TBR 2Q11 Salesforce Initial Response

TBRT EC H N O LO G Y B U S I N ES S R ES EAR C H , I N C .

Publish Date: August 19, 2011Authors: Jillian Mirandi ([email protected]), Software Practice Analyst Content Editor: Allan Krans, Software Practice Senior Analyst

Second Calendar Quarter 2011Second Fiscal Quarter 2011 Ended July 31, 2011

Salesforce.com

SOFTWARE BUSINESS QUARTERLYSM

2Q11 INITIAL RESPONSE

TBR

Salesforce.com 2Q11 Initial Response | Software Business Quarterly ©2011 Technology Business Research, Inc.2

Salesforce.com is making a customer base land grab in the face of increasing SaaS competitionTBR Position Company ObjectivesSalesforce.com posted stellar revenue performance, growing 38.4% year‐to‐year to a record $546 million in 2Q11; however, the company operated at a loss for the third consecutive quarter. Salesforce.com is rapidly growing its customer base to ensure future revenue as competition is quickly increasing. The company has yet to fully figure out non‐linear growth, but TBR believes after investments in headcount, acquisitions and datacenters are complete, Salesforce.com will slow revenue growth and increase profit.

Grow revenue, even at the short‐term expense of profitabilitySalesforce.com is among the world’s largest SaaS vendors, and is constantly seeking added scale. TBR believes the company is more focused on growth than profit, as it builds a stable base to upsell and cross‐sell, betting that future profitability will outweigh short‐term losses.

Continually add value to solutions to retain customers and increase share of walletWith competition catching up to Salesforce.com in technology, the company must invest in new technologies within social media and communication (as exemplified by the Radian6 and DimDim purchases) to remain successful.

Expand customer base and revenue by growing its partner base and the Force.com developer baseSalesforce.com has long understood the value of an open API to attract developers, as well as to offer partners public cloud deployments or add‐ons to partners’ portfolios. Salesforce.com’s strategy is to increase the whole revenue pie so everyone gets a bigger piece.

TBR Position

SALESFORCE.COM 2Q11 PERFORMANCE VS. EXPECTATIONS

(In $ Millions) Consensus Guidance Range Actual

Revenue 528$ $526 ‐ $539 546,002$

Operating Income N/A N/A (15.75)$

NON‐GAAP EPS 0.30$ $0.26 ‐ $0.31 (0.03)$

SALESFORCE.COM 3Q11 GUIDANCE AND EXPECTATIONS

(In $ Millions) TBR Estimate Consensus Guidance Range

Revenue 557$ 557$ $541 ‐ $590

Operating Income 50$ N/A N/A

NON‐GAAP EPS N/A 0.31$ $0.27 ‐ $0.38

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Key Developments

Salesforce.com is investing in acquisitions and headcount, not profitability, to position itself for future success

• Salesforce.com has recently engaged in an aggressive pace of acquisitions, purchasing nine companies in the last 15 months, most recently Radian6 in March. While the company has invested heavily to drive inorganic growth, the incurred operating expenses associated with acquisitions continue to mount.

• Salesforce.com grew headcount by 800 from 1Q11, driven by S&M, R&D and the addition of 300 Radian6 employees. Headcount additions were made to support future product design and go‐to‐market initiatives. The 55% growth in S&M expenses in 2Q11 was also spurred by an aggressive event campaign to promote the launch of new services, such as its government initiative.

Salesforce.com is focused on growing its customer base to insulate against competitive defection

• Salesforce.com has been achieving high‐double‐digit revenue growth since its inception, but has realized little or negative profitability since 4Q09. Cloud is a low‐margin business, and the company has forfeited profits to build a large customer base, as the competition just begins to heat up.

• TBR believes Salesforce.com is quickly building its customer base to be able to upsell its many acquired functionalities once they are fully integrated.

Salesforce.com is expanding its vertical focus, finding new success in the government sector

Salesforce.com recently received its General Services Administration (GSA) certification, and with CEO Mark Benioff sitting on the Cloud2 commission, the company is well‐positioned to take advantage of the recent government push to adopt cost‐effective cloud solutions. In 2Q11, Salesforce.com signed a deal worth over $10 million for 12,000 users. TBR believes public clouds will struggle to compete with more secure private clouds in the future government IT space.

