Palantir (NYSE:PLTR) recently reported strong earnings for the fourth quarter and the year ending Dec. 31, giving an upbeat outlook for PLTR stock for the rest of 2021. Moreover, the company forecast its five-year forward revenues would be almost 4x greater at $4 billion, up from $1.1 billion in 2020.
That means PLTR stock is likely potentially undervalued, at least over the long-term outlook.
The problem is PLTR stock already reflects much of this upside, at least in the near term. For example, the company forecast that its revenue for 2020 will likely rise another 30%, after being up 47% in 2020 and 40% in Q4 alone.
As a result, PLTR stock is now up to $26 after its initial IPO listing at $10 on Sept. 30. However, recently the stock has fallen from its peak of $38.17 earlier in February. This might mean there is an opportune time to get in now, especially given the positive outlook the company gave for its 2021 results.
Free Cash Flow Inflection
Many of the company’s clients have large contracts that tend to be very sticky in nature. The company said that its average revenue per customer was $7.9 million, up 41% year-over-year. Moreover, the average revenue from its top 20 customers was $33.2 million, up 34% year-over-year.
This means that the company is now getting close to being free cash flow (FCF) positive. Last quarter, it made a slightly negative cash flow from operations (CFFO) of negative $18.3 million, according to Seeking Alpha. After capital expenditure spending of $4.8 million during the quarter, its FCF was negative $23.1 million.
However, if its revenues increase by 30% over the next year, or $330 million, and assuming at least a 10% to 12% FCF margin, the net gain in CFFO will be $33 to $40 million. That puts it at $21.7 million minus capex spending of $20 million, for a positive $1.7 million FCF.
Assuming revenues continue to grow to $4 billion, as management forecasts by 2025, then assuming FCF margins rise to 15% to 20%, it could hit $600 million or $800 million by then.
Valuing PLTR Stock
Here is how I would value PLTR stock using this information. First, we have to discount the FCF figure. It is five years in the future. At a 10% discount rate, the $800 million in FCF is worth 62% of that number today, or $496 million.
Then using a 1% FCF yield, the market value is worth $49.6 billion (i.e., $496 million divided by 1% equals $49.6 billion).
This is close to today’s market value of $50.25 billion by then. However, keep in mind that the company will be producing $800 million in cash each year, which it can use in a variety of ways. For one, it can buy back stock. It can also pay dividends or make large acquisitions.
Given that the company already has $2 billion in cash, an additional $800 million in cash for the next five years in 2025 would give it an additional value of $6 billion, or 12% more. If it uses that money to buy back shares, there will be a multiplier effect of at least 50% or more. That brings the value of the cash up to $10 to $12 billion, or 24% more.
However, this is five years in the future. That means, on a present value basis, the $12 billion in cash or buybacks is only worth 62% today, or $7.44 billion. That means PLTR is worth 14.8% more than today’s price, with some heroic assumptions. The price is, therefore, worth $30.29 per share, or $3.90 above today’s price of $26.39.
What To Do With PLTR Stock
Goldman Sachs recently wrote an upbeat report on PLTR stock, saying its price target is $34. That is close to my target price, but I have to admit I am making a lot of optimistic assumptions.
Moreover, my use of a 10% discount rate might be considered too low by some observers. However, I think it is justified, given the company’s large contracts which tend to be very sticky, as well as its steadfast 30%+ growth rate.
However, most other Wall Street analysts are not as positive on PLTR stock. Most of them have an average price target that is below today’s price.
For example, Seeking Alpha reports that eight analysts have an average target of $25.57. In addition, TipRanks reports that seven analysts have an average target of $25.83, and Marketbeat.com says eight analysts’ target price averages $23.14.
So, take my estimate of a 15% potential gain in PLTR with a grain of salt. This is because, except for Goldman Sachs, I am going against the grain of most other analysts on Wall Street who think PLTR stock is overvalued.
On the date of publication, Mark R. Hake did not hold a long or short position in any of the securities in this article.