When billionaire investors make moves, retail investors tend to take notice. After all, these investors have had great success in the past, implying that they might have some solid investing insight. So it was notable that activist billionaire investors pounced on two high-profile tech stocks in recent months: Alphabet (GOOG 0.56%) (GOOGL 0.69%) and Salesforce (CRM -0.39%).
Christopher Hohn of TCI Fund Management has been browbeating Alphabet since November, urging the tech giant to aggressively cut costs. When the company finally said it was laying off 12,000 employees earlier in January, Hohm responded by saying the tech giant didn't go far enough, urging it cut another 25,000 people from its payroll, reel in share-based and executive compensation, and cut salaries, claiming Alphabet pays its average employee $300,000 a year plus benefits.
Meanwhile, Salesforce's recent woes have attracted attention from more than one activist investor. Starboard Value revealed a stake back in October, arguing that Salesforce has the potential to improve its growth or margins in line with its peers, if not do both. Starboard Value has also held talks with Salesforce management.
Additionally, just a few days ago, Elliott Management, a $55 billion hedge fund that has also taken stakes in Pinterest and Paypal, revealed a stake in Salesforce and said it's planning to nominate its own directors for the board. In response to activist interest, the company recently said it was naming three new board members, one of whom is from another hedge fund. Like Alphabet, Salesforce announced a major round of layoffs in January, saying it would let go of 8,000 employees, or 10% of its staff.
Image source: Getty Images.
The price may now be right
Perhaps the biggest reason that both Alphabet and Salesforce are receiving interest from activist investors is that these two stocks have fallen sharply from their peaks seen earlier in the pandemic. In 2022, both Alphabet and Salesforce lost nearly half of their value.
It's not surprising that that sell-off in two big-name tech stocks attracted attention from activists, but there was a clear reason why both pulled back sharply last year: Their growth rates have slowed substantially. In the case of Alphabet, the company posted a revenue increase of just 6% in Q3, and analysts expect its growth to fall to low-single digits over the two following quarters.
Salesforce, meanwhile, is facing similar problems, forecasting revenue growth of just 8%-10% in Q4, which would be its slowest quarterly growth on record.
Both of these companies are cyclical and they're clearly facing headwinds from the economic slowdown. Digital advertising businesses, including companies like Meta Platforms and Roku, have faced similar issues and even forecast declines in the fourth quarter. Similarly, Salesforce's cloud stock peers have seen growth decelerate because businesses are apprehensive about the economic outlook and are being more discerning with spending. Salesforce's focus on customer relationship management software makes it more cyclical than other cloud stocks because its product makes the most sense for companies that are growing their businesses.
Should you follow the billionaire investors?
At their current prices, both Alphabet and Salesforce look appropriately priced. After all, Alphabet trades at a price-to-earnings ratio of 19, below that of the S&P 500, but these companies also face non-cyclical risks that could jeopardize their growth potential.
The introduction of ChatGPT from OpenAI led to a "code red" at Alphabet headquarters, and now Microsoft is expected to incorporate ChatGPT in a new version of its Bing search engine as early as March. In China, Baidu has also announced plans for a new chatbot-powered search.
In other words, internet search looks like it's about to get turned on its head, and Alphabet will either have to adapt or get left behind. Even if Alphabet maintains its dominance in search, it could come at a cost because incorporating a chatbot feature into search could undermine the company's advertising businesses since ad listings may not work in a chatbot-first environment. It will also add computing costs to searches.
Salesforce, meanwhile, has problems beyond its slowing growth rate and the recent round of layoffs. The company just saw co-CEO Bret Taylor and Slack founder and CEO Stewart Butterfield leave, a sign of a power struggle and disagreements on strategy. Salesforce has also overspent on stock-based compensation, and it makes a narrow profit on a GAAP basis. The company is targeting adjusted operating margins of 25% by fiscal 2026, which ends in January of that year, in part by scaling back on marketing expenses.
Both Salesforce and Alphabet stocks have the potential to recoup their losses, but the companies need to solve the problems directly in front of them. Alphabet needs to demonstrate that it can protect its market share from ChatGPT, while Salesforce needs to show some stability in its management, as well as curtail its spending on both day-to-day business and on acquisitions like Slack, which look questionable in retrospect.
Both companies should see revenue growth accelerate again once the economy starts to improve, but they also need to solve the more structural problems in front of them. If they can do that, they will prove the billionaire activists right, and potentially deliver a market-beating return for investors buying the stock now.