Salesforce.com weathers short‐term losses to capture market share that can lead to long‐term, profitable growth

Executive Summary

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Revenues• Salesforce.com’s 2Q11 revenue reflect the company’s efforts to invest in top‐line growth, as revenue grew 38.4% year‐to‐year during the quarter.

• Large‐scale deals helped move the revenue needle in 2Q11, as Salesforce.com signed more than 60 million‐dollar deals, an increase of 40% from 2Q10.

Expenses• Salesforce.com’s operating expenses increased 53.7% year‐to‐year to 80.7% of total revenue, as the company invested heavily to support growth initiatives.

• The company added approximately 800 full‐time employees from 1Q11, mostly in R&D and S&M functions, to support new product development and go‐to‐market initiatives.

• R&D and S&M led all expenses, with 71.0% and 55.2% year‐to‐year growth, respectively.

MarginsOperating margin fell from 7.5% in 2Q10 to –2.9% in 2Q11. Operating income plummeted 153.1% year‐to‐year to –$15.7 million, as investments to support long‐term growth initiatives cut into revenue for the quarter.

Salesforce.com began as an SME‐targeting vendor, but is quickly growing its presence in the enterprise space to sustain and grow revenue

Financial Model Strategy

7.5% ‐2.9%

10.9%13.4%

15.6% 15.5%

46.3% 51.8%

19.7% 22.1%

‐20%

0%

20%

40%

60%

80%

100%

2Q10 2Q11

SALESFORCE.COM OPERATING RATIOS

COS S&M % Revenue G&A % Revenue R&D % Revenue Operating MarginSOURCE: SALESFORCE.COM

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$30 $(16)

$244 $367

$43

$73 $78

$92

($100)

$0

$100

$200

$300

$400

$500

$600

2Q10 2Q11

In $ M

illions

SALESFORCE.COM OPERATING METRICS

COS R&D SG&A Operating Income

SOURCE: SALESFORCE.COM

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Large‐scale license agreements drove record revenue for Salesforce.comSegment Performance and Strategies

License

Salesforce.com improved license revenue by 38% from a year ago, as a higher volume of large‐scale deals, including a 40% increase in seven‐digit deals, as well as three eight‐digit deals, propelled license revenue to its highest point to date.

Maintenance

TBR estimates license and maintenance revenue based on reported subscription revenue. Salesforce.com’s no‐hardware value proposition reduces the need for support, allowing customers to save money up front.

Services

Services revenue grew 44.5% from a year ago, as Salesforce.com increased its overall customer base with new product releases and acquired customers from recently purchased companies, including Heroku and Radian6.

Financial Model Strategy

$325 $448

$44

$61 $25

$37

$‐

$100

$200

$300

$400

$500

$600

2Q10 2Q11

Revenue in M

illions

Calendar Quarter

SALESFORCE.COM'S SEGMENT REVENUE

Services Maintenance LicenseSOURCE: TBR AND SALESFORCE.COM

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0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

70.00%

80.00%

90.00%

2Q09 3Q09 4Q09 1Q10 2Q10 3Q10 4Q10 1Q11 2Q11 3Q11Est.

Percent o

f Total Revenue

SALESFORCE.COM REVENUE MIX

License Maintenance Services

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SOURCE: TBR AND SALESFORCE.COM

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Salesforce.com is positioned to capture additional revenue through further expansion into the federal IT market

Product Strategy

TBR believes as the federal sector accelerates adoption of cloud computing, Salesforce.com is strategically positioned to secure a greater share of the emerging revenue pipeline. As a result of CEO Benioff co‐chairing the Cloud2 counsel, as well as the recent GSA authorization, Salesforce.com is well‐positioned to pursue future cloud opportunities within the federal IT market.

• The government’s approach to IT has changed as a result of the U.S. debt crisis and Vivek Kundra’s (President Obama’s federal CIO) advocating for cloud.

