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Shares of Salesforce, Inc. (NYSE:CRM) rose 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 in favor of investors concerned about the company’s growth prospects in a post-pandemic world. Considering that Salesforce has already announced a $10B stock buyback in August, I believe the combination of a stock buyback and the presence of an activist investor could bring Salesforce shares to a new up-leg!
A fast growing company in an expanding market
Salesforce has a strong market position for CRM applications and the software company is a leader in its niche. However, the market has shown signs of slowing in FY 2023, and investors are concerned that the company’s topline growth will continue to slow.
It didn’t help that Salesforce, in the last quarter, downgraded its revenue forecast for FY 2023 from $31.7-31.8B to $30.9B-31.0B as customers take longer to make software purchase decisions. The updated outlook still calls for 17% year-over-year revenue growth, however. Additionally, for multinational companies doing business outside the US, such as Salesforce, the strong USD is also a challenge for the company, at least in the short term.
Salesforce FY 2023 Guide
Despite those challenges, Salesforce is doing well in growing product adoption and customer monetization, especially in the Platform business, Salesforce’s fastest-growing business that helps customers scale their business operations. In FQ2’23, Salesforce’s business platform grew 53% year over year to $1.48B in revenues.
One of the most attractive features 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 around $300B by FY 2026 which the company also expects to increase its revenue base to $50B, which indicates an average annual topline growth rate of 17%.
Salesforce: OK
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 stock buyback in company history. The stock buyback represents about 6% of the company’s market cap, which currently stands at $160B.
Salesforce: FY 2026 Guidance
The presence of activist investors could be a catalyst for Salesforce
Starboard Value acquired a “significant stake” in Salesforce recently, although it was not revealed exactly how big a stake. The activist investor will likely 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 last year, so Salesforce can easily afford a higher stock buyback. Therefore, I believe that Starboard Value’s presence could be a long-term catalyst for Salesforce shares, especially if the activist investor successfully pushes for a higher buyback of the stock.
The main reason for Starboard Value to participate is Salesforce’s low valuation compared 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 are the two main motivators to buy the software company.
Starboard value
Given Salesforce’s leading role in the CRM market, a rapidly expanding market for all of its major operating segments, double-digit annual revenue, and now an activist investor on board, Salesforce shares are not as expensive as they look. Based on expected FY 2024 revenues of $35.6B, Salesforce shares trade at 4.4 X earnings which, considering the strong earnings potential, is attractive.
Salesforce risks
The strong USD is a challenge for the software company, as well as slowing topline growth in a post-pandemic world. Fast-growing cloud-based companies like Salesforce are primarily valued based on their prospects for revenue growth, so a slowdown in topline growth could negatively impact the company’s valuation factor. What would change my mind about Salesforce is if the company decides to lower its FY 2026 revenue target or see a material decline in its free cash flow (margins).
Final thoughts
Starboard Value LP’s presence has so far been a positive catalyst for Salesforce shares. This could result in larger stock buybacks 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 is also generating a solid amount of free cash flow, which will support the increase in the stock purchase authorization. Although the stock is not cheap, Salesforce shares have a lot of potential going forward!