Palo Alto Networks: Analyzing Q4 Earnings and Future Prospects

Palo Alto Networks Q4: Paying A Premium For Yesterday's Security (PANW)

Palo Alto Networks (NASDAQ:PANW) fiscal Q4 earnings results delivered top and bottom beats, with better-than-expected guidance. However, I'm not convinced of its prospects. Even though there is enough here for me to upgrade my sell rating to a hold rating, I argue that paying 29x forward free cash flow for a business that is delivering mid-teen growth rates is too high a premium, even for a hot area of the market as cybersecurity. Succinctly put, I believe there are better opportunities in its sector, which I discuss here. Back in July, I said: I make the case that paying 47x next year's EPS for PANW is a poor investment. Most notably, I contend that PANW is a tier-2 company and that investors will see limited upside potential while paying such a high premium for PANW. This is a stock that I remain skeptical over its valuation. But I don't believe there's enough in my bear thesis to maintain a sell rating on this stock. Therefore, I upgrade my rating to a hold. Here's how it all breaks down. Palo Alto Networks is a leading cybersecurity company that provides advanced solutions to protect organizations from cyber threats. They offer a comprehensive suite of products that secure networks, cloud environments, and digital workspaces, helping businesses safeguard their data and operations. Their offerings include firewalls, threat detection systems, and cloud security services, designed to prevent cyberattacks. Palo Alto Networks is well-positioned for growth, driven by the increasing demand for cybersecurity solutions in response to rising cyber threats. The company's focus on platformization, which integrates multiple security services into a cohesive offering, has gained significant traction, particularly in their next-generation security offerings. This strategy, along with their innovation in areas like AI and cloud security, is expected to drive continued expansion and help them achieve ambitious revenue targets, such as reaching $15 billion in ARR by fiscal year 2030. However, Palo Alto Networks faces challenges too. The complexity of integrating new technologies with legacy systems and managing a sprawling product portfolio may slow down its overall topline growth. What's more, cybersecurity is highly competitive. The market is crowded with established players like CrowdStrike (CRWD), SentinelOne (S), Fortinet (FTNT), Zscaler (ZS), and more, all competing for the same customer base. Additionally, as customers increasingly demand integrated, platform-based solutions rather than point products, the company's ability to effectively scale and differentiate its platformization strategy becomes crucial. Given this balanced background, let's now delve into its fundamentals. Nonetheless, to allow myself some margin of safety, I have immediately raised the high end of management's guidance by 200 basis points on the presumption that management is being conservative. What's more, consider what PANW was guiding towards this time last year. At the time, investors were told that PANW could continue to deliver approximately 18% topline CAGR into fiscal 2026. And now, fast-forward 12 months, not only has this ''formal'' guidance been quietly shelved, but the outlook for the next 12 months is decidedly below this previous estimate. My point is that we shouldn't be lulled into believing that PANW is the ''sort of company'' that is consistently conservative with its estimates, to allow for an easy beat as the quarters unfold. This is not immediately obvious, so I'll unpack it. PANW's next-gen security portfolio is growing at a strong clip. For someone who is investing in SentinelOne, this is a positive takeaway, that the future driver of PANW's business is growing at a strong clip. However, the issue here is that PANW's legacy hardware business is delivering minimal growth rates. In fact, I believe that PANW's legacy business is probably growing at less than 6% CAGR. In practice, given that investors can't pick and choose what aspects of PANW they are investing in, this may mean that the following year, PANW's growth rates may dip below 15% CAGR, even as the business comes up against easier comparables from this year. (Disclosure: Deep Value Returns recommends S). Given this backdrop, let's discuss its valuation. Look back at my excerpt above. My contention then, and now, is that PANW is being expertly managed to focus on its bottom-line profitability. This makes sense, given that its legacy hardware operations are not delivering the sort of growth management would like to see; therefore, it stands to reason that PANW should optimize its bottom-line profitability, rather than chase growth for growth's sake. Accordingly, I suspect that PANW could deliver $3.8 billion of free cash flow in the coming twelve months. Thus, surely, this is a positive aspect of the bull thesis? Earnestly, not really. As it stands right now, PANW is being priced at approximately 29x forward free cash flow. SentinelOne's topline is expected to grow by approximately 31% CAGR this year, which is double the pace of PANW. What's more, technically, SentinelOne