Splunk (NASDAQ:SPLK) is rallying back toward its all-time high again after giving investors plenty to be happy with during the third quarter of 2019. It's been a wild ride as the big data firm has been spending heavily to maximize its potential, and a projected dip in free cash flow (money left over after operating and capital expenses are paid) sent the stock down earlier in the year. Now that Splunk's sporting a 28% return during the current calendar year, those worries seem to be in the rearview mirror as the company continues to solidify its position in the booming data analytics industry.  

Three down, one to go

Revenues in the fiscal 2020 third quarter (three months ended Oct. 31, 2019) were up 30% year over year to $626 million, topping what Wall Street analysts were expecting as well as the company's own guidance for $600 million during the Q2 earnings release. Adjusted operating profit margin of 16.8% was also better than the 16% management had forecast before.

A single quarter doesn't tell the whole story, though. After growing its top line by 38% last year, the company is building on that success, as it is well on track to reach its goal of over $2 billion in total revenue during the 2020 fiscal year. 

Metric

Nine Months Ended Oct. 31, 2019

Nine Months Ended Oct. 31, 2018

Change

Revenue

$1.57 billion

$1.18 billion

33%

Total gross profit margin

80.7%

78.8%

1.9 pp

Operating profit (loss)

($279 million)

($275 million)

N/A

Adjusted operating profit

$144 million

$62 million

132%

Adjusted earnings per share

$0.90

$0.40

125%

Data source: Splunk. Pp = percentage point.   

The good headline figures are a testament to how busy Q3 was. Splunk closed its $1.05 billion takeover of SignalFX, a real-time monitoring software suite for cloud infrastructure; the company unveiled new flexible pricing tiers to help customers focus more on driving business outcomes rather than worry about the volume of data they're running through the Splunk platform; and the $150 million Splunk Ventures Fund was launched to provide funding for data start-ups and access to the Splunk software ecosystem.

A person in a suit holding a tablet with an illustrated brain hovering above it.

Image source: Getty Images.

What cash flow problem?

One of the big data company's objectives this year was to transition to renewable contract-based billing (versus perpetual software licenses), and that transition was expected to contribute to free cash flow dipping into the red. That has transpired, with free cash flow running at negative $282 million so far this year -- including a negative $162 million in the third quarter alone.  

It will take some time for that metric to recover, but CEO Doug Merritt said that the switchover to renewable licensing is nearly complete. That bodes well for Splunk's profitability headed into the new fiscal year in a couple months. In the meantime, Splunk's investments in things like real-time data monitoring, cybersecurity orchestration, and IT operational management is helping this large-cap technologist maintain fast-growing momentum. Fourth-quarter sales are expected to be $780 million, a 25% increase from last year. 

One thing to bear in mind is that shares aren't exactly cheap. No unadjusted profits (at the moment) means investors are left with imperfect means of valuation like the price-to-sales ratio. But, at 9.7 times the last 12 months sales, it isn't totally unreasonable, either. There are plenty of high-flying but loss-making tech outfits trading for far higher, with lower gross profit margin and without a plan to get profitable.  

Put simply, there was a lot to like in the Q3 report. After a touch-and-go first half of the year, things are looking up for Splunk stock again.