• Salesforce.com received government clearance in 2Q11 to offer solutions such as CRM and Force.com to government agencies.

• During Salesforce.com’s 2Q11 earnings conference call, CEO Benioff announced one of its largest deals was from the government, contributing over $10 million and 12,000 users.

• The Cloud2 commission provides information to the Obama Administration on how to efficiently deploy cloud services within the federal sector. Beinoff’s insight into the government’s decisions regarding cloud enables Salesforce.com to tailor solutions to best fit with future federal cloud requirements, and opens doors to a sector that could drive substantial revenue growth.

Software Stack

Idea Management

Marketing

Service and Support

Sales Force Automation

ServicesOfferings

Consult

Premium

Base Support

Education

Force.com

Salesforce.com is positioned to expand its presence and increase market share in the federal sector after receiving General Services Administration (GSA) certification

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Salesforce.com’s attack on traditional software deployments moves to new growth markets in APAC

Go‐to‐Market Strategy

• Many countries still operate IT solely with on‐premises software that carries costly licensing and maintenance fees. These countries represent a significant opportunity for public cloud vendors, and Salesforce.com is vying to grow its customer base before competitors. Emerging countries pose opportunities, but also greater risk than BRIC as they are less stable and less regulated.

• TBR believes the Salesforce.com strategy that transformed the U.S. and European marketplace will have similar success in emerging markets. By addressing emerging economies, such as under‐tapped Thailand, Salesforce.com has opened new revenue doors to help maintain high growth.

• In 2Q11, Salesforce.com had success in Thailand, offering its SaaS portfolio with a monthly subscription service through AppExchange and regional partners. TBR believes APAC countries typically prefer local vendors, as demonstrated by Salesforce.com’s persistence in targeting native resellers.

• Many large vendors, including Salesforce.com, are finding success in high‐growth BRIC countries, but TBR believes that by expanding into newly successful markets, Salesforce.com will beat out other vendors.

Salesforce.com brings SaaS to emerging economies

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Salesforce.com is expanding its physical presence to support its overseas growth initiative

Leadership ChangesSalesforce.com announced the hiring of Yukihiro “Matz” Matsumoto, the chief designer of the Ruby programming language. Matsumoto will be appointed to Chief Architect and will work to develop Salesforce.com’s PaaS Heroku platform.

Strategy• Salesforce.com is making strategic investments within emerging markets to increase the penetration of its SaaS portfolio.

• The company is hiring key executives to ensure that its solutions remain current as the IT environment matures.

Salesforce.com Investments• Salesforce.com increased its ability to offer services to global customers in 2Q11 with the announcement of a new datacenter in Tokyo. The new center will absorb customer services from the datacenter in Singapore and migrate them to the Tokyo center.

• Salesforce.com announced plans to design new office headquarters in Mission Bay, San Francisco. The office will have over 2 million square feet of office space.

• CEO Beinoff announced in May that it is not a matter of “if” Salesforce.com puts a datacenter in Australia, but rather “when.” Beinoff indicated Salesforce.com is evaluating the region and planning to design a center, but does not have an official timeframe for the project.

SOURCE: SALESFORCE.COM AND TBR

Locations of Salesforce.com’s Datacenters

Australia, Plans N/A

Japan, Opens Nov 2011

Singapore

Northern Virginia

2 in Chicago

San Francisco

San Jose

Resource Management Strategy

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Income Statement and EstimatesSALESFORCE.COMCONSOLIDATED STATEMENT OF INCOME(in $ Thousands Except per Share Data)CALENDAR QUARTER 2Q10 3Q10 4Q10 1Q11 2Q11 3Q11FISCAL QUARTER 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12Net Sales 394,372$ 429,087$ 456,867$ 504,364$ 546,002$ 557,000$

Subscription and Support 368,951$ 402,948$ 428,534$ 473,504$ 509,279$ 517,000$ Professional Services and Other 25,421 26,139 28,333 30,860 36,723 40,000

Cost of Sales 77,790 82,131 92,311 103,066 120,910 103,066Cost of Subscription and Support 48,981 54,089 61,116 75,243 89,144 75,243Cost of Prof. Services and Other 28,809 28,042 31,195 27,823 31,766 27,823

