Palo Alto Networks Rises On Earnings Beat: Why More Upside Is … – Seeking Alpha

Palo Alto Networks (NASDAQ:PANW) is surging after releasing earnings results, as the cybersecurity company hit all the right notes. Management acknowledged a tough macro backdrop – and that they were outperforming anyways. Cybersecurity remains a mission-critical product, with PANW consolidating the sector due to its end-to-end product offering. Finally, PANW has delivered accelerated margin expansion many years ahead of schedule. Even after the post-earnings jump, PANW stock remains highly buyable as a profitable secular grower.

PANW Stock Price

Unlike many tech stocks, PANW trades near all-time highs.

Part of that is due to the fact that the stock never traded up to overhyped multiples, but much of that is due to the company’s strong execution on growth and profitability. I last covered PANW in December where I rated the stock a buy on account of the profitable growth prospects. The stock has since returned 32%, reflecting not only a broader tech recovery but also some relative outperformance.

PANW Stock Key Metrics

In its earnings release on Tuesday, PANW delivered 26% revenue growth, coming in at the high end of guidance.

During a period in which many tech companies are citing increased deal scrutiny due to the macro backdrop, PANW is instead seeing great strength. On the conference call, management noted that they were having “more conversations around payment terms, discounts and scope of deal with purchasing teams.” Nonetheless, management noted that they did not see any major deals slip out of the quarter, with the deal cadence more or less the same as that in the prior year. The strength may be due to the mission-critical nature of cybersecurity products, PANW’s end-to-end product portfolio, or both. That strength showed in the numbers, with PANW seeing strong growth in large deals signed in the quarter.

PANW also delivered a surprise earnings beat, with non-GAAP earnings coming in at $1.05 per share, significantly higher than guidance for $0.78 EPS.

PANW ended the quarter with $6.1 billion of cash vs. $3.7 billion of debt. That strong financial flexibility allowed PANW to repurchase $250 million of stock in the quarter. It’s not so common to find tech companies which have this level of secular growth, solid profit margins, and commitment to returning cash to shareholders.

Looking ahead, PANW did not adjust their full-year revenue guidance but continues to guide for persistent strong growth.

At its 2021 Analyst Day, PANW had previously guided toward approximately 20% non-GAAP operating margins by FY24, but with non-GAAP operating margins standing at around 22% based on full-year guidance, the company already is many years ahead of schedule.

Is PANW Stock A Buy, Sell, or Hold?

At the aforementioned 2021 Analyst Day, PANW had guided for $8 billion in revenue by fiscal 2024 (this past quarter was fiscal 2023 second quarter). That would imply just 15.9% revenue growth in fiscal 2024, which seems highly unlikely given the strong momentum even in the current macro environment.

Wall Street analysts share a similar skepticism, with consensus estimates calling for around $8.4 billion in revenue.

PANW is expected to deliver solid operating leverage to go along with that secular growth.

PANW is the whole package and I suspect that the company’s strong results in this difficult environment may help the stock sustain a premium valuation. The stock might not look obviously cheap at around 8x sales, but strong profit margins help to support that valuation. I continue to see fair value at around 7.5x sales based on 20% revenue growth, 25% long term net margins, and a 1.5x price to earnings growth ratio (PEG ratio). That implies a stock price of around $210 per share over the next 12 months. Actual upside may prove to be higher than that, as the company’s strong performance may warrant a PEG ratio in excess of 1.5x.

What are the key risks? Valuation may be the biggest risk. Even after a broader tech recovery, 8x sales for a low-20 percent grower is a rich valuation. I could see PANW trading as much as 50% lower to fall in line with cheaper tech peers. This premium appears to be driven largely due to PANW’s positive profit margins. Another risk is that of disruption. PANW is benefiting from being a consolidator in the space, as customers may find its end-to-end portfolio to be a convenient cybersecurity solution. However, it’s not clear if its individual products are best-in-class, as customers may eventually seek superior product offerings. For something like cybersecurity, “good enough” is probably not the long-term stance that will be taken by most companies. As discussed with subscribers to Best of Breed Growth Stocks, I continue to find a diversified portfolio of undervalued tech stocks as being an optimal way to take advantage of the tech sector discounts. PANW fits right in as a profitable secular compounder trading at reasonable valuations.