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Company: Salesforce (CRM)
Business: Salesforce is a global leader in CRM technology that brings companies and their customers together. It was founded in 1[ads1]999 and is a pioneer in cloud software. It started as a tool to enable sales teams to increase productivity while improving the end customer experience. Over the past 20 years, they have expanded into other areas to help businesses connect with and better serve customers, including Sales Cloud, Marketing & Commerce Cloud, Platform & Other, Integration Cloud, Analytics Cloud and Service Cloud.
Market value: $160.1 billion ($160.17 per share)
Activist: Starboard value
Percentage ownership: now
Average cost: now
Activist Comment: Starboard is a highly successful activist investor and has extensive experience helping companies focus on operational efficiency and margin improvement. Starboard also has a successful track record in the information technology sector. In 48 past engagements, it has a return of 34.33% versus 13.75% for the S&P 500 over the same period.
On October 18, Starboard Value announced that it was taking a position in Salesforce.
Behind the scene
Styrbord sees Salesforce as a high-quality and stable business at an attractive valuation with the potential for significant value creation through a better balance between growth and profitability. Salesforce’s vision and market leadership have enabled the company to grow revenue at a compound annual growth rate of approximately 38% over the past 20+ years. It is the market leader in several large and fast-growing markets (No. 1 or No. 2 market share in seven markets with 8.5% to 18.7% growth rates). Despite this, they have underperformed peers, the technology sector and the broader market over the past three years, and are valued significantly below the median multiple of peers on forward earnings (3.8x vs 6.7x for peers) and free cash flow expectations (18, 7x vs. 22x for peers).
This valuation discount can largely be attributed to their subpar mix of growth and profitability. Salesforce peers operate with a “rule of 50” – average revenue growth plus adjusted operating margins for peers equals 49.4. Salesforce currently has 17.0% revenue growth and 20.4% operating margins, bringing it to 37.4 overall. Starboard has extensive experience with growth companies that are beginning to see slowing growth rates and need to either regain that growth and/or focus on margins.
The good news here is that Salesforce has a refreshed leadership team focused on improving the company’s growth and profitability. Brian Millham was named president and chief operating officer in August 2022. Bret Taylor was named co-CEO in November 2021, and Amy Weaver was named president and chief financial officer in February 2021. At their investor day in September 2022, Salesforce announced new revenue targets, a commitment to drive profitable growth and opportunities for operating margin and free cash flow. On this investor day, they also set their first specific margin target in history: 25%. Just before Investor Day, during its second-quarter earnings report in August, Salesforce announced its first-ever stock buyback program. However, this margin measure is below its peers. Even if they were to reach that goal, this would only bring them to a growth + margin of 42. Starboard believes they can do better, and we agree, especially with Starboard’s help.
Another opportunity for value creation is capital allocation. Through FY2026, Salesforce will have an additional $20 billion to $25 billion in cash to spend on either value-adding M&A or additional capital returns, beyond the $10 billion share buyback program. Starboard has extensive experience in helping companies optimize growth, margins and capital allocation, typically from board level. Often the best form of activism is when a good activist joins the board of a good company and collaborates with management to optimize operations and balance sheet. This does not require more than one or two board members, and that is what we believe will be best for the shareholders here. At the very least, Starboard will be an active shareholder in this investment.
Interestingly, on October 18, Inclusive Capital also disclosed a 1 million (0.1%) stake in Salesforce. Inclusive noted that they are interested in the stakeholder model of the company and expressed their belief that Salesforce is very customer-centric – they create loyal customers because they train them how to use different tools, scale up and improve human capital. An impact investor, Inclusive pointed out that the company has a new product recently announced called Salesforce Net Zero Cloud, an emissions tracking and carbon counting tool that helps companies manage sustainability data. This product was launched in partnership with Arcadia, a technology company that provides access to data focused on fighting the climate crisis. Inclusive noted that while it is certainly not in a group with Starboard, it agrees with Starboard’s financial analysis and path to profitability.
Ken Squire is the founder and president of 13D Monitor, an institutional research service on shareholder activism, and he is the founder and portfolio manager of the 13D Activist Fund, a mutual fund that invests in a portfolio of activist 13D investments. Squire is also the creator of the AESG™ investment category, an activist investment style focused on improving the ESG practices of portfolio companies.