4 reasons to buy Palo Alto Networks and 1 reason to sell

Palo Alto Networks(PANW 12.10%) the stock price jumped 8% during after-hours trading on Aug. 22 after the release of its fourth-quarter report. The cybersecurity company’s revenue rose 27% year-over-year to $1.55 billion, beating analysts’ estimates of $10 million. Its adjusted net income rose 57% to $254 million, or $2.39 per share, which also beat consensus guidance by 11 cents.

Those numbers looked solid, but should investors still buy this stock after it’s risen more than 40% in the past 12 months? Let’s go through four reasons to buy Palo Alto — and one reason to sell it — to decide.

Image source: Getty Images.

1. Double-digit billing and revenue growth

Palo Alto’s revenue growth slowed slightly in the fourth quarter of fiscal 2022, but its billing growth — which measures its underlying orders — has accelerated for three straight quarters.

Period

Q4 2021

Q1 2022

Q2 2022

Q3 2022

Q4 2022

Billing growth (YOY)

34%

28%

32%

40%

44%

Revenue growth (YOY)

28%

32%

30%

29%

27%

Data source: Palo Alto Networks. YOY = year after year.

Palo Alto expects its billings to grow 22% to 23% year over year in the first quarter of fiscal 2023, and 20% to 21% for the full year. It expects its revenue to grow 23% to 25% in the first quarter and about 25% for the full year. Its first-quarter revenue forecast was in line with Wall Street expectations, while its full-year revenue forecast beat expectations for 23% growth.

Palo Alto’s remaining performance obligations (RPOs), or future revenue it expects to accrue on its existing contracts, also rose 40% year-over-year to $8.2 billion. dollars, suggesting it will easily generate double-digit billings and revenue growth for the foreseeable future. .

2. The continued expansion of its NGS services

The Palo Alto ecosystem consists of three main businesses: Strata, which hosts its on-premises firewall and networking services; Prisma, its cloud-based security platform; and Cortex, its AI-powered threat detection platform. To reduce its reliance on Strata’s slower-growing legacy services, Palo Alto has aggressively expanded Prisma and Cortex, which it calls its Next Generation Security (NGS) services, with significant acquisitions and investments in recent years.

As a result, its NGS segment’s annual recurring revenue grew 60% year-over-year to $1.9 billion, or 35% of its revenue, in fiscal 2022. This percentage has steadily increased and reduced its reliance on its legacy services.

Period

Q4 2021

Q1 2022

Q2 2022

Q3 2022

Q4 2022

NGS ARR

$1.18 billion

$1.27 billion

$1.43 billion

$1.61 billion

$1.90 billion

Percentage of TTM revenue

28%

28%

29%

31%

35%

Data source: Palo Alto Networks. TTM = last 12 months.

Palo Alto expects its annual recurring NGS revenue to grow at least 37% to $2.6 billion, or approximately 38% of total revenue, in fiscal 2023. This expansion continues is expected to widen its moat against cloud-based challengers like CrowdStrike (CRWD 3.49%) and Z-scale (ZS 1.44%)as well as AI-powered newcomers like SentinelOne (S 5.99%).

3. Increase margins and increase profits

Palo Alto’s non-GAAP (generally accepted accounting principles) operating margin and adjusted free cash flow (FCF) margin both increased sequentially and year-over-year in the fourth quarter, growth from its higher margin business offsetting inflation and supply chain headwinds. Its non-GAAP EPS growth also accelerated for the third straight quarter.

Period

Q4 2021

Q1 2022

Q2 2022

Q3 2022

Q4 2022

Non-GAAP operating margin

17.5%

18%

18.4%

18.2%

20.8%

Adjusted FCF margin

24.5%

44.4%

33.5%

25.3%

31.2%

Non-GAAP EPS growth (YOY)

8%

1%

20%

30%

49%

Data source: Palo Alto Networks. YOY = year after year.

Palo Alto expects its non-GAAP EPS to grow 24% to 26% year over year in the first quarter of fiscal 2023 and for the full year. It also expects its adjusted FCF margin to increase slightly from 33% in fiscal 2022 to 33.5%-34.5% in fiscal 2023 as it makes less important acquisitions.

Palo Alto also generated a slim GAAP profit in the fourth quarter and expects to remain profitable on a GAAP basis through fiscal 2023. This milestone would set it apart from non-GAAP cybersecurity companies like CrowdStrike, Zscaler and SentinelOne.

4. His next stock split

Finally, the Palo Alto Board of Directors approved a three-for-one stock split, which will take place Sept. 13. This split won’t change its fundamentals or market valuation, but it could catch the eye of small retail investors who were hesitant to pay more than $500 for a single stock.

The only reason to sell Palo Alto: its valuation

Palo Alto’s business is running at full steam, but a lot of optimism is already embedded in its stock price. At $550 per share, Palo Alto trades at 58 times its FY2023 adjusted EPS estimate. That still makes it cheaper than CrowdStrike or Zscaler, both of which trade at more than 160 times their adjusted forward earnings. , but it’s a bit pricey compared to other tech stocks.

But as a long-term Palo Alto investor, I think this well-run business deserves this premium valuation. Its stock may remain volatile in this choppy market, but I believe it remains one of the best long-term bets on the cybersecurity industry’s secular expansion.

Leo Sun holds positions at CrowdStrike Holdings, Inc. and Palo Alto Networks. The Motley Fool holds positions and recommends CrowdStrike Holdings, Inc., Palo Alto Networks, and Zscaler. The Motley Fool has a disclosure policy.

Comments are closed.