
Normally in these articles I talk about profitability, cash flow, the affects coronavirus is having on a company’s financials among other things.
But frankly none of those matter with Salesforce (CRM) due to its huge valuation.
Salesforce provides cloud computing solutions for businesses. These solutions save their clients a ton of money by helping them avoid regular huge spending on upgrading hardware.
Due to the rapid increase in cloud computing solutions in the last decade its revenues exploded… From $1.7 billion in 2010 to $19.4 billion in the last twelve months.
This is an increase of 10.4X in the last 10 years.
Which led to huge increases in profits and cash flows in this time.
Its net income rose from $64 million in 2010 to $2.4 billion in the last 12 months. This is a 36.5X increase in the last 10 years.
And its free cash flow rose from $90 million in 2010 to $3.5 billion in the last 12 months. This is a 37.9X increase in the last 10 years.
And this exponential growth in revenues, profits, and cash flows helped skyrocket Salesforce shares in this time.
From $18.44 per share at the beginning of 2010 to $256.16 per share as of this writing.
This is an increase of 12.9X or 1290%.
You’re doing well if you earn 10% investment returns per year on the stocks you own. Salesforce produced investment returns of 129% per year on average over the last decade.
Its growth should continue as more businesses work digitally during and after this crisis. Which is illustrated with Salesforce’s continued growth in revenues, profits, and cash flows even during this pandemic.
This is all great for Salesforce and its shareholders… But it also leads to a huge problem.
It’s massively overvalued.
Its P/E is 100.6.
Its current P/CF is 54.4.
And its current forward P/E is 67.6.
I look to buy companies with valuations below 20 on all these metrics to consider the company undervalued or at worst fairly valued…
Salesforce crushes this threshold.
Why below 20?
Because that means the company is at worst fairly valued… And if its significantly under 20 that means the company is undervalued.
When a stock is fairly valued or undervalued it gives you more margin of safety in investing terms.
This means you have better chances of earning higher returns owning its stock over time. These combined make the stock a less risky investment.
With Salesforce stock being so overvalued it means there is no margin of safety… That you have a far lower likelihood of making money owning its stock over time. And these make the stock riskier.
Does this mean I think Salesforce stock will crash and burn?
No. I expect it to continue performing well going forward… But not as well as it did in the past due to its large valuation.
For the reason of its overvaluation I recommend you avoid its stock right now… There are safer, cheaper, and higher return stocks you can buy now.
So far, the thesis to avoid Salesforce due to its overvaluation has continued to play out after it released its most up to date quarterly earnings on December 1st, 2020. Sort of.
The numbers were spectacular.
Revenue grew 20% in the year-to-year quarterly period to $5.42 billion.
Revenue grew 26.2% in the first 9 months of 2020 to $15.4 billion when compared to the first 9 months of 2020.
Net income in the year-to-year quarterly period rose from negative $109 million in the same quarter of 2019 to positive $1.1 billion in this quarter.
And net income for the first 9 months of 2020 rose 10X to $3.81 billion compared to $374 million in the first 9 months of 2019.
I expected Salesforce to continue performing well… But this is exceptional.
And these impressive results still weren’t good enough to keep the stock from falling 12.8% since early October when I last wrote you about it though.
Why did it fall with these fantastic results?
Because they weren’t good enough.
When companies have super high valuations like Salesforce did, if their results don’t continue being otherworldly, the stock gets hammered.
And even in Salesforce’s case… It still got hit hard.
This is why you need to be extremely careful when dealing with stocks or markets that are massively overvalued like we’re seeing today.
One small “problem” – even if its not a real problem that effects the company’s economics long term – can crush the stock or the market.
But this is potentially good news for us.
When net income rises a lot and stock prices fall a lot – that means valuations become better.
So, is Salesforce now cheap enough to buy?
It P/E got cut almost in half to 58.1
Its P/CF is 48.
And its forward P/E is 63.3.
These show that Salesforce stock is far cheaper to buy now than it was back in early October…
But also, that its still far too overvalued to consider buying right now.
Again, this perfectly illustrates why you need to beware of overvalued stocks or markets.
For these reasons I continue to recommend patience, and you waiting to buy Salesforce until its cheap enough to do so.
Until then, use the following links to some of our recent articles to learn other ways to protect yourself and your investments in these uncertain times.
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Disclosure – Jason Rivera is a 13+ year veteran value investor who now spends much of his time helping other investors earn higher than average investment returns safely. He does not have any holdings in any securities mentioned above and the article expresses his own opinions. He has no business relationship with any company mentioned above