Why is Salesforce stock so overvalued?

Salesforce share analysis - market leader with over 25% growth

last updated: May 15, 2021

Salesforce shares have more than doubled since the low of the Corona crisis and now have a market capitalization of over USD 230 billion. It is all the more impressive that, despite its size, Salesforce still has growth rates like a startup. Over 25% sales growth p.a. in the last 5 years. At the same time, they are steadily expanding their market shares in the CRM industry. But is that Salesforce share still a buy now or should First wait?

In this in-depth stock analysis on Salesforce you will learn:

  • everything about the company - the various segments and the business model
  • everything about the CRM industry, competition and the market position of Salesforce
  • as well as a detailed evaluation and calculation of the price target for Salesforce shares

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1. Salesforce.com Inc. Company

Before founding Salesforce, Marc Benioff worked for Apple and Oracle. During his activities he was interested in:
If a company wants to integrate strategies such as CRM (Customer Relationship Management), only impractical software programs are available. These have to be installed in a complex manner and are usually tied to one device. In 1999 he tackled this problem by founding the CRM platform “Salesforce”, making him a pioneer in cloud computing. Even today, as CEO of Salesforce, he still pursues his mission at the time "The end of software„.

... and more than successful! The Salesforce share recorded a 4-digit growth rate and the company itself is not only by far the market leader in the CRM industry, but also in the area of ​​cloud applications (more on this in Chapter 2). They not only serve large companies, but also count small companies with fewer than 10 employees among their customers.
In order to understand how Salesforce creates added value for its customers and how exactly they generate their income, at the beginning of this Salesforce stock analysis we take a look at the company segments (including the development in the past quarters):

Description of the segments

The Sales Cloud improves the productivity and efficiency of the sales department.
It enables customer data to be saved, the process of customer acquisition to be monitored, forecasts to be made, new information to be gained through analyzes and statistics, and offers, contracts or invoices to be transmitted.

The Service cloud increases a company's customer support.
Employees can connect to the customer from anywhere, from any device and across all channels. This not only enables better and faster, but also more personalized customer support. In addition, it is possible for companies to connect all their employees, customer service, freight forwarders and field service experts via a central platform. They can easily plan, split work, manage orders and track them in real time.

The customer acquisition process is improved via the Marketing & Commerce Cloud.
With the Marketing Cloud Companies can plan, personalize and optimize the so-called “customer journey”, for which all channels such as e-mail, mobile and social networks are available. In addition, customers can be segmented and targeted with targeted advertising. In addition, all customer data in the Marketing Cloud can also be integrated into the Sales Cloud and the Service Cloud, giving companies an overview of all their customers.

Through the Commerce Cloud the customer experience can be standardized across all interfaces. With the help of the integrated AI (Artificial Intelligence), which offers a personalized shopping experience as well as a robust partner ecosystem, not only customer interaction and customer satisfaction are increased, but also company revenues.

The Salesforce platform includes, among other things:

Lightning Platform - With the Lightning platform, companies can develop their own apps that are precisely tailored to their needs. Countless tools are available for this. It also includes intelligent analysis functions, which companies can use to view their business data, gain new insights and make better decisions. In addition, companies get access to an online learning platform through which employees can acquire all possible competencies and skills related to Salesforce. The same goes for the “Heroku” platform, which enables developers to develop applications entirely in the cloud and operate them from there.

integration - With the MuleSoft Anypoint Platform every system, every application and every device can be connected to one another on a uniform platform. The provision of data throughout the company leads to a significant increase in efficiency and the development of new sources of income.
Collaboration - The Quip Collaboration Platform combines documents, spreadsheets, applications and chats with live CRM data and thus represents a central hub for teams through which they can work together.

And professional services include consulting, implementation and training services.

Salesforce didn't develop every service itself. The list of acquisitions is long - mostly double-digit and triple-digit million amounts as well as some larger purchases. In 2018, Salesforce took over the software provider MuleSoft listed under "Integration" for $ 6.5 billion. A large part of the acquired companies are integrated directly into their own platform, which leads to high synergy effects at Salesforce, but also offers customers increased added value.

How does Salesforce make money?

