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Why Palo Alto Networks, Inc. Stock Dropped Today

By Steve Symington - May 27, 2016 at 11:08AM

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The next-gen security specialist's light guidance overshadowed an otherwise solid quarter.

Image source: Palo Alto Networks, Inc.

What: Shares of Palo Alto Networks Inc. (PANW 2.90%) were down 12% as of 10:00 a.m. Friday after the next-generation network security company announced strong fiscal third-quarter 2016 results, but followed with weaker-than-expected forward guidance.

So what: Quarterly revenue climbed 47.7% year over year, to $345.8 million, including 33.4% growth in product sales, to $162.1 million, and a 63% increase from services, to $183.7 million. Based on generally accepted accounting principles (GAAP), that translated to a net loss of $70.2 million, or $0.80 per share. On an adjusted (non-GAAP) basis, which excludes items like stock-based compensation, Palo Alto's net income climbed 87.8% year over year, to $38.5 million, and rose 82.6% on a per-share basis, to $0.42. Meanwhile, billings climbed 60.9% year over year, to $486.2 million.

For perspective, Palo Alto's guidance called for lower revenue in the range of $335 million to $339 million, and adjusted earnings per share of $0.41 to $0.42. This marks the eighth consecutive quarter Palo Alto has exceeded its guidance.

To that end -- and though we don't pay much attention to Wall Street's quarterly demands -- analysts' consensus estimates called for roughly the same adjusted earnings of $0.42 per share lower revenue of $339.5 million.

"Our record fiscal third quarter 2016 results continue to underscore the market demand for our unique Next-Generation Security Platform as more than 31,000 new and existing customers are working with Palo Alto Networks to solve their most difficult security needs," added Palo Alto CEO Mark McLaughlin. "Security has never been more critical than it is today, and our platform delivers natively integrated and highly automated prevention outcomes, allowing us to continue to significantly outpace the competition as we further establish ourselves as the leader in cybersecurity."

Now what: But the market was decidedly less impressed with Palo Alto's outlook. For the current quarter, Palo Alto anticipates revenue of $386 million to $390 million, good for year over year growth of roughly 36% to 37%, and adjusted earnings per diluted share of $0.48 to $0.50, up from $0.28 per share in the last year's fiscal fourth quarter. Analysts, for their part, were already modeling both revenue and earnings near the high end of Palo Alto's guidance ranges.

During the subsequent conference call, Palo Alto CFO Steffan Tomlinson explained that while Palo Alto continues to enjoy "robust pipeline coverage and strong demand," its guidance also takes into account the current volatile macro economic environment. 

To be fair, today's drop seems to ignore Palo Alto's long history of under-promising and over-delivering. And that revenue growth is decelerating -- but still remains well above the rest of the industry -- isn't exactly stunning as Palo Alto builds its business from a continuously larger base. To be fair, shares aren't exactly cheap trading around 50 times next year's expected earnings as of this writing. But I still think that's a fair premium to pay for a high-quality business that's consciously forsaking bottom-line profitability in favor of top-line growth, and still relatively early in its long-term growth story. With shares now down almost 30% year to date, I think now is a great time for patient, long-term investors to open or add to a position.

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