Although Salesforce.com (CRM.N) has strong price momentum (the stock is up 50% since the beginning of the year), on a valuation basis this stock may be too expensive. StarMine Intrinsic Valuation (IV) model assigns a score of 1, the lowest possible score, which means the model ranks the company the most expensive 1% of companies in the North America region on a valuation basis. However, as Salesforce.com consistently beats analyst estimates and raises guidance, the stock keeps heading higher. The StarMine Price Momentum model score of 80 indicates that the stock may continue on its upward trajectory in the short to medium term. However, that positive price momentum could quickly reverse if the company ever suffers a big earnings miss or a misstep. If that ever happens, look for the stock to plummet (ala Netflix or Chipotle). Let’s look at the reasons for the low valuation scores.
Salesforce.com shares trade a fraction below $150. StarMine’s model calculates the 10 year Market Implied Growth Rate, based on the current stock price, to be 28.6%. This growth rate that the market has priced into the stock makes it one of the highest expectations stocks in our universe. And, achieving a compound annual growth rate of nearly 29% over 10 years seems to be a tall task for any company, let alone one which already generates $2 billion in annual revenues. And this is not just our point of view. The famous academic paper by Louis K.C. Chan, Jason Karceski, and Josef Lakonishok, “The Level and Persistence of Growth Rates,” in The Journal of Finance, VOL LVIII, NO.2 April, 2003, found that less than 1% of large cap companies can sustain growth rates of over 29% over 10 years.
Salesforce.com reported $1.36 per share for the last annual period, and the consensus estimates are for earnings of $1.49 for the next year. That equates to an annual earnings growth rate of 9.5%. That makes the 10 year Market Implied Growth rate of 28.6% look even more aggressive. Put another way, if Salesforce.com continues to grow estimates at 28.6% for the next 10 years, the earnings would grow 12 times in the period and be $16.82 per share at the end of the 10 years. That means strong execution over the long run, and while that may not be impossible, it seems a tad bit optimistic. Could Salesforce.com be that one company in a 100 that grows earnings at 29% per year for 10 years? Sure. But the odds are against that.
