Let’s not mess around with any preamble or suspense. Salesforce (NYSE:CRM) is a growth stock that I’d buy right now.
The stock has performed poorly this year. Since the start of January, Salesforce shares are down 32%.
I think that the underlying business is in great shape, though. Even though the stock might have been expensive at the beginning of the year, I think it’s now a bargain.
Growth
Salesforce is a growth stock. As such, it seems appropriate to start off by looking at the rate at which the company is growing its revenues.
Over the past decade, Salesforce has increased its revenue each year by over 24%. The growth rate has been slowing, but it remains strong.
Earlier this week, management reported a 22% increase in revenue compared to the previous year. For the full year, it forecasted revenue growth of 17%.
In my view, this illustrates the biggest risk to Salesforce as an investment. As with any growth stock, if the company’s growth rate slows down, the stock can take a significant hit.
Indeed, Salesforce’s stock fell 7.5% after the news. But CEO Marc Benioff attributed this to customers keeping closer controls on spending in a difficult macroeconomic environment.
This, I think, is likely to improve over time. And Benioff also noted that Salesforce has seen difficult economic times before.
In the meantime, the company announced its first ever share buyback plan. Since I think the shares are undervalued at the moment, this is something that I view positively.
Valuation
I think Salesforce shares are attractively priced at the moment. Even with its lower growth expectations, I think that the stock is a bargain.
The company converts around 20% of its revenue into free cash. Assuming that it can maintain this, the question of what the stock is worth comes down to how much it can grow its revenue.
In my view, Salesforce has several years of strong revenue growth ahead of it. I believe that the business can continue to grow its revenue between 15% and 20% for at least the next five years.
Annual revenue growth of 15% implies $61.2bn in revenue in 2027 and $12.2bn in free cash. At today’s prices, that implies a 7% return.
If Salesforce can achieve 20% growth, then revenues should reach $77.8bn and free cash should reach $15.5bn. That’s a 9% annual return based on the company’s current market cap.
Quality
I think that Salesforce is a quality business. I believe that it can maintain high margins over time and produce significant amounts of free cash.
Moreover, its business is well-protected from competitors. Switching costs for customers are high, meaning that it’s difficult for another company to take market share from Salesforce.
While the possibility of slowing growth brings an element of risk, if I were looking to add a growth stock to my portfolio, I’d be buying Salesforce shares right now.
