Shares of Salesforce (NYSE:CRM) have rallied by about 53% year-to-date. However, the cloud-based customer relationship management giant remains an enticing pick, in my view. Following activist investors swarming the company this year, essentially demanding Salesforce’s management to focus on improving profitability, profits have started to snowball. In fact, Salesforce appears to still be trading at a fair valuation relative to its earnings growth despite its recent gains. Therefore, I am bullish on the stock.
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Double-Digit Growth Persists, but For How Long?
Salesforce has not only managed to maintain impressive double-digit revenue growth, but it has done so amid a volatile enterprise software market environment. While the company has undertaken various initiatives to bolster its margins and earnings, driven by the urging of activists, the fundamental catalyst for its increased profitability remains its revenue expansion.
In its Q2 results, Salesforce posted revenues of $8.6 billion, marking a constant-currency growth rate of 11% compared to the previous year. This growth was primarily fueled by the sustained momentum of MuleSoft, Salesforce’s automation platform for IT, as well as robust sales and service performance, along with a subtle currency exchange rate tailwind.
However, it’s important to note that the company’s performance was somewhat tempered by ongoing weakness in professional services. This contrasts with the exuberant market conditions Salesforce enjoyed a couple of years ago. Nevertheless, the resilience of its business model and its unwavering commitment to a multi-cloud expansion strategy highlight the critical nature of its all-around platform.
Notably, more than 450 customers now invest over $10 million annually with Salesforce, utilizing an average of seven different clouds. As these customers increasingly rely on Salesforce’s solutions, their spending has seen rapid growth. As a result, in addition to acquiring new customers, Salesforce has seen an increase in average revenue per customer. Over the past five years, the number of customers spending over $10 million has tripled, while the average number of clouds they use has nearly doubled.
The looming question then arises: how long can Salesforce sustain its double-digit growth? To date, there hasn’t been a single quarter in Salesforce’s history where its top-line growth dipped below the double digits.
Although the 11% growth in Q2 may indicate a deceleration compared to its five-year CAGR of 21.3%, it doesn’t necessarily imply an impending slowdown. In fact, the company’s management anticipates that this 11% growth will persist into Q3 and, according to its Fiscal 2024 guidance, throughout Q4 as well.
Looking ahead to Fiscal 2025, Salesforce’s growth potential appears promising, driven by its ongoing progress in AI. Salesforce has pioneered this arena, launching the first AI for CRM with Einstein. Merged into the Salesforce Platform, Einstein leverages potent machine learning and advanced language models to personalize customer interactions and enhance employee productivity. Given Salesforce’s market-leading position, its AI products should see smooth cross-selling, likely rejuvenating revenue growth.
Earnings Growth Justifies Current Valuation
Salesforce’s cost-cutting initiatives, along with its underlying revenue growth, have resulted in significant earnings growth in recent quarters. Based on this, I find that the stock’s current valuation can be easily justified. To give an idea of Salesforce’s success in earnings growth, its adjusted operating margin landed at 31.6% in Q2, marking a substantial expansion from last year’s 19.9%. This result beat prior expectations, resulting in management boosting its FY2024 adjusted operating margin target from 28% to 30%.
The combination of sustained double-digit revenue growth and such a substantial margin expansion has yielded even more remarkable earnings growth. In Q2, adjusted EPS reached $2.12, representing a year-over-year surge of 78%. Moreover, for FY2024, management anticipates adjusted EPS to fall within the range of $8.04 to $8.06. The midpoint of this range implies a year-over-year increase of 48%.
With Salesforce’s ongoing margin expansion set to last and revenue growth staying robust, I wouldn’t be surprised if earnings growth remained rock-solid. Still, Wall Street analysts appear somewhat conservative. They are expecting earnings growth in the mid-teens over the medium term, despite this implying a notable deceleration from this year’s result.
In any case, with shares currently trading at a forward P/E of about 26 based on this year’s expected results, I find Salesforce to be quite fairly valued. We are talking about an industry leader likely to grow earnings by 20% in the coming years while benefiting from strong AI tailwinds.
In relative terms, Salesforce seems much more attractively valued than many companies in the S&P 500 (SPX) that have similar multiples but weaker growth prospects. This comparison is particularly evident when looking at examples within the consumer staples and utilities sectors.
Is CRM Stock a Buy, According to Analysts?
Turning to Wall Street, Salesforce has a Moderate Buy consensus rating based on 24 Buys, 11 Holds, and one Sell assigned in the past three months. At $252.56, the average Salesforce stock forecast implies 22.4% upside potential.
If you’re wondering which analyst you should follow if you want to buy and sell CRM stock, the most profitable analyst covering the stock (on a one-year timeframe) is Brian Schwartz from Oppenheimer, with an average return of 17.79% per rating and an 83% success rate. Click on the image below to learn more.
The Takeaway
As Salesforce continues to onboard high-value customers and expand its multi-cloud offerings, its growth prospects remain promising. The introduction of AI-driven solutions like Einstein is likely to sustain its growth trajectory. In the meantime, with substantial earnings growth being boosted by cost-cutting measures, Salesforce stock doesn’t appear particularly expensive. Consequently, the stock could be subject to further upside despite its impressive 53% YTD rally.
