Emerging Tech Star Has Cash to Spare

12/05/2007 12:00 am EST

Focus:

Bernie Schaeffer

Chairman and CEO, Schaeffer's Investment Research

Bernie Schaeffer, chairman of Schaeffer's Investment Research, uses a critical article on a major website to make a contrarian case for software company Salesforce.com.

An article ("Sorry, Salesforce, Cash Ain't So Special," subscription required) in Barron's Online argues that Salesforce.com (NYSE: CRM) is too pricey, even though the firm could see free cash flow rise by 50% next year.

Author [Tiernan Ray] backs up this assertion by stating that "many of the biggest tech outfits have strong cash flow, making cash earnings less special." Beyond that, some more established tech heavy hitters are currently trading at more reasonable valuations compared to their cash flow.

For example, Apple (NASDAQ: AAPL) and Microsoft (NASDAQ: MSFT) are both trading at about 17x their expected free cash flow for next year, and Google (NASDAQ: GOOG) is trading at 47x its own expected free cash flow-while relative upstart Salesforce.com is trading at about 40x its expected free cash flow.

The author also warns that CRM has disappointed the Street in its two most recent earnings reports, and the shares slipped as a result. Therefore, despite the fact that CRM has gained 42% during the past three months, ".there's no reason to believe that this run can last when other promising tech companies are seeing their shares fall in an environment of heightened volatility and worries about the economy."

It's a little hard to swallow when the author notes that CRM looks "expensive" compared to Google, considering that one Salesforce.com share costs about 8% of what a single Google share would run you. It's true that CRM is trading at a higher multiple to projected free cash flow for 2008 than a few of its peers, but whether or not that particular metric will sway investors remains to be seen.

And, as the author has to admit, "It could be argued that coming off of a smaller cash-flow base, Salesforce may have a greater chance to deliver upside."

And the stock's long-term up trend cannot be devalued. CRM has risen 208% during the past three years, using solid support from its ten-month and 20-month moving averages to climb higher. The post-earnings declines that the author notes were neatly contained and turned higher by these two collaborative trend lines, which show no signs of weakening.

Additionally, short-covering support could give the stock a lift: more than 7% of CRM's float has been sold short, despite the equity's long-term rally. At the stock's average daily volume, it would take more than four trading days for all these bearish bets to be repurchased. The fundamental picture for CRM also looks solid. In fact, as the article notes, "Salesforce offers what many believe is the future of software" by providing access to its business-accounting applications through an Internet hub.

And, happily, that's one area where it's not competing with Google, Apple, or Microsoft. (The stock closed near $55.50 Tuesday, less than 5% off its all-time high-Editor.)

Subscribe to the Option Advisor here.

Related Articles on