Salesforce (CRM) is set to report its second-quarter earnings on August 28. The company’s shares recently suffered a major decline following its first-quarter results, which impacted investor confidence due to a rare revenue miss and less-than-encouraging guidance. While these setbacks are worth monitoring, I believe that with more moderate expectations for Q2, such significant disappointments are unlikely to repeat. That’s why I remain bullish on CRM ahead of the earnings report.
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The investment thesis is supported by Salesforce’s strong install base, which should continue to drive growth story. Even as sales cycles undergo adjustment, the gradual implementation of AI innovations should bolster the company’s growth prospects.
Reviewing the Overreaction in CRM Stock Post-Q1 Earnings
Salesforce stock took a significant hit following its Q1 results, but this doesn’t necessarily undermine the bullish thesis. Known for consistently exceeding earnings expectations, Salesforce missed its revenue estimates for the first time since 2006, according to CNBC. The company reported $9.13 billion in revenue, an 11% year-over-year increase, but this fell short of the expected $9.15 billion.
Other factors also contributed to the bearish reaction. Current remaining performance obligations totaled $26.4 billion, reflecting a 10% year-over-year increase, which was just shy of the anticipated 11%. Additionally, Salesforce revised its guidance, lowering its forecast for the 2025 operating profit margin from 20.4% to 19.9%.
Despite these setbacks, there were positive aspects. Cash flows, a key strength for the company, remained robust. First-quarter operating cash flow reached $6.25 billion, up 39% year-over-year, while free cash flow was $6.08 billion, up 43%. Additionally, Salesforce declared a quarterly cash dividend of $0.40 per share. Non-GAAP operating margins increased by 450 basis points to 32.1%, reflecting strong financial health.
However, the main concern for investors was understanding the reasons behind Salesforce’s top-line miss. According to Bloomberg, the broader enterprise software sector has faced challenges, including increased competition and shifts in customer spending priorities. These factors likely contributed to slower-than-expected sales growth and delays in closing large deals.
Even so, Salesforce’s management remains confident that this is just a temporary headwind. CEO Mark Benioff noted that despite the lower revenue results for the quarter, Salesforce maintained its full-year guidance at $38 billion. This optimism reflects ongoing progress with their AI initiatives and transformative customer stories, such as FedEx (FDX) and Air India, leveraging Salesforce’s AI technology.
Meanwhile, the market has gradually absorbed Salesforce’s management optimism. After the Q1 results, Salesforce shares initially plunged nearly 20% from their $270 per share levels in late May. However, since then, the stock has gradually climbed back above $260, though it still remains well below its 52-week high of $318 per share.
In summary, the post-Q1 bearish reaction appeared to be exaggerated. Salesforce’s history of delivering solid earnings beats had set high expectations among investors, and the recent drop in confidence seems to be a response to this unexpected revenue miss.
What to Look for in Salesforce’s Q2 Report
Even though I don’t believe the long-term bullish outlook for Salesforce was truly jeopardized by the Q1 results, the situation has changed as Q2 earnings day approach. The recent rebound in Salesforce’s share price indicates that investor confidence is gradually returning. However, the company’s reputation for consistently beating earnings is now viewed with a bit more skepticism.
Since Q1, analysts have adjusted their expectations significantly. Over the past three months, 28 analysts have lowered their EPS forecasts, while only 8 have increased them. For revenues, it’s even more pronounced: just one analyst has revised expectations upwards, while 33 have gone down.
In terms of estimates, the consensus estimate for Salesforce’s Q2 EPS is between $2.10 and $2.41, which would represent an 11% year-over-year growth at the mid-point. For revenues, the expectation is around $9.23 billion, reflecting a 7.3% year-over-year increase.
In my view, Salesforce needs to provide evidence that the perception of increased competition and elongated sales cycles is not the new norm. Instead, they should demonstrate that they are successfully navigating this transitional phase in their growth story.
With this in mind, I believe bulls should focus on key metrics that reflect the health of Salesforce’s underlying business. These include the revenue pipeline, particularly trends in future performance obligations, which the company expects to grow by 9% in Q3. The significant adoption of its AI innovations and new products, like Salesforce Einstein, will also be crucial.
Lastly, if non-GAAP operating margins remain strong, approaching the annual guidance of 32.5%, and cash flows stay as robust as they were in Q1, it should be enough to satisfy Salesforce shareholders.
Is CRM a Buy, According to Wall Street?
Turning to Wall Street, the outlook on Salesforce stock is cautiously bullish. Out of the 39 analysts covering the stock, 28 recommend a “Buy,” 10 recommend a “Hold,” and only one recommends a “Sell.” The average price target is $295.85, suggesting a 12.10% upside potential based on the latest share price.
Key Takeaways
After the notable decline following the Q1 results, due to a rare revenue miss and reduced guidance, expectations for Q2 are more moderate, with both the company and Wall Street offering conservative forecasts. Given this, I believe Salesforce should more easily demonstrate stability in its key metrics, potentially leading to a bullish short-term reaction. Investors should focus on crucial indicators such as trends in the revenue pipeline, the impact of AI innovations, and the maintenance of robust margins and cash flows.