Marc Benioff coined the terms SaaS (Software as a Service) and PaaS (Platform as a Service) with Salesforce like no other. He is thus also largely responsible for the success of the Salesforce share. In a grossly simplified manner, the customer is provided with services, software or an entire platform for a monthly subscription via the cloud. This offers many advantages for the customer; E.g. he no longer has to worry about his own server, security and other issues. This means he has fewer worries and can concentrate fully on his main business. The big advantage for Salesforce: Scalability! The following screenshot from the Salesforce price list shows how this is achieved:

The exemplary graphic for the Sales Cloud shows how well the service is scaling. On the one hand, Salesforce offers a convenient subscription model, like every successful IT company now. As a result, for example, sales can be planned much better and, above all, regular income is generated, to name just two advantages. But what really matters is the price per user. While with Salesforce the costs increase only slightly with a larger number of users, this model leads to an excessive growth in revenue, as the customer pays on top for each additional user.

This economies of scale can of course be increased with a higher price or with an increasing number of users. The former will probably not be the case with Salesforce for the time being, as they continue to grow strongly and want to secure additional market share, but the latter. In addition to the “normal” growth in users, due to the increasing awareness of Salesforce, they can accelerate the number of users primarily through their various segments. Because, as already described for the individual areas, the various services can be networked with one another, which offers the customer significantly more advantages. This means that employees from all departments can jointly access the data. While that's handy, it also costs additional fees that flow into the company's coffers and keep Salesforce stock up.

If you add all of this income together, Salesforce comes up with an incredible, average one Annual sales growth of 26 percent. The income is divided into the following regions:

On the one hand it is noticeable that the growth of 27.6% in the home country (USA) is not nearly exhausted and on the other hand the unbelievable potential is evident in the other regions. Sales in Europe increased from Almost doubled from 2017 to 2019. At the moment, the home country USA still makes up by far the largest share with almost 70%. But that will change year after year in favor of further growth. So let's take a look at which companies could get in the way of Salesforce and what the market distribution looks like:

Competition and market position

As mentioned at the beginning, Salesforce is the world's leading CRM company. With their flexible platform and the multitude of tools and services they quickly conquered the market. And if you look at the developments, there doesn't seem to be a stop in sight:

With such graphics, especially if they were published by Salesforce itself, you should note that there can be different representations; even if this data was created by an independent market research company (IDC) and the deviations are usually only minor. I was able to determine such differences during my research, so here is a second graphic from another website:


But here, too, it becomes clear: the undisputed number 1 is Salesforce, small deviations only occur in places 2-4.
But Salesforce is not only at the forefront in the CRM market. As already mentioned in the company description, Salesforce was one of the first large platforms in the cloud area. When analyzing the company segments, you surely noticed that (almost) all services are cloud-based. As a result, Salesforce quickly fought its way up in the cloud application market:

This strong market position combined with the high growth naturally offers a lot of potential for the future. All of this is of course also reflected in the rating of the Salesforce share, which we will take a closer look at in Section 4.

We hang on to

  • Salesforce is one of the first cloud computing platforms and is growing at over 25% per year
  • The business model consists of several segments and is easily scalable
  • You are the world's largest CRM software provider and also right at the forefront in the cloud market

2. Industry

Even if Salesforce is at the top by a comfortable margin, the competition never sleeps. In particular, the proportion of "other" companies that are not included in the rankings is growing rapidly - over 20% per year. If you look at the overall growth of the industry, it is not surprising that everyone wants a piece of the pie:
In 2018 the CRM market grew by 16% and also for the period 2020-2027 an annual growth of approx. 14% forecast. This makes CRM the fastest growing segment in the field of enterprise software, as this somewhat older, but still relevant graphic illustrates (CRM in dark green):

This strong growth in the CRM segment is another reason for the strong development of the Salesforce share, as well as for the rather high valuation. This assumes that Salesforce can further expand its lead and will continue to dominate this segment in the future.


Customer orientation is becoming more and more important

It is not surprising that the CRM segment is growing so fast. Customer orientation has always been one of the most important factors of any company, but especially in this day and age it is more important than ever. Good CRM is no longer an additional success factor, but essential for survival. And this is largely due to the fact that the customer is getting more and more power in the form of information, which many industries have felt in the past:

  • Why go to an overpriced and non-transparent travel agency when I can compare every single provider online and find the best one for me?
  • Why go to an expensive electronics store with mediocre advice when every single product is available to me online at the best price and with thousands of testimonials?
  • Why have an unfriendly taxi driver drove me to my destination via detours when I can simply book a driver via an app who will take me directly to my destination?

The list is endless ... a company fails to meet the needs of its customers and sooner or later it disappears from the market. The following graphic shows that customers have ever higher demands:


... Regardless of the technology, business model or industry, customer orientation always has top priority and will remain in the future. So if you position yourself well in this market, you will hardly be able to fail to achieve double-digit growth.

If CRM - then Salesforce!

