Stocks of Salesforce and Other Software Companies Are Expected to Rebound Strongly

U.S. stocks have experienced a significant rally this year, with the S&P 500 showing a 17.7% return, driven by a remarkable 34.2% return from its information-technology sector, both figures accounting for dividends reinvested. However, not all tech companies have reaped the benefits of this rally, which presents potential opportunities for investors seeking undervalued stocks.

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The S&P 500 is heavily weighted by market capitalization, leading to concentration in a few dominant companies. The three largest firms—Microsoft Corp. (MSFT), Apple Inc. (AAPL), and Nvidia Corp. (NVDA)—now constitute 21% of the SPDR S&P 500 ETF Trust.

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Within the tech sector, the S&P 500 software-industry group, comprising 18 companies, has posted an 18.8% return so far this year. While this outperforms the broader S&P 500, it lags behind the tech sector's overall performance. Microsoft, with a substantial 62% weighting in this group as of December 31, has significantly contributed to the industry's returns, accounting for 15.2% of the total return in 2024.

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Examining the individual performance of the 18 companies in the S&P 500 software-industry group, eight have returned 15% or more this year. Leading the pack is CrowdStrike Holdings Inc. (CRWD) with a 53% return, followed by Oracle Corp. (ORCL) at 39%, Fair Isaac Corp. (FICO) at 31%, and Microsoft at 24%.

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Conversely, Salesforce Inc. (CRM) and Adobe Inc. (ADBE) have been notable laggards, with Salesforce down 2% and Adobe down 4% this year.

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Expanding the search to the S&P Composite 1500 Index, which includes the S&P 500, the S&P MidCap 400 Index, and the S&P Small Cap 600 Index, provides a broader list of potential software rebound stocks. This group consists of 46 software companies, of which 39 are covered by at least five analysts polled by FactSet, offering consensus sales and earnings estimates through 2026.

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Among these 39 companies, 18 are rated as "buy" or its equivalent by at least two-thirds of the analysts. Here are the top four companies based on the 12-month upside potential implied by consensus price targets, highlighting those that have seen the largest declines this year but are expected to bounce back significantly.

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Salesforce shares dropped 20% on May 30 to close at $218.01 after reporting earnings and providing lower-than-expected guidance for subscription-revenue growth. The company's decision to leave its annual revenue forecast unchanged was criticized by Ken Laudan, portfolio manager of the Buffalo Large Cap Fund. Laudan viewed the share price decline as an opportunity, expecting Salesforce to achieve an 8% to 10% revenue growth rate over the next five years and double-digit growth in earnings per share.

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By Monday, Salesforce shares had recovered to $257.37, down only 5% from their pre-earnings close on May 29.

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Adobe experienced a positive market reaction after reporting quarterly results on June 13 that exceeded analysts' estimates, reversing its year-to-date decline. On June 14, Jefferies analyst Brent Thill reiterated his “Buy” rating for Adobe with a $700 price target, which is 15% higher than the consensus price target. Thill noted that Adobe’s price increases, initially a headwind in early 2024, were turning into a tailwind, with the company upselling customers to higher tiers with more AI features.

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Using consensus estimates from brokerage analysts, FactSet adjusts estimates to align with calendar-year projections for companies whose fiscal years don’t match the calendar. Here are the expected compound annual growth rates (CAGR) for revenue and earnings per share (EPS) from 2024 through 2026 for the highlighted companies, compared to broader indices:

• The S&P 500 is expected to show a weighted sales two-year revenue CAGR of 5.7% and an EPS CAGR of 12.9%.
• The S&P 500 software-industry group is expected to have a two-year sales CAGR of 14.2% and an EPS CAGR of 15.9%.

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This analysis underscores the varied performance within the tech sector and highlights potential opportunities for investors seeking to capitalize on undervalued stocks with strong growth prospects.

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