is a cloud-based end-to-end pure play cybersecurity company. With none of the baggage of CrowdStrike's global IT outage. Plus, SentinelOne doesn't have any of PANW's legacy, mature growth hardware business. But the icing on the cake is that I estimate that in the next twelve months from now, SentinelOne will see around $100 million of free cash flow and growing rapidly. This puts SentinelOne priced at 73x forward free cash flow. This may sound substantially more expensive than PANW's 29x forward free cash flow, but PANW is delivering stable, mature growth. While SentinelOne is still in growth mode and delivering positive free cash flow in the coming twelve months. When it comes to investing, it's never about the quarter just reported. It's always about what the future will bring to investors. Not the far distant future, but what the next 6 to 12 months are expected to bring. Given the competitive landscape and the relatively modest growth rates, paying 29x forward free cash flow for Palo Alto Networks is indeed a steep premium. While the company is well-managed and has shown strong profitability, its mid-teen growth rates, particularly in a sector where faster-growing competitors like SentinelOne are thriving, do not justify such a valuation. SentinelOne, with its 31% CAGR and focus on cloud-based, next-gen cybersecurity solutions, presents a more compelling investment opportunity. SentinelOne's lack of legacy hardware constraints and rapid cash flow growth provide a clearer path to outsized returns. In cybersecurity, staying ahead is crucial, and at this price, Palo Alto Networks may be too focused on the past to offer the best returns for the future - perhaps it's time to "firewall" your investment dollars elsewhere.

Palo Alto Networks (PANW): Buy Before It Enters Beast Mode

Looking for a helping hand in the market? Members of Ultimate Growth Investing get exclusive ideas and guidance to navigate any climate. Learn More " Palo Alto Networks: Solid Earnings Performance And Outlook Palo Alto Networks (NASDAQ:PANW) investors cheered its solid earnings release and outlook as PANW announced its FQ4 earnings. The company demonstrated that fears about an elongated sales cycle driven by its platformization drive have been overstated. I indicated in my previous PANW article in May 2024 that these fears were misunderstood. As a result, I'm confident that Palo Alto Networks has corroborated my conviction with its solid execution. PANW aims to increasingly drive vendor consolidation in the market, expanding from its core leadership in network security. Consequently, it's pivotal for investors to assess whether its go-to-market execution has led to significant improvement in increased module adoption and spending, justifying its cross-selling and upselling momentum. Accordingly, Palo Alto Networks posted a revenue increase of 12% YoY and adjusted EPS of $1.51, up less than 5% YoY. Given the pessimism baked into PANW's estimates, it has provided management with an easier bar to clear, bolstering the buying sentiments. In addition, Palo Alto Networks' robust guidance for FQ1 suggests that the worst of its growth normalization could be over as it attempts a potential growth inflection. Management provided an FQ1 revenue guidance of between $2.1B and $2.13B (a 12% to 13% increase). In addition, its guidance for FY2025 indicates a topline growth rate of between 13% and 14%. As a result, the company's confident outlook suggests a potential acceleration in the second half, justifying PANW's recent recovery from its August 2024 lows. PANW's Platformization Fears Were Overstated I assess that PANW's optimism suggests its go-to-market cadence has not slowed markedly as feared previously. It indicates the robust market opportunity for cybersecurity leaders like PANW as it executes its platformization strategy. As a result, it has likely improved the market's confidence in getting closer to its long-term $15B in NGS ARR target by FY2030. Management indicated that it has observed encouraging responses from its customers, as they "express interest in consolidating their solutions rather than continuing with multiple vendors." This has also led to an acceleration in bookings for FY2025, as companies increasingly appreciate the necessity of adopting unified and integrated offerings. The company also emphasized that it has been able to integrate AI rapidly into its product suite, spurring "significant interest." Consequently, it has helped the company deliver more than $200M in AI-related ARR. I assess that the threat of a broad slowdown as Palo Alto Networks moves deeper into platformization has likely been diffused, notwithstanding its initial, more conservative outlook. The heightened threat landscape, worsened by the use of Generative AI by threat actors, has likely spurred the need for top-notch integrated solutions offered by Palo Alto Networks. Therefore, knowing that PANW has made solid progress in the cloud security segment is reassuring. Palo Alto Networks: Potentially Taking Share Against CrowdStrike Accordingly, the complex security needs in a "work from anywhere" model will likely continue to drive a broader market opportunity for PANW. Management