Buy Palo Alto Networks as It Turns the Profits Corner (PANW)

Considering rivals like Fortinet (FTNT) and Check Point Software (CHKP) both topped earnings estimates in their most recent quarters, it comes as no real surprise that Palo Alto Networks (PANW) did well last quarter too.

Buy Palo Alto Networks as It Turns the Profits Corner (PANW)What did, however, likely catch current and would-be owners of PANW stock off guard, is just how firmly PANW managed to grow its cybersecurity business last quarter — the strongest revenue growth rate the company has seen in over two years.

Although Palo Alto Networks still booked its usual loss, it was the first time in a long time that the loss didn’t widen, leading us to wonder if PANW has finally turned the earnings corner.

Palo Alto Networks (PANW) Earnings

In its fourth fiscal quarter of 2015, Palo Alto Networks earned 28 cents per share on revenue of $283.9 million. Both figures topped expectations, as analysts were only calling for an operating profit of 25 cents per share and a top line of $255.8 million.

For some perspective on just how much growth Palo Alto has been logging, the company earned 11 cents per share in the same quarter a year earlier, and generated $178 million worth of revenue.

The strong fourth quarter topped off an equally impressive year. For all of fiscal 2015, Palo Alto Networks drove $928.1 million worth of revenue, up 55% from 2014’s figure.

And more growth is on the way, according to PANW. Palo Alto offered profit guidance of between 31 and 32 cents per share for the current quarter on revenue between $280 million and $284 million. The pros were only looking for an average profit of 31 cents per share and $269.7 million in sales.

Perhaps most importantly, analysts were more than happy to reiterate their optimism.

Perhaps Oppenheimer’s follow up comments to Palo Alto Networks’ fourth-quarter report may have summed up the professionals’ opinions as accurately as any source. It read:

“We look to Palo Alto Networks’ stellar fiscal fourth quarter results as a proxy to strong demand trends within the security arena (which appears to be operating in a league of its own). Yet again, all financial metrics were handily exceeded with a stellar billings growth of 69% year over year ($397 million vs. $338 million estimate). …. ongoing margin expansion (14.1% vs. 13.9%E) supporting Palo Alto Networks’ exiting fiscal 2016 with operating margins of 22% to 25%. We are raising fiscal 2016 estimates and our price target to $190 from $180.”

Well, This Is Interesting

Those who know Palo Alto Networks well also know its profits are misleading. Not included in that growth is a mountain of acquisition and capital expenses that have led to a string of big GAAP losses for nearly two years now.

For perspective, the company actually lost 55 cents per share, approximately $56 million, last quarter. And since 2013, as the top line has grown, so too has the loss.

To date, it has mattered little to investors, who are more interested in the growth aspect of the PANW story than its current profitability. Sooner or later, the math will get worked out for the best.

As was noted, Palo Alto booked a $46 million loss last quarter on $284 million in revenue. That net loss margin of 16.2%, however, is the smallest net loss margin the company has booked since it went into ultra high-growth mode in 2013 to fully capitalize on what was then only a budding cybersecurity opportunity.

Last quarter’s loss of $46 million was the first time in years that the top line sequentially moved higher, but the bottom line didn’t sequentially see a bigger loss. (Palo Alto only lost $46 million in its third fiscal quarter as well.)

It’s an idea that aligns with Oppenheimer’s expectation for widened operating margins.

Bottom Line for PANW Stock

Don’t misunderstand: Palo Alto Networks will almost certainly be booking several more quarters of losses as it pays (dearly) for its growth. Enough scale has finally been achieved, however, that revenue growth is starting to outpace expense growth.

Translation: There’s a light starting to shine at the end of the tunnel for investors who at least need the plausible promise of profits rather than just the pomp that comes with explosive sales growth.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities.

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