Event: Salesforce.com (CRM) reports fQ2 results tonight after the close. The options market is implying about a 5.5% one day move, which is basically inline with the 4 qtr one day average move of 5.3%, but shy of the 10 year average of about 7%.
Back on August 18th (Cloud Pity)I had the following to say about CRM’s relative under-performance to the broad market:
most large cap tech stocks trade at or near 52 week or even all time highs, CRM is down 6% on the week, down 2% on the year, and down 9% from the late May all time highs. The stock’s poor performance this week started with a couple of negative sell side research reports Monday, signaling the potential for a weak Q2 report when the company issues earnings on Aug 31st.
Stocks like CRM (meaning expensive, trades 80x expected f2017 earnings, 6.3x sales, with universal bullishness, 44 Buy ratings, 2 Holds and only 1 Sell, with short interest at only 2% of the float) can be subject to sharp sentiment shifts when fundamentals decelerate, and that takes away m&a premium. That’s likely the cause for the stock’s recent pause
Despite the universal sell side bullishness on the stock, there are no shortage of legitimate concerns regarding the stock, given valuation, and their apparent desire to make a competing bid back in June for LinkedIn.
If I were a CRM shareholder, I would have two main concerns, first the potential for a massive sentiment shift if fundamentals were to downshift after a period of strong execution and investors disinterest in such mundane things as valuation. But maybe equally important, faced with the eventual revenue growth deceleration (was 33% in 2014 & 2015, 24% in 2016 and expected to be 24% in f2017) does the company make a large expensive acquisition? The fact that Benioff was willing to buy LNKD for 50% of CRM’s market cap (in cash, stock and debt deal) for a company who sales growth in 2016 is expected to be 26% (similar to its own) at about 45% of their expected f2017 sales should get investor’s antennas up. And I’ll add that CRM’s expected 96 cents in f2017 earnings are only 13 cents on a GAAP basis, while LNKD’s $3.70 in expected 2016 eps is really a loss of $1.23 a share on a GAAP basis!!!
I suspect this was a good miss (of LNKD) on CRM’s part, especially when you consider MSFT’s m&a history (albeit from another CEO) — three words: aQuantive, Nokia & Skype.
My View into the Print: as I have probably said prior to each of the last 4 quarterly reports (where the stock has risen on average the following day by an average of 5.3%) the stock is priced for perfection. But it’s the reasons behind the apparent desire of management to make a very large trans-formative acquisition that may determine the next big move in the stock. There are a few scenarios I see, the company is absolutely killing it, management feels they have to buy someone to execute their next plans, and see their stock as the perfect currency to make such a deal.
On the flip side, maybe sales growth and profitability are about to decelerate greater than investors expect and the company is looking for a new engine that is complimentary to their existing offering. I suspect it is somewhere in the middle, but the latter scenario, coupled with a miss and guide down and the stock is likely in the low $70s in the coming weeks. If the company is hitting the cover off of the ball, then I suspect the stock breaks the recent downtrend from the all time highs made in late May and possibly threatens new highs.
The stock appears to have decent near term support at $75, basically in line with the implied move, and resistance in the low $80s near the recent downtrend:[caption id="attachment_66008" align="aligncenter" width="600"] CRM 1yr chart from Bloomberg[/caption]
SO whats the trade?
If you are inclined to play for a post earnings bounce in line with the implied move, possibly back towards the prior highs, with the stock at at $79.15 you might consider defining your risk by buying the Sept 80 / 85 call spread for $1.65. This trade breaks-even at $81.65, up 3%, risks only 2% of the stock price, and offers profit potential of up to $3.35, or 2x what you are risking. I would look to Sept regular expiration with the goal to put time on your side if the stock under-performs the implied move to the upside initially.
As usual I’ll offer our usual disclaimer for trading long premium directional strategies into events like earnings, you need to get a lot of things right to just break-even, direction, magnitude of move and timing. In a stock like CRM with option spiced the way they are, odds of success are not great.
If you are inclined to play for a break-down below support in the mid $70s, with stock at $79.20 you might consider the Oct 80 / 70 put spread for $3.10 This trade breaks-even at $76.90, down 2.8%, offers max profit of up to $6.90, more than 2x at risk. This trade is 80 cents in the money, has about a 35 delta, and offers time for a near term bearish thesis to play out.