also underscored the "rising frequency and severity of cyber incidents and breaches," putting their customers' IT systems at substantial risk of disruptions. PANW indicated that its cloud security business has continued to gain momentum, with ARR surpassing $700M. Coupled with new modular releases to bolster the potential for further consolidation in its cloud security segment, PANW looks well-positioned for success. Investors are also likely curious whether PANW could capitalize on the recent IT outage linked to CrowdStrike's (CRWD) massive mistake. Interestingly, management indicated that several conversations have already occurred with its customers. These customers are justifiably concerned whether PANW's current deployment strategy is susceptible to such outages. Therefore, management's commentary that Palo Alto Networks has always adopted a cautious approach in deploying content updates has likely assured its customers. The company uses a "1% to 3% wide sample test cohort to identify and resolve potential issues before a broader rollout." As a result, I assess it as highly unlikely for PANW to encounter such a massive outage that bedeviled CRWD, leading to potential long-term ramifications. Interestingly, PANW indicated that it has started to gain more inquiries into its XDR opportunities, of which CRWD is a recognized market leader. Management highlighted that "it's no longer a slam-dunk for some other place in the market," suggesting it could bolster potential market share gains against CrowdStrike. Therefore, I urge investors to pay close attention to PANW's ability to drive a faster go-to-market, as customers are potentially looking to diversify away from CrowdStrike. Is PANW Stock A Buy, Sell, Or Hold? With that in mind, I assess that the market's optimism on PANW has likely been bolstered. As seen above, PANW is still priced for growth ("D" valuation grade), behooving the need for the cybersecurity platform leader to execute robustly. PANW's adjusted forward earnings multiple of nearly 60x is significantly above its tech sector median of 23.4x. However, it's slightly above its 5Y average of 55x. Therefore, bullish Palo Alto Networks investors could suggest that its premium valuation is justified by its consistently solid execution ("B+" earnings revisions grade). Wall Street is generally optimistic about PANW's growth prospects, bolstering my bullish thesis. Notwithstanding PANW's solid recovery and stellar FQ4 earnings performance, it's not undervalued. As a result, an unanticipated slowdown in its platformization drive could drive a steep valuation de-rating. In addition, investors must be cautious about the possible re-emergence of CRWD's leading platform solutions. While the cybersecurity platform leader has been badly hurt by its failings in the IT outage in July 2024, it could adopt a more aggressive execution strategy to hold on to its market share. However, Palo Alto Networks is a solidly profitable company ("A+" profitability grade). Hence, I'm confident that the company is positioned well to compete as it capitalizes on the recent XDR momentum in the market. Near-term caution is justified as PANW closes in against its July 2024 highs. A decisive breakout will likely see a further rally to re-test its February 2024 highs. Therefore, I assess the decision to stay bullish as justified, corroborated by solid buying momentum ("B+" grade), lifting its bullish proposition. Rating: Maintain Buy. Important note: Investors are reminded to do their due diligence and not rely on the information provided as financial advice. Consider this article as supplementing your required research. Please always apply independent thinking. Note that the rating is not intended to time a specific entry/exit at the point of writing unless otherwise specified. I Want To Hear From You Have constructive commentary to improve our thesis? Spotted a critical gap in our view? Saw something important that we didn't? Agree or disagree? Comment below with the aim of helping everyone in the community to learn better! A Unique Price Action-based Growth Investing Service We believe price action is a leading indicator. 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He focuses on identifying growth investing opportunities that present the most attractive risk/reward upside potential. His approach combines sharp price action analysis with fundamentals investing. He tends to avoid overhyped and overvalued stocks while capitalizing on battered stocks with significant upside recovery possibilities. He runs the investing group Ultimate Growth Investing which specializes in identifying high-potential opportunities across various sectors. He focuses on ideas that has strong growth potential and well-beaten contrarian plays, with an 18 to 24 month outlook for the thesis to play out. The group is designed for investors seeking to capitalize on growth stocks with robust fundamentals, buying momentum, and turnaround plays at highly attractive valuations. Learn more Analyst's Disclosure: I/we have a beneficial long position in the shares of PANW, CRWD either through stock ownership, options, or other derivatives. 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