Playing Tech Stocks For Earnings Right Now Be Like …
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Salesforce (NYSE:CRM), the original cloud software company, reports its Q4 of FY1/22 on 1 March. This company, once the enfant terrible point solution provider of salesforce automation software, an existential threat to the prior generation of client-server names in the space, is now a rock-solid, dependable producer of revenue growth and cashflow. Salesforce has grown up admirably into a suite vendor capable of innovating with new product development of its own together with using its prodigious cashflow to make what look at the time to be audacious acquisitions that have, thus far, proven effective uses of capital. (See our prior coverage on this name going back to 2018 here on Seeking Alpha).
The question of what to do with CRM stock at this point is less, in our view, a matter of fundamentals and more a function of your view on the direction of risk assets right now.
Let’s look at the company numbers for a moment to illustrate our point here. In essence, this business is a machine. It grows a little faster or a little slower sometimes, cashflow margins move up a little, down a little, and the balance sheet takes a hit every now and then when a big acquisition is funded with leverage, but recovers as that leverage is repaid quickly from operating cashflows. In essence – you can rely on the CRM flywheel to keep turning.
CRM Financial Table (Company SEC Filings, YCharts, Cestrian Analysis)
At the most recent close, the market was asking you to pay 8.1x TTM revenue / 30x TTM EBITDA / 42x TTM unlevered pretax FCF for this 23% growth, 19% UFCF margin business. That’s not expensive in our view.
CRM Valuation Table (Company SEC filings, YCharts, Cestrian Analysis)
Growth is likely to hold firm, perhaps accelerate if the deferred revenue trend is anything to go buy – prepaid contracts are growing at 28% year on year as of the most recently reported quarter, and represent 41% of TTM revenue. Remaining performance obligations – the total value of the forward contract book, including prepaid and yet to be paid amounts – stood at $36bn in October last year, so around 1.5x TTM revenue is represented in future contracts. That tells you that major revenue misses are unlikely. Can happen, for many reasons – but unlikely.
So – heading into earnings – do you feel lucky?
If you look out the window a moment, or better yet, watch TV, you could be forgiven for feeling nothing but queasy. Here’s a big ol bowl of worry word salad: Fed, inflation, rates, tightening, yields, Ukraine, nuclear, Nordstream2, European internal dissent on external foreign policy, earnings, pesky kids, stimulus, back to investing basics. If this looks like a tasty and nutritious lunch to you, allow us to point you at oil stocks (but probably not BP given the Rosneft news), and wish you good luck. You may well be right.
But if you look at a few stock charts, you could be forgiven for thinking, and we’ll use the clean version here, « HUH??? ». Because the indices are pointing … up? Whether you look at the index futures (ES, NQ, RTY, YM1) or the index ETFs (SPY, QQQ, IWM, DIA), if you switch off the TV, free your mind of the fact that the European Union for the first time in its c.70yr history just signed over a free consignment of lethal weaponry to an (at the time of writing) non member state, don’t think about the « Russian President Has Gone Rogue And May Go Nuclear » narrative playing out in the US news right now, and just look at the charts, you may well think, well, this correction is done and we’re heading up now.
Here’s NQ as an example – this is Nasdaq futures. (You can open a full page link, here).
NQ Chart (TradingView, Cestrian Analysis)
Going back to the last will-they-won’t-they Fed fandango in Q4 2018, NQ has put in a typecast set of Fibonacci extensions and retracements in the larger degrees shown. The Covid crisis is represented by an almost-to-the-dollar deep Wave 2 0.786 retracement of the Wave 1 up; then we see a subsequent Wave 3 peaking just above the 1.618 extension of Wave 1; and last week the futures bounced at, again, an almost-to-the-dollar shallow Wave 4 0.382 retracement.
We’re calling that the bottom for this Nasdaq correction. We think the next big move for the Nasdaq and for growth stocks is, up. We think NQ can make new highs within a year and we think a rotation back to growth by big money – not by Joe P. Retail or his fellow basement-dweller Chad M. Loan, but your quietly successful big money institution – is underfoot and will pull growth names like CRM upwards.
That’s our house view. We could be right or wrong, you may agree or disagree, who knows, but that’s our view. And that informs our stance on CRM. We own CRM in staff personal accounts; we have no plans to add to those holdings before earnings, because we think that just doing nothing will deliver gains – but if you yourself are thinking of opening a new position or adding to existing holdings in CRM we would say – that seems like a good idea to us, and, here’s how you might think about risk. (Full page version, here).
CRM Stock Chart (TradingView, Cestrian Analysis)
So – looking at CRM through the same Fibonacci lens we can say that the stock seems to have put in a full 5-waves-up sequence from the 2016 lows to the 2021 highs. Bear in mind the fractal nature of these Elliott Wave constructs. Those 5 waves up form a larger-degree, multi-year Wave 1 up. The correction since Q4 2021 is a larger-degree Wave 2 down which has thus far bottomed at the 0.5 retracement of that multi-year Wave 1 up (around $184/share), before moving up again somewhat to the $208 most recent close.
And here’s our dilemma.
To call a high confidence buy, we’d like to see CRM having achieved a deeper retrace of that Wave 1 up. If it had dropped then found support at the 0.618 level – that’s around $154 – or, better (for analysis purposes, not for our brokerage accounts!) the 0.786 retrace ($111), we would be screaming Buy from the rooftops. But the 0.5 retracement, that’s not such a brutal Wave 2.
But … the indices are all pointing up, at least as we draw them. And if you ask the investor on the street, the word salad you will get back tells us that Peak Yikes is likely upon us. Seems like a time to be buying risk assets to us. So if you are minded to buy CRM before earnings you might think about the outcomes. Earnings solid, no change to market sentiment, it’s up and away in our view. All good. Earnings whiff or guidance disappoints or the company decides to announce a monster acquisition of a high beta, no-earnings, no-cashflow name, then, the stock can head for the basement quick smart. Just ask Zscaler (ZS).
So you may want to consider scaling in your buy. If CRM drops from here it will likely find support at or around $185 (-12% from here), $155 (-25%) or, very unlikely in our view, $110 (-47%). ZS put in a great earnings report that the market decided to toss overboard anyway and it fell mid-20s% in the aftermath – let’s say CRM does the same – so you can maybe buy some at the current price and in the event of a drop you may get to add more in the $155-160 zip code. Longer term – we think the stock is moving up and we believe that a buy at the current price or the support levels we lay out above can prove wise for the long term holder.
Cestrian Capital Research, Inc. – 27 February 2022.
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This article was written by
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Cestrian Capital Research, Inc
5000 Birch St, West Tower, Suite 3000, Newport Beach, CA92660
Disclosure: I/we have a beneficial long position in the shares of CRM, ZS either through stock ownership, options, or other derivatives. Business relationship disclosure: See disclaimer text at the top of this article.
Additional disclosure: Cestrian Capital Research, Inc staff personal accounts hold long positions in CRM and ZS, and MAY open new long position(s) in TQQQ at the open on Monday 28 February.