In today's technology-driven world, businesses are collecting reams of data at a rapid pace and in massive quantities. However, this data remains useless without a way to manage and make sense of it. Enter data analytics companies such as Splunk, Inc. (NASDAQ:SPLK).

Splunk's shares were on an upward trajectory, hitting an all-time high in February. However, its fiscal fourth quarter and full 2020 financial results ended January 31, 2020, disappointed, causing a drop of over 9% after the announcement.  So, does it still make sense to buy Splunk stock?

The Splunk logo in white against a black background

Image source: Splunk.

Lots of costs

Splunk's revenue continued to grow in the fiscal fourth quarter ended January 31, 2020, increasing 27% year-over-year. The company has been on a roll for the past year.

Fiscal Quarter Total Revenue Year-Over-Year Growth
Q4 2020 $791 million 27%
Q3 2020 $626 million 30%
Q2 2020 $517 million 33%
Q1 2020 $425 million 36%

Data Source: Splunk.

Despite growing revenue for four consecutive quarters, Splunk has operated at a loss over that same time period based on generally accepted accounting principles (GAAP). Its GAAP loss per share for the fiscal fourth quarter was $0.15 compared to a positive GAAP income per share of $0.01 the year prior. This is a reason for concern, but it's not uncommon for technology stocks to run at a loss for years, and in Splunk's case, there's a method to the madness.

Splunk unveiled a new product, its Data-to-Everything platform, in September. CEO Doug Merritt admitted the product was a "multi-year, multi-billion dollar commitment." The company tackled the project to execute its vision of helping customers more easily unlock business insights contained in the data being collected. It positions Splunk as one of the few data analytics organizations that assist clients in making sense of massive troves of data. As a new product, it's still too early to tell if the investment will pay off. 

Moreover, Splunk does not shy away from acquisitions. It purchased SignalFX, a cloud monitoring company, for $1 billion in cash and stock. The company also scooped up start-ups Omnition, operating in a specialized area of the software monitoring space, and Streamlio, which processes and stores data streams in real-time. These costs ate away much of Splunk's once-hefty cash assets of nearly $1.9 billion in the year-ago quarter, now down to $779 million.  

Reasons for optimism

Still, there are many reasons for investors to consider Splunk. Data collection is growing, and with it, the business needs for Splunk's strengths in data analytics. Its products are designed for the red-hot cloud computing space.

In addition, the company transitioned to a true software-as-a-service (SaaS) offering by switching to a subscription-based pricing model. This allows Splunk to tap into a recurring revenue stream, one of the strengths of a SaaS business model. (Previously, Splunk priced its products on a perpetual license basis, having customers pay up front for the software license with the right to use it indefinitely.)

Before the switch to a subscription-based pricing model, its hefty up-front cost was the reason my company passed on Splunk, so the new pricing opens up increased revenue opportunities as evidenced in its 2020 full-year results, where total annual recurring revenue (ARR) was $1.68 billion, up 54% year over year.

Moreover, Splunk anticipates revenue to continue growing.  Its full-year revenue guidance for fiscal year 2021, ending January 31, 2021, is for revenue to increase to $2.6 billion, up from $2.4 billion in fiscal year 2020. This fell short of analyst expectations of $2.8 billion, causing the stock to drop.

Even so, Splunk believes it will achieve operating cash flow (OCF) of $1 billion by fiscal year 2023, thanks to its switch to a subscription-based pricing model. To throw out an OCF target three years into the future is an encouraging sign of the management team's confidence in their business.

My verdict

With continued growth for Splunk's products and its switch to subscription pricing, the company is well positioned to continue driving value for investors. Add to this the dip in its share price after its earnings report, and Splunk is a stock to buy.