Another point to bear in mind:
If you are looking for a CRM provider as a company, you are of course most likely to choose a larger one that many customers already trust and that has many positive experience reports - Salesforce. The following graphic provides evidence of this:

The blue line shows how many companies are already using the software from the providers shown.
The Line in orange shows which vendor companies are most likely to consider for a future investment in CRM.
With Salesforce having the largest share of the market, it's not surprising that most companies use them too. What is interesting, however, is how clear the companies' answer is, which provider they would most likely consider and how far Salesforce is ahead here too. This is another indication that Salesforce shares can maintain their growth for the next few years.

We hang on to

  • No area of ​​enterprise software is growing as fast as the CRM industry
  • Customer orientation will continue to play a decisive role in the future and at the same time customers have ever higher demands
  • As the largest CRM provider, Salesforce is considered by most companies, which benefits the Salesforce share in particular

3. SWOT analysis

SWOT = Strengths, Weaknesses, Opportunities, Threats -> strengths, weaknesses, opportunities, risks

Strengthen

  • Salesforce is by far the market leader and is expanding this position further
  • With a market capitalization of over $ 230 billion, sales growth of + 25% is impressive
  • The business is highly scalable, which leads to steadily increasing margins
  • Salesforce earns its money with CRM software, which you can of course also use for your own customers. They benefit from their own know-how in dealing with customers
  • In terms of their customers, Salesforce is well diversified and covers every UN size. No customer accounts for more than 5% of sales

weaknesses

  • The valuation of Salesforce shares is very high and takes a lot of future growth into account
  • Almost 70% of the revenue comes from the USA, so Salesforce is not optimally diversified
  • At the moment there is hardly any profit, and it is very irregular

opportunities

  • Outside the US, especially in Europe, there is still plenty of potential for growth
  • Due to the so-called lock-in effect, it is likely that customers who have got used to the Salesforce platform will no longer switch
  • The business, which is still trimmed for growth, causes a lot of costs and high investment needs. As Salesforce continues to consolidate its position, costs and investments will continue to fall, which can lead to a disproportionate increase in margins
  • Salesforce is a platform that many partner companies also use. The more users, the more third-party providers, the more users, etc. This strengthens the market position and accelerates growth
  • Salesforce has plenty of cash that they can use (especially now) for additional, strategic acquisitions to further expand their market position

Risks

  • If the consequences of the corona crisis last longer than forecast, the cuts in the marketing budget will continue to have a negative impact on Salesforce's business in the next few years
  • The high rating presupposes almost perfection. Should Salesforce's growth slow down even slightly, the share price may fall sharply above average
  • If the competition grows stronger than expected, this will continue to have a negative impact on the business and the planned cost reductions, which is why profits could increase later and weaker

The chances for further growth are excellent and there is some potential. Many weaknesses, such as the low margins and the currently still poor diversification, are long-term opportunities. The market is growing rapidly and will continue to develop above average, especially with Salesforce as the market leader. In addition to the risks listed, the biggest weakness is probably the high valuation of Salesforce shares.

4. Salesforce share Target price, forecast and evaluation

Similar to Amazon, Salesforce does not (yet) attach great importance to its profits, but invests the majority of the income for the benefit of future growth. As an investor, you have to be aware of this and proceed accordingly with the valuation. That is why I will in the following consideration do not attach great importance to the net margin and the P / E ratio. This makes it all the more important to consider sales and the operating margin. The following graphic illustrates this particularly well:


Nothing stands in the way of sales growth and the operating margin is also rising steadily. And as already mentioned, profit does not seem to be of great importance. This may be a disadvantage for some investors, but it shouldn't bother long-term investors, on the contrary: With the business model described and the low net margin of less than 5%, you can imagine how a lot of potential still exists here in the future.

particularities

But there is also another special feature. The financial year of most listed companies ends on December 31st. of the year. In rare cases at a different time in the second half of the year. In the case of Salesforce shares, however, we have the case that the fiscal year ends on January 31 ends and therefore all data, figures and facts refer to this date, as it is also correctly displayed in the share finder:

When evaluating and calculating how much potential the share still has, one usually looks 2-3 years ahead, as most forecasts only go so far. For almost all companies, we calculate the potential up to the 12th2023, but at Salesforce that would only be 01.2023.

There is, however, another point that you should keep in mind when it comes to Salesforce shares. The number of shares outstanding is increasing steadily. In other words, new shares are issued on a regular basis.