Gross Profit 316,582$ 346,956$ 364,556$ 401,298$ 425,092$ 453,934$ Sales and Marketing 182,401 200,544 233,217 254,471 283,001 254,471General and Administrative 61,569 63,951 74,200 84,338 84,446 84,338Research and Development 42,930 47,305 57,530 65,292 73,393 65,292Operating Income 29,682$ 35,156$ (391)$ (2,803)$ (15,748)$ 49,833$ Other, Net (1,765) (921) (1,366) (800) (3,231) (800)Interest Expense (7,185) (7,374) (3,290) (3,671) (3,846) (3,671)Investment Income 8,735 11,699 9,426 8,055 5,112 8,055EBITD 29,467$ 38,560$ 4,379$ 781$ (17,713)$ 53,417$ Provision for Income Taxes (12,884) (16,192) 6,491 (251) 13,445 (250)Income before Minority Interest 16,583 22,368 10,870 530 (4,268) 53,167Minority interest (1,839) (1,296) 43 0 1Net Income 14,744$ 21,072$ 10,913$ 530$ (4,268)$ 53,168$ Net Income per Share 0.11$ 0.15$ 0.08$ 0.00$ (0.03)$ 0.38$ Diluted Shares Outstanding 134,176 137,044 140,199 141,062 135,093 141,063

AS A PERCENTAGE OF REVENUENet Sales 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%Cost of Sales 19.7% 19.1% 20.2% 20.4% 22.1% 18.5%Gross Margin 80.3% 80.9% 79.8% 79.6% 77.9% 81.5%Sales & Marketing 46.3% 46.7% 51.0% 50.5% 51.8% 45.7%General and Administrative 15.6% 14.9% 16.2% 16.7% 15.5% 15.1%SG&A 61.9% 61.6% 67.3% 67.2% 67.3% 60.8%R&D 10.9% 11.0% 12.6% 12.9% 13.4% 11.7%Operating Margin 7.5% 8.2% ‐0.1% ‐0.6% ‐2.9% 8.9%Other, Net ‐0.4% ‐0.2% ‐0.3% ‐0.2% ‐0.6% ‐0.1%EBITD 7.5% 9.0% 1.0% 0.2% ‐3.2% 9.6%Income Taxes ‐3.3% ‐3.8% 1.4% 0.0% 2.5% 0.0%Net Margin 3.7% 4.9% 2.4% 0.1% ‐0.8% 9.5%

YEAR‐TO‐YEAR CHANGENet Sales 24.8% 29.8% 29.0% 33.8% 38.4% 41.2%Cost of Goods Sold 24.5% 25.3% 35.6% 44.0% 55.4% 32.5%Gross Profit 24.9% 30.9% 27.5% 31.5% 34.3% 43.4%Sales and Marketing 24.7% 31.8% 38.4% 44.7% 55.2% 39.5%General and Administrative 31.7% 28.1% 33.8% 50.1% 37.2% 37.0%SG&A 26.4% 30.9% 37.2% 46.0% 50.6% 38.9%R&D 38.0% 44.4% 57.8% 62.7% 71.0% 52.1%Operating Income 0.7% 16.6% ‐101.5% ‐108.5% ‐153.1% 67.9%Other, Net ‐64.6% ‐174.1% ‐421.4% 59.5% ‐83.1% 54.7%EBITD ‐17.9% 4.2% ‐87.4% ‐97.6% ‐160.1% 81.3%Income Taxes 8.2% ‐4.0% 152.9% 97.9% 204.4% 98.1%Net Income ‐30.4% 1.8% ‐46.5% ‐97.0% ‐128.9% 260.6%SOURCE: SALESFORCE.COM

