- Palantir Technologies (NYSE:PLTR) is rising based on analysts’ revenue and earnings growth forecasts.
- The company should be able to achieve 25% FCF margins this year, but this still leaves upside for PLTR stock.
- Expect to see another 13% gain in Palantir stock to $14.19 or higher if margins come in higher.
Palantir Technologies is a government and large enterprise software company for intelligence communities. It is set to produce good profits during the first quarter based on the company’s guidance. As a result, expect to see PLTR stock continue to slowly drift higher as the markets appreciate Palantir’s secure and growing operating profits and free cash flow (FCF).
Palantir’s Free Cash Flow Moat
For example, in the company’s last earnings release, they guided to achieving revenues of $443 million with an adjusted operating margin of 23%. Moreover, for the full year of 2022, they projected that operating margins will be higher at 27%.
I used this information in my last article to estimate the company’s free cash flow going forward. One of the most important things to remember about Palantir is that most of its revenues come from the US government and other governmental entities. After all, they specialize in national security and intelligence data analysis. U.S. government contracts tend to be very sticky and often get renewed or refreshed with new upgrades. This makes the quality of its earnings very high.
For example, in 2021 its commercial sales were $201 million, according to page 16 of its slide deck. But the “Government Cohort” sales were $897 million, from page 18 of the same slide deck. So its government sales are four times the commercial side.
I consider this a good thing, as I have personal experience having worked in the Pentagon during the Reagan Administration. I saw firsthand how the Defense Department relied very heavily on consulting and software firms like this. In effect, the government sales act as a “moat” for the company’s sales forecasts going forward. In fact, Alex Karp, the CEO, talked about this during his fourth quarter earnings conference call.
Estimating Free Cash Flow
Therefore, if we use analysts’ forecasts of sales for 2022, we see that average revenue estimates are $2 billion, and for 2023 the revenue estimate is for $2.58 billion. If we use a 10% discount rate, the present value of the 2023 revenue comes down to 82.64% of the 2023 $2.58 billion revenue forecast. That brings the present value of 2023 sales to $2.132 billion.
Next, if we assume that FCF margins will be equal to operating profit margins of 27%, the FCF for 2023 will be $575.6 million (i.e., $575.6b x 0.27). We can use that number to estimate what the company’s target market value will be.
I believe that eventually, the market will value PLTR stock on a 2% FCF margin. This is which is also the same as multiplying the FCF by 50x (i.e., 1/0.02 = 50). I think the market will do this since the quality and persistence of government revenues is very high.
As a result, we can derive a price target for PLTR stock. For example, if we multiply $576 million by 50x we get a market capitalization target of $28.8 billion.
Where This Leaves PLTR Stock
Today Palantir Technologies has a market cap of $25.559 billion, according to Yahoo Finance. So this means that the target market valuation is still 12.68% higher (i.e., $28.8b / $25.559b). So, as PLTR stock has a price today (March 21) of $12.59, its price target will be 12.68% higher, or $14.19 per share.
This is still a good upside for the company, but it assumes that operating margins are the same as FCF. It is possible that FCF could come in higher as operating profits include non-cash charges that get washed out in FCF.
As a result, there is still a good upside in PLTR for the future. Investors should consider taking a toehold stake in the company at these depressed prices.
On the date of publication, Mark Hake did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.