palantir (PLTR -3.16% ) made its public debut through a direct listing about three years ago. The data mining and analytics company’s stock began trading at $10, reached its all-time high of $39 the following January, and now trades at around $15.
Bulls were initially impressed by Palantir’s established presence in US government agencies, the expansion of its commercial business and its goal of growing revenue by at least 30% annually from 2021 to 2025. However, as growth cooled and the upside was rising, the bears parted ways. Interest rates fueled its bullish valuations.
Palantir remains a divisive stock after that big decline. Let’s review three reasons to buy the company – and three reasons to sell it – to see if it’s a worthwhile investment.
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Three reasons to buy Palantir
Bulls still like Palantir because it’s an artificial intelligence (AI) play, its margins are expanding, and its free cash flow (FCF) is growing at an impressive rate.
Palantir operates two main platforms: Gotham for government agencies and Foundry for its commercial customers. Both platforms gather large amounts of data from different sources and then analyze all that information to help organizations make better decisions.
This June, Palantir added new AI features to that ecosystem with its AI Platform, which helps customers build new AI apps and analyze data with big language models. The company also expects that the AI arms race in government and commercial sectors will increase long-term demand for its data-crunching services in the market. In other words, the market’s interest in AI stocks could keep its stock on fire in the near future.
Palantir’s revenue growth has slowed since its public debut, but its adjusted operating margin is projected to improve from 17% in 2020 to 22% in 2022 and to 25% in the first half of 2023. It has also remained profitable on generally accepted accounting principles (GAAP) basis over the last three quarters and is expected to remain in the black for the foreseeable future. A fourth consecutive quarter of GAAP profitability would qualify it for inclusion in S&P 500 – and inclusion in that benchmark index can stabilize its price by bringing in big funds and institutional investors.
Palantir’s adjusted FCF margin increased from negative 25% in 2020 to positive 28% in 2022, then increased again to positive 27% in the first half of 2023. To capitalize on that rapid FCF growth, the company recently authorized a new $1 billion buyback plan. – which suggests that management believes its own shares are still undervalued.
Three reasons to sell Palantir
Bears argue that Palantir’s sales growth is unimpressive, its valuation is still too high, and its questionable deals with special purpose acquisition companies (SPACs) raise red flags about its business strategies.
Palantir’s revenue grew 47% in 2020 and 41% in 2021, but only 24% in 2022. The company only expects its revenue to grow 16% in 2023. This is mainly attributable to the uneven timing of its government contracts and the slowdown in macro headwinds. for your commercial business, but competing with other data mining platforms, such as alterex (AYX -2.13%), and internal U.S. government platforms like RAVEn could exacerbate that pain.
Palantir is still trading at 58x forward adjusted earnings and 15x this year’s sales. Altrex has been growing at a slow pace, but trades at just 28x forward earnings and 3x sales this year. So, it seems like the AI hype is boosting Palantir’s valuation — even though its new AI platform probably won’t significantly boost its near-term sales or profits.
Finally, the company still faces multiple investor lawsuits regarding its investments in nearly two dozen startups that merged with SPACs during 2021 and 2022. To secure those funds, those start-ups were required to sign multiyear contracts with Palantir that either matched or exceeded those funds. The company’s initial investment (between $10 million and $40 million).
Palantir secured contracts worth more than $700 million from its own SPAC-backed companies in this manner, significantly increasing its reported revenue in 2021. But by the end of 2022, the average value of those start-ups had dropped by nearly 80%. Bears claim that Palantir was only trying to convert its cash into revenue through speculative SPAC deals — and that it adopted that reckless strategy to hide the slow growth of its core businesses.
Palantir acknowledged in its latest 10-Q filing that ongoing class action lawsuits in connection with those deals “could result in substantial costs and divert our management’s attention and resources.” During its conference call for the first quarter of 2023, Palantir acknowledged that its revenue from SPAC contracts drove quarter-on-quarter growth of its US commercial business by 15 points to 39%. It did not disclose that surprise figure again in the second quarter.
Which argument makes more sense?
Palantir’s slow growth, high valuation, and questionable business deals with subordinate SPACs make it a weak investment right now. It has made some good progress toward stabilizing its margins and profits, but when many other high-quality tech stocks are still on sale, it doesn’t seem like a good investment.
Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Alteryx and Palantir Technologies. The Motley Fool has a disclosure policy.
Source: www.fool.com
