The S&P 500’s software stocks have faltered recently. And with the company’s share price down 23% since the start of the year, Salesforce (NYSE:CRM) is taking decisive action.
The firm’s looking to raise $25bn in debt to use for share buybacks while its stock’s down. It’s really bold, but is it a brilliant or desperate move?
Software as a service
The stock market’s concerned about artificial intelligence (AI) agents undermining software companies, and Salesforce is one of the biggest potential casualties.
There are a few ways in which this might happen. The most direct is that customers might just build their own AI agents that don’t need the firm’s user interface.
Even if customers do stick with the company, subscriptions are currently based on the number of users. But this could be set to fall substantially if AI agents replace humans in a big way.
Salesforce is looking to shift its pricing model, but that means lower recurring revenues. And the stock market’s taking that very badly, which is why the share price is falling.
Debt and buybacks
A company buying back shares when its stock is cheap can be a really good move. It brings down the number of shares outstanding, which helps increase earnings per share.
Doing this with debt though, is hugely risky. The associated borrowing costs mean the company needs to generate enough cash to offset this for the move to work.
Salesforce’s credit rating was downgraded by Moody’s after the announcement. So the firm could be looking at something like 4.5% in interest on the debt it’s taking on.
At a price-to-earnings (P/E) ratio of 25, the company’s going to have to grow its earnings for the move to work. If it doesn’t, the consequences could be dire for investors.
Charter Communications
Another S&P 500 company that’s used debt for share buybacks in recent years is Charter Communications (NASDAQ: CHTR). But that hasn’t worked at all well for investors.
Over the last five years, the firm’s earnings per share have increased by 46% despite net income growing by a much, much lower percentage. That’s the effect of share buybacks in action.
Unfortunately though, the firm’s debt is up 60%. And while this was cheap when interest rates were low, Charter’s now having to refinance these at higher costs.
That’s why the stock’s down 64% in the last five years. But the question is whether Salesforce betting big on itself is going to mean it ends up in a similar position.
All-in investing
Charter’s biggest problem is that its core cable TV business has been in decline. And buying back shares hasn’t done anything to change that.
Could Salesforce be in a similar position? The company’s growth has been slowing recently, but it’s not really the same kind of outright declines – at least, not yet.
If the company can fend off the AI threat, the move to buy in its own stock is will turn out to be a brilliant one. But if it can’t, the debt could be disastrous. Which is why I’m looking elsewhere.