In 2003 the number of shares was ~ 411 million and has increased to 922 million shares by 2020 more than doubled. That means Salesforce has repeatedly raised new capital with newly issued shares - and that has two main effects:

  1. In the graphic above is the operational Cash flow per share shown, i.e. the actual cash flow is significantly higher or shows even higher growth.
  2. The large number of newly issued shares dilutes both cash flow and earnings per share. This is fundamentally undesirable for an investor, as the existing income has to be distributed over an ever increasing number of shares.

Overall, we have to keep an eye on the atypical fiscal year (January 31st), as well as the increasing number of shares issued, when evaluating Salesforce shares. With this knowledge we now calculate the fair value of the Salesforce share.

Old target price of Salesforce stock analysis (May. 2020)

The following text (marked in light gray), the graphics and the calculations refer to mine in May. Analysis carried out in 2020.

In the next section, the current calculations are made - especially as a comparison to the current situation, it is particularly interesting to take another look at my statements and the valuation of the Salesforce share when it was still quoted at a price of approx. 155 USD.

What is immediately noticeable: The Corona crisis has already left its mark on Salesforce, which is why a slight kink can be seen in the forecast of the operative cash flow; which of course could be even stronger, as mentioned in the SWOT analysis. Otherwise, the operational cash flow, due to its stability and the lack of outliers, is ideal for calculating the fair value based on the historical data from Salesforce itself.

An average KCF (price-cash flow ratio) of 28 (this creates the yellow line). For a company like Salesforce, this figure is perfectly reasonable. The KCV has hardly deviated from this value in recent years either. A comparison with the peer group is difficult due to the peculiarities of Salesforce. One of the biggest competitors of Salesforce (especially in the marketing area) is best suited for this - Adobe. And at Adobe, too, the average KCF (over the past five years) is ~ 28.

Here we come for that Year 2022 to a fair share value of approximately $ 180, at the current rate of approx. $ 155, this would correspond to only a low potential of approx. 15%. but DANGER:
As already mentioned, the financial year ends on January 31, 2022. If we were to proceed in the same way as in the last stock analyzes, like for Salesforce, the fair value of January 31, 2023. Average CF growth has been around 25% over the past few years. Since the risks of the Corona crisis are difficult to assess, we assume conservative growth of around 15% for 2022-2023. This results in a fair value of about $ 210 on January 31, 2023. Based on the current rate, this corresponds to a potential of 35%, or about 12% per year.

Salesforce share price target - current

Now the price target is calculated and the Salesforce share valued for the current situation

Here, too, the use of the historical KCV is still suitable. In my analysis carried out in May 2020, we still used a KCV value of 28 for the calculation. In the current calculation, we are a little more optimistic and object KCV value of 30 at:

What you should immediately notice: you can now display the forecasts for the next 3 years in the share finder. In my analysis at that time, you could only display the next 2 years - for 01.2022. For this reason I appreciate the development for the fair market value for 01.2023:
"Since the risks of the Corona crisis are difficult to assess, we are assuming conservative growth of around 15% for 2022-2023. This results in a fair value of about $ 210 on January 31, 2023. "

And as we can see from the graph above, this estimate was very accurate. With an average KCV value of 30, we would go for Get a fair market value of $ 210 in early 2023. Salesforce shares are currently trading at around USD 260. This corresponds to an overestimation of 20 percent. And even if we were to use a 35 KCV to calculate the fair value - for comparison: the Amazon share has an average KCV of 25 - the Salesforce share would be fairly valued at a price of around USD 250 for the beginning of 2023 and at the present time Time is still far too expensive.

Conclusion - Salesforce share analysis

There are some risks, but all the more opportunities. In the end, it all depends on whether Salesforce can maintain its growth or possibly even increase it. In my opinion, however, a lot looks like it. Digitization is advancing and customer orientation is playing an increasingly important role. Cloud services and platforms are the perfect means to implement a good CRM strategy. And no company is better positioned in this market than Salesforce.

My final conclusion from the analysis in May 2020 was:
“(...) Therefore the share gets a clear one from me PURCHASE - Rating."

Since then, Salesforce stock has risen by over 70%. In my opinion it takes Share currently too much in anticipation of future growth. Even in the analysis back then, when the stock was still trading at $ 155, I wrote that a lot of perfection was factored into the price. Due to the excellent market position and the easily scalable business model, I considered the "high" rating at the time to be appropriate.

I still believe that Salesforce is an excellent company that will continue to show impressive growth rates in the future. However, I personally think the current stock valuation is plain and simple clearly too expensive. Of course, I wish all the investors who have invested or those who have recently joined the company every success and I hope for them that I am wrong.

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