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Balance SheetSALESFORCE.COMCONSOLIDATED BALANCE SHEET(in $ Thousands)CALENDAR QUARTER 2Q10 3Q10 4Q10 1Q11 2Q11FISCAL QUARTER 2Q11 3Q11 4Q11 1Q12 2Q12ASSETSCurrent AssetsCash & Short‐Term Investments 409,925$ 630,303$ 424,292$ 664,612$ 449,794$ Marketable Equity Securities 332,342 139,545 72,678 99,224 127,582 Accounts Receivable ‐ Net 228,550 258,764 426,943 270,816 342,397 Deferred Commissions 47,093 50,361 67,774 65,800 66,092 Deferred Income Taxes 44,088 49,620 27,516 23,791 33,915 Prepaid Expenses and Other 50,138 64,343 55,721 63,886 95,042 Total Current Assets 1,112,136$ 1,192,936$ 1,074,924$ 1,188,129$ 1,114,822$ Property, Plant, Equip. (Net of Dep.) 100,946 116,078 387,174 446,268 470,070 Marketable Equity Securities ‐ Long term 1,116,661 1,032,592 910,587 758,449 709,282 Deferred Commissions ‐ Long term 30,396 32,856 48,842 46,645 47,574 Deferred Income Taxes ‐ Long term 36,255 30,501 41,199 47,432 64,219 Goodwill 184,539 187,038 396,081 406,889 671,570 Other Assets 53,357 69,194 104,371 109,595 145,500 Capitalized Software 64,186 79,499 127,987 124,661 198,291 Total Assets 2,698,476$ 2,740,694$ 3,091,165$ 3,128,068$ 3,421,328$

LIABILITIES & EQUITYCurrent LiabilitiesAccounts Payable 20,745$ 23,320$ 18,106$ 16,969$ 22,321$ Accrued Expenses & other liability 236,034 287,627 345,121 295,970 389,853 Income Taxes Payable 8,890 9,644 Deferred Income Tax LiabilitiesDeferred Revenue 662,897 672,454 913,239 893,904 917,755 Total Current Liabilities 928,566$ 993,045$ 1,276,466$ 1,206,843$ 1,329,929$ Long‐term Obligations 14,577 27,949 25,487 49,062 46,088 0.75% Convertible senior notes, due 2015 461,182 466,847 472,538 478,369 484,128 Long‐term Unearned RevenuesIncome Taxes Payable 18,474 18,284 18,481 20,292 34,777 Deferred Revenue, Noncurrent 20,122 22,103 21,702 21,229 17,511 Minority Interest 14,929 2,178 Total Liabilities 1,457,850$ 1,530,406$ 1,814,674$ 1,775,795$ 1,912,433$

Stockholders' EquityConvertible preferred stockCommon Stock 130 131 133 134 135Addt'l Paid‐in Capital 1,093,591 1,041,005 1,098,604 1,083,867 1,243,472 Accumulated other comprehensive income 7,855 9,030 6,719 76 7,219 Accumulated deficit 139,050 160,122 171,035 171,565 167,297 Acc. Other Comprehensive Income (Loss) 96,631 90,772 Total Stockholders' Equity 1,240,626$ 1,210,288$ 1,276,491$ 1,352,273$ 1,508,895$

Total Liabilities & Equity 2,698,476$ 2,740,694$ 3,091,165$ 3,128,068$ 3,421,328$

FINANCIAL RATIOSDays Sales Outstanding 52.16 54.28 84.11 48.33 56.44Fixed Asset Turnover 16.81 15.82 7.26 4.84 4.77Days Cash Outstanding 169.39 161.47 97.90 136.30 95.17Total Asset Turnover 0.61 0.63 0.63 0.65 0.67Debt/Asset Ratio 0.54 0.56 0.59 0.57 0.56 Current Ratio 1.20 1.20 0.84 0.98 0.84Return on Assets 3.4% 3.1% 2.4% 1.7% 0.9%Return on Equity 7.3% 6.7% 5.5% 3.8% 2.1%Revenue per Employee 327,363$ 326,675$ 312,314$ 327,887$ 305,076$ Employee Headcount 4,447 4,758 5,306 5,443 6,347 SOURCE: SALESFORCE.COM

TBR

TBRT EC H N O LO G Y B U S I N ES S R ES EAR C H , I N C .

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TBR 2Q11 Salesforce Initial Response

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Transcript of TBR 2Q11 Salesforce Initial Response