It seems fitting that Palantir (NYSE:PLTR) went public in 2020. That’s because in PLTR stock, investors can own one of the country’s most controversial companies — at a time marked by so much controversy and division elsewhere.
The split over Palantir goes beyond its customer base, and beyond traditional liberal vs. conservative disagreements. Even looking solely at Palantir as a business, there are significant questions that remain unanswered.
In the wake of contentious, uncertain elections in the United States, and in a still-volatile market, it simply seems a bit too early to take a side. When the company went public, it instantly became one of the market’s most interesting stocks. But the same questions that make it fascinating also suggest investors would do well to stay patient.
PLTR Stock and Customer Questions
The most obvious source of controversy in Palantir comes from the company’s customer base.
Palantir was founded in 2003 to build software for the U.S. intelligence community to help with counterterrorism efforts. In fact, the Central Intelligence Agency (CIA) was an early investor in the company. Since then, Palantir has added contracts with local police forces as well as federal agencies like Immigration and Customs Enforcement (ICE).
Many of these contracts have sparked heated discussion. Palantir’s own employees staged public protests against the work for ICE. Similarly, Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL) backed away from the agency in response to employee pressure. But Palantir did not.
Work with the National Security Agency (NSA) has also raised concerns about civil liberties. So have the company’s efforts toward developing so-called “predictive policing.” Palantir CEO Alexander Karp even addressed these tensions directly in the company’s prospectus, writing that “the ethical challenges that arise are constant and unrelenting.”
On its own, the controversy isn’t necessarily a key problem for PLTR stock. After all, until recently the tobacco giant Altria (NYSE:MO) was by one measure the greatest stock of all time. That company was not always a responsible corporate citizen.
But the questions have become more pressing at a time when the country is extremely divided, especially given the current election. A Joe Biden Presidency won’t mean the end of Palantir, but it could have a big impact on the company’s future. A new administration could curtail ICE contracts. Likewise, they might rein in the NSA.
Even at the local level, changing political winds could lead to pullbacks in “predictive policing” and other aggressive efforts. In fact, the Los Angeles Police Department already ended its program last year.
There’s no doubt that Palantir is going to be affected by the elections, one way or the other. And it’s going to take time to fully understand what that impact will be.
Software Giant or Consulting Firm?
But there’s another question about Palantir that hasn’t been answered yet.
What kind of company is PLTR exactly?
To proponents, it’s one of the best “Big Data” plays out there. And Palantir itself unsurprisingly believes as much.
In the prospectus, the company steals terms from the investment world, discussing “alpha vs. beta.” Palantir also notes that its commodity solutions are “only sufficient when keeping up with the market.” So, it takes the customized offerings of Palantir — particularly Foundry, its newest platform — to give customers a competitive edge.
But that customization isn’t cheap, or simple. Ahead of PLTR stock’s direct listing, New York magazine ran an intriguing profile of the company. Beyond Palantir’s role as a lightning rod, the piece focused on whether the company’s data offering was all it is cracked up to be. Sharon Weinberger writes:
“Palantir, it turns out, has run headlong into the problem plaguing many tech firms engaged in the quest for total information awareness: Real-world data is often too messy and complex for computers to translate without lots of help from humans.”
And that human help hits the company’s profits. Last month, one Wall Street analyst also noted “concerns [that] Palantir is fundamentally more ‘consulting-like’ with limited long-term margin potential.”
The problem — if those concerns are valid — is that consulting stocks don’t get the same multiple as software stocks.
The Fundamentals Underpinning Palantir
In fact, PLTR stock isn’t being treated exactly like a software company.
The same analyst who highlighted those worries that Palantir was “consulting-like” also highlighted the lower valuation that’s been assigned to the stock. By his estimation, PLTR trades at a 55% discount compared to peers like Splunk (NASDAQ:SPLK) and MongoDB (NASDAQ:MDB), adjusting for relative growth rates.
In other words — if Palantir truly is a software play — its growth suggests significant upside in PLTR stock. And there is some evidence in the numbers for that argument.
For one, Palantir’s revenue growth has accelerated markedly. Revenue increased 49% year-over-year in the first half of 2020, after growth of 25% in 2019. Profit margins are improving, too — the company expects an adjusted operating profit this year.
Of course, that improvement raises its own questions. Is first-half growth sustainable? Palantir has just 125 customers and the top 20 drove over 60% of first-half revenue. What happens if Palantir loses even a handful of those customers? Can 40% plus growth rates hold when existing sales are reliant on such a small number of governments and large corporations?
Even the profit guidance raises questions. Palantir’s adjusted profit excludes substantial stock-based compensation. That compensation totaled $182 million just in the first half of the year, coming in at nearly 38% of revenue.
Clearly, there’s still a lot of work left to do when it comes to PLTR stock. There are many questions to answer. But fundamentally, the story actually comes down to a simple thesis.
If Foundry is what Palantir believes it is — a true “Big Data” platform — then PLTR stock is going to rally, even under a Biden administration. There’s a big valuation gap between it and traditional data software plays. Foundry is what can drive the commercial growth Palantir needs to diversify.
But on the other hand, if Palantir truly is “consulting-like,” a roughly 20 times multiple to trailing-12-month revenue may be too high.
When it comes to PLTR stock, then, investors need to be patient before putting anything in. Now’s the time to wait and see.
On the date of publication, Vince Martin did not have (either directly or indirectly) any positions in the securities mentioned in this article.
After spending time at a retail brokerage, Vince Martin has covered the financial industry for close to a decade for InvestorPlace.com and other outlets.