Salesforce Is Undervalued Despite Democratization of AI Market (NYSE:CRM)

Salesforce fell 20% after first-quarter earnings

Salesforce has you covered (New York Stock Exchange: Customer Relationship Management) for the first time in February, and issued a Buy rating, although I warned of rating risks and stated a smaller price The allocation may be more prudent due to the potential volatility in AI stocks in the future. Now, next Earnings for the first quarter of fiscal year 2025, the stock price fell by approximately 20%. The company misstated its revenue by $13.38 million. Despite the increase in revenues for this period by 11% year-on-year and free cash flow rising by 43% year-on-year, investors did not accept the contraction in revenue growth referred to. I think this reaction to Salesforce’s quarterly results is unjustified, although I think the feeling that Salesforce may be entering a period of sluggish growth due to macroeconomic stagnation in several core markets is accurate. In essence, this could be a buying opportunity. David An interesting point Friedberg made on his latest All-In Podcast, released on Friday, May 31, is that there may be a running commoditization of AI, which significantly reduces the value of what Salesforce offers when consumers can get generative AI solutions. For a much cheaper and democratic price. There are several companies already developing the tools to deliver business solutions using AI at a greatly reduced price. In some ways, this significantly reduces some of the value Salesforce can have in the market in the long term. However, I believe the stock has much more life, and I believe the company’s management will be able to strategically readjust in offering new services that meet cheaper demand. AI commoditization could be the “beginning of the end” for Salesforce if it doesn’t adjust, but I don’t think the end is anywhere near yet. In the same podcast episode, David Sacks mentioned how CEO Marc Benioff is adopting an agile approach to managing Salesforce, which could be a good fit for the company if it can adapt again to changing market dynamics; I think it will, even if Salesforce is in the second half of its life as a company.

Click to enlarge

The nearly 20% decline in Salesforce shares comes at a time when I think there is some irrational exuberance in the markets related to many AI companies; However, I don’t consider Salesforce to be significantly overvalued. It was likely slightly overvalued before the revenue loss and almost certainly undervalued afterwards. I’ll explain this in more detail in my rating analysis below. What I think is important for investors to realize is that there will be fluctuations in the stock prices of companies working in the AI ​​space, even if they don’t deserve it like some other companies certainly do. The reason I believe this to be true is because many of these technology stocks move side by side, are often bundled into ETFs, and are also associated with public market investors as “AI stocks” rather than properly analyzing them for strengths and weaknesses. certain, including careful evaluation of the company’s valuations. I think this will open up many opportunities to sometimes get good value in AI stocks. In the case of Salesforce, I think what we have now is strong AI selling at below intrinsic value after the recent decline.

Peer analysis

In the following table, there are perhaps the biggest competitors of Salesforce, which I consider to be some of the strongest competitors. I’ve included comparisons of key financial and valuation metrics for the purposes of this discussion surrounding Salesforce’s relative investment merits at this time.

Click to enlarge

This table clearly shows good growth for Salesforce and a not-so-rich valuation considering the multiples of other peers besides SAP. Salesforce is noticeably weak on net income margin, but it makes up for that somewhat in higher levels of free cash flow growth at the moment. In my opinion, it is not too late to invest in Salesforce as a solid investment, especially with the new 20% reduction in price from previous levels. However, I think investors should start to expect some slow growth ahead as the company will likely have to restructure parts of its organization and business model to fit the new climate of commercial and mainstream adoption in AI, including many open source models and some interfaces. . Which are free to use, or available at very low prices. As society begins to shift toward an economy that focuses more on individual creators and small businesses, including what I expect will be a much larger number of self-employed people empowered by AI systems, it will become increasingly difficult for larger companies to Maintaining its position. trench. I believe that the large companies that will thrive in the future economy will be those that provide infrastructure for AI users, for example foundation models, data center providers, and chip producers. Salesforce does not run a basic model at this time. However, it does contain Einstein’s AI, an AI layer that can be used in a more democratic commercial AI environment that is likely to evolve in the future. Salesforce uses a combination of its own data centers, but also relies on the public cloud infrastructure of AWS (AMZN), Azure, and GCP (GOOGL) (GOOG); Additionally, Salesforce does not design its own AI chips and relies on cloud providers’ AI hardware. Based on this information, it seems unlikely that Salesforce will suffer a moat in the future economy like AWS, Microsoft, and Google, as prime examples. Salesforce may find itself overwhelmed by larger tech companies and smaller, self-employed AI users, significantly reducing enterprise AI adoption status as a result and curtailing the company’s growth over the next 10 to 20 years.

Valuation remains attractive at the moment

Given my typical 10+ year outlook, investors may wonder why I consider Salesforce still a buy at this time. The main reason is that I believe that the transformations I mentioned above will happen gradually. As such, I expect the stock to continue to deliver for shareholders for at least the next decade. If Salesforce can recalibrate itself according to the dynamics that I and others have outlined above, Salesforce could provide alpha for a few more decades.

What needs to be recognized by long-term Salesforce shareholders who may be questioning their position in Salesforce stock since the price has dropped nearly 20% is that based on the intrinsic value from the conservative DCF model, Salesforce is undervalued right now. This is rare for a company of this size in a high-growth industry like artificial intelligence.

In my model, I used a discount rate of 10%, which I consider to be the standard annual market return. I used an annual free cash flow growth rate of 15% per stock over the first 10 years from my discounted cash flow model. Next, I used 5% of free cash flow for each annual stock growth for 10 years. I consider this conservative, but it prices in some contraction in growth that could occur based on the above operational considerations I outlined. The indicated margin of safety for Salesforce stock at this time is ~19%:

Main elements

Salesforce’s stock price fell nearly 20% following its fiscal 2025 first-quarter earnings results. The company reported a roughly $14 million loss on its revenue forecast. This created negative sentiment around the company’s valuation, which I believe was predictive of future growth challenges but remains largely unjustified.

Salesforce may be dealing with a new economy of the future where AI systems are highly democratized and available very cheaply, sometimes even free. Since we are likely to go through a very deflationary period when robots become mainstream, AI systems like those offered by Salesforce at current prices will likely become unmatched through demand pricing. However, I don’t see this happening in a major way until 10 to 20 years from now.

While the risks must be acknowledged, the stock remains a solid investment for at least the next decade, and the company’s intrinsic value is undervalued by approximately 20% by my conservative DCF model at the time of this writing. I reiterate my Buy rating on Salesforce stock at the current discounted price.

Conclusion

I’m a Salesforce shareholder, and I’m considering buying more shares at the current price. I think the company will face existential challenges over the next few decades, but I see it as likely that it will be able to manage that at the speed it has proven itself capable of over its life cycle already. A currency devaluation of approximately 20% currently from its intrinsic value is a compelling reason to invest, in my opinion.