Left Brain Thinking: Salesforce.com (CRM) now represents GARP

This is Left Brain Thinking, where creative investment ideas meet logical analysis. That's the hallmark of Left Brain Investment Research, where the analysts are looking for growth companies with the potential to double in 2 to 3 years and high-yield bonds with the potential for dramatic price appreciation. Today we're discussing how changing market conditions are creating an environment where pricing is coming back to the fore, more of a growth at a reasonable price situation, and we're revisiting a left-brain favorite. With Brian Dress, Left Brain's Director of Research. Now, if you want to learn more about the firm and its research, go to leftbrainir.com. They're on Twitter at Left Brain IR. Brian Dress, thanks for coming back to Left Brain Thinking.

Hey Chuck, great to be here again.

Who are we putting back under the microscope because they were thriving before, but now they're thriving with a slightly different look?

So we're looking at an old favorite, and that's salesforce.com. Ticker CRM. And just a quick disclosure, I own shares in this and we also have it for clients. So over the last few weeks, we've been talking a little bit about how we've been repositioning to recent market trends. We've talked a little bit about trimming back some exposures in that, in the lower cap hypergrowth space, a little bit about bond-like equities and some commodity names that we like. But again, we're always looking for growth. That's our number one feature that we really want to see in an investment that we're looking for. And that brings us back to Salesforce with this looming inflationary environment, potential possibility of interest rates going higher later in '21 and in 2022. We're looking at companies that are a little bit more in the large cap space and growth at a reasonable price or GARP and CRM really fits the bill in that sense.

But when we talk about growth at a reasonable price, we're basically downshifting from the super fast type of growth that you are normally looking for. So how do you decide this is a stock that I'm going to continue to hold even though the growth outlook has changed a little bit?

Sure, I think it's really a matter of valuation and history of success. So with Salesforce, there's a few things. The first thing is the CEO, Marc Benioff. You know, we talk a lot about management. Great management is a huge part of success for businesses that we like. And Marc Benioff is one of the highest-rated founders that we've ever studied in, in our CEO profile series. A pattern of success, a great strategic vision, and an alignment of interests. But also the history of Salesforce is a history of great revenue growth. Over the 20-year public history of this company, it has been over 20% revenue growth every single year and 24% last fiscal year. So we feel really good about the growth pattern of this business. And then especially when you overlay that with the valuation. So the valuation is about 8 times sales for 2021 and under 7 times sales for 2022. So we're looking at a company with great valuation and a great history of growth. So we feel pretty comfortable with it. And even if things change and inflation comes in, we think a large-cap company like this is set to outperform some of the more hypergrowth type of names.

That to me is interesting. A more reasonable growth company like this is set to outperform some of the hypergrowth names. That has to sound a little unusual, not only to left-brain fans, but even when you guys are discussing it around the office, doesn't it?

Yeah, sure. I think there are a few things that go into that. If you take a look at the chart of Salesforce and kind of how it performed in the last couple of years, we really think it's underperformed what it should. You know, we think this is a great business. They've made some terrific acquisitions in MuleSoft, Tableau, and Slack. And those were all businesses we liked even before they were acquired by Salesforce. And again, we're a little bit surprised it hasn't had more of a performance than it has. This sounds like a lot, but it's up 80% from the March 2020 lows. And it's actually down about 20% from the highs in Q3 of 2020. But when you overlay that with other growth software as a service type of stocks, it's really been a laggard and we think that's unwarranted. And that's kind of why we're looking at companies like Salesforce, because we think there's gonna be some sort of an equalization. You know, I think what's happened is some of the hypergrowth stocks have gotten ahead of themselves a little bit in the last, you know, 12 to 18 months. And we expect companies like Salesforce to start performing a little bit better on a relative basis to those hypergrowth names. And especially when you have a company that throws off $5 billion of free cash flow per year, a little bit less risky than some of those hypergrowth stocks that aren't yet profitable.

Salesforce, of course, made some news in the last year because, well, it was added to the Dow Jones Industrial Average. Does that change anything? I mean, normally when we think of supergrowth companies, et cetera, we're not thinking about the big state blue chip names that are on something like the Dow. How unusual is that for you at Left Brain? And how unusual is it to have a Dow stock meet your growth criteria?

There are a few. It is a little bit unusual, but we look at it as a positive. A lot of the small-cap stocks, they're a lot more volatile because they aren't in an index. They're not in the S&P, they're not in the Dow. And so when things go wrong, there's not a buyer, a natural buyer in an index fund to be a backstop for those share prices. And so we look at it as a positive. So we don't expect CRM to drop 50 or 60% in a, in a couple of months because the reality is, is index funds will be coming in to buy, especially when there's a pullback in the shares. So we look at it as a positive. It is a little bit unusual. We don't have a ton of companies that are in the Dow, but it is a positive.

And this situation that we're talking about where you have to be a little more growth at a reasonable price as opposed to growth overall. Growth being the deciding factor. Is that going to be more common as we go up the cap scale, as we get to something that is established enough to be part of a major index?

Yeah, absolutely. I think it's natural to expect larger cap companies to be a little bit lower risk. And that's kind of why we're looking more toward these type of companies because, you know, we think that the bull market's going to continue, but there's a little bit of uncertainty in that growth space. Space and, you know, some weak hands in that growth space. So in order to manage risk a little better, we like companies like Salesforce because they're making money. They're on a net income basis profitable. And as I said, kicking off free cash flow. That's really a helpful risk management tool is to kind of move up scale a little bit to companies that are a little bit more profitable. You're less likely to get hurt in businesses like CRM. Than in companies that don't yet show a profit.

As we're talking about making this kind of move at a time like this, is this strictly market dictated? If we get back to a spot where the market kind of regains its legs and starts to make a strong run-up, et cetera, will it be move away from the growth at a reasonable price companies back to the hotter growth companies more? Is this the kind of thing that is downside protection? And not that you guys are making a market forecast, but conditions are pushing you to look a little bit more this way right now?

I think it's complicated. You know, we like Salesforce pretty much in any environment because as I said, they're always a grower. They're always growing in the 20s. So to some degree, you're always gonna get some growth here. Yeah, I think market conditions to a degree dictate what we want to do and we're gonna keep looking at those hypergrowth names, but let's wait for things to shake out a bit and potentially find better entries to get back in. But No matter what the situation is, I think we're going to be looking at, at CRM as a core holding, just because that growth is there. And in this particular timeframe with the environment that we're facing, I think CRM really fits the bill, not only from that growth point of view, but also from a little bit of a risk management point of view.

Brian, thanks so much for joining me to talk about it.

Thanks, Chuck. It's been great.

Again, Left Brain Thinking is a joint production of Left Brain Investment Research and MoneyLife with Chuck Jaffe. Our conversations are not personalized investment recommendations but are designed to engage your brain. Please do your diligence before making any financial transaction. I'm your host, Chuck Jaffe, and you can learn more about my weekday podcast at moneylifeshow.com. Thanks to my guest, Brian Dress, Director of Research at Left Brain Investment Research. You can learn more about the firm at leftbrainir.com, and you can follow them on Twitter at Left Brain IR. Left Brain Thinking is available now every other Wednesday, so we'll be back the first week of June. To make sure you don't miss anything, please subscribe on your favorite podcast app and plan to put your left brain thinking cap on with us again in 2 weeks. Until then, stay safe, everybody.