What to Watch for in Palantir's Q2 Earnings
Growth in forward-looking metrics is incredibly important. If the bootcamps the company has been running are worth it, one would expect increased customer adoption. The firm has been highlighting its strength in AI for multiple quarters now, so we must see large upticks in demand for the Artificial Intelligence Platform at some point if its projections of exponential demand are to be trusted.
Similarly, we'd expect an increase in customers who use Palantir as companies onboard the firm due to their desire to leverage AI. We'll be looking at commercial clients in particular, as they would be the perfect target audience for AIP.
While investors keep a keen eye on growth in the commercial segment, we think monitoring Palantir's government business is also helpful/pertinent. Governments worldwide seek to leverage AI in their operations, defense, and more. As a large software vendor with high security clearance, Palantir stands to gain materially from this trend.
Fair Value Estimate for Palantir Shares
With its 2-star rating, we believe Palantir's stock is overvalued compared with our long-term fair value estimate of $16 per share, which implies a 2024 enterprise value/sales multiple of 12 times. We forecast Palantir's revenue to grow at a 21% compound annual growth rate over the next five years as the firm expands both governmental and commercial operations.
We expect the majority of this top-line growth to be driven by commercial clients as the firm seeks to broaden its commercial client base. While government clients can be sticky, large governmental contracts create lumpiness in revenue. As a result, Palantir's shift to more commercial clients should create a more ratable revenue mix. We also expect the firm to continue expanding sales within its existing client base. We view Palantir's strong net retention rate as an indicator of this.
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Key Morningstar Metrics for Palantir Technologies
Fair Value Estimate: $16.00
Morningstar Rating: ★★
Economic Moat: Narrow
Morningstar Uncertainty Rating: Very High
Economic Moat Rating
We assign Palantir a narrow moat, owing primarily to strong switching costs associated with its platforms and secondarily to intangible assets in the form of strong customer relationships the firm has built up over the years.
We think Palantir's two main platforms, Gotham and Foundry, both benefit from high customer switching costs, as evidenced by its gross and net retention metrics. Palantir has exhibited strong customer growth while diversifying its business away from lumpy governmental contracts toward commercial clients. As a result, although we forecast a couple of more years of hefty operating losses, we expect the firm to generate excess returns over invested capital over the next decade.
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Financial Strength
We view Palantir's financial position as healthy. The company ended fiscal 2023 with around $3.7 billion in cash and liquid investments and no debt. While Palantir only posted GAAP profitability in 2023, we expect the firm to continue this trend while generating strong cash flow margins as it increases its operating leverage by toning down some of its research and sales expenditures.
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Risk and Uncertainty
We assign Palantir a Very High Uncertainty Rating due to some key risks that we view as potentially impeding its growth trajectory. While the firm has landed high-value commercial and government clients over the years, we have found the executive team’s execution to be questionable at best. The firm's sales strategy has led to relatively poor customer acquisition, despite it being in the commercial space for many years, Palantir’s commercial customer count is only slightly more than 200. While the firm has pivoted to a module-based sales model that should bolster commercial customer additions, the execution of this strategy remains to be seen.
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PLTR Bulls Say
Palantir has strong secular tailwinds, as the AI/ML market is expected to grow rapidly due to the exponential increase in data harvested by organisations.
With products targeting both commercial and governmental clients, Palantir has a distributed top line, with noncyclical governmental revenue insulating the overall top line during lean times.
Palantir's focus on modular sales could lead to substantially more commercial clients, which it could subsequently upsell.
PLTR Bears Say
By not selling to countries or companies that are antithetical to its mission and cultural values, Palantir has self-restricted its growth opportunities.
Palantir's AI platform is off to a good start, but we anticipate robust competition in the years ahead.
Palantir's executive team has (under chief executive Alex Karp, pictured above) made questionable strategic decisions in the past. While past performance isn't necessarily indicative of future results, the missteps could merit caution.
This article was compiled by Leah Breakstone
