Investors have cheered the most recent earnings release from Salesforce.com Inc. (CRM) and understandably so.  For the quarter ending October 31, the company managed to grow revenues by 43% to a total of $276.5 million.  Management noted that their services offer low start up costs, low risks, and fast results…  A valuable proposition in these challenging times.But despite the eye popping revenue numbers, earnings just don’t seem to add up when considering the stock price.  Earnings per share were $0.08 compared to just 5 cents in the third quarter last year.  While that is a full 60% gain, the fact remains that it is still just 8 cents.  Analysts are expecting a total of 31 cents for 2009 (the fiscal year ends January 2009), and expectations are for  $0.51 in earnings for the following year.  Impressive growth, but the valuation still seems quite a bit pricey.

ZachStocks disclosed concerns with this company back in August prior to the second quarter release.  Since that report, the stock has dropped as much as 65% before rebounding sharply over the past month.  But despite this lower stock price, risks still seem to outweigh the potential benefit of owning this growing company.  In fact, investors will likely use the recent bounce to lighten up on their exposure and I expect the stock to fall again.  Momentum players will not likely be part of the shareholder base as CRM is somewhat tarnished.

To be fair, Salesforce.com is actually a very good company and the business has performed tremendously well in this volatile environment.   The balance sheet continues to be healthy with no debt and cash equivalents of more than $800 million.  The number of new customers continues to increase impressively and international expansion should continue to bolster growth (even if the rate of growth decelerates).  Deferred revenue is $470 million meaning that the company has already received payments for services in the coming quarters and will automatically be able to recognize that revenue in Q4 and into next year.

Still, the current environment has been brutal to high-multiple growth names.  I do not expect to see this trend abate because investors will continue to take a skeptical approach for some time.  High multiples will need to continually be re-assessed as companies are required to prove the merit of these valuations.  And disappointment will not be treated kindly for names that currently hold such a multiple.  In short, the risk appears to be quite large, but the potential reward is still questionable.

Salesforce.com is a wonderful company that I would like to own at the right price.  I value the growth of the franchise and have tremendous respect for the management team.  However, with the stock at more than 100 times this years expected earnings, I believe the money is to be made shorting at current levels.  If the stock were to drop to $15 or below, that would begin to pique my interest.

FD: Author does not have a position in CRM
CRM Notes

Additional Reading:
Barrons:  Goldman Cuts Targets on Software Stocks
WSJ: Salesforce.com’s Profit Rises