Palantir Technologies (PLTR 0.56%), the controversial data-mining firm that generates over half its revenue from government contracts, went public via a direct listing in late September. The stock opened at $10 a share on the first day, well above its initial reference price of $7.25, but it subsequently dipped and has stayed below $10 over the past month.
That lackluster debut likely disappointed investors, who had expected Palantir's stock to skyrocket like other recent tech IPOs. In addition, Palantir's insiders have sold 50.8 million shares, worth about $470 million today, since its public debut. Should investors worry about those big insider sales?
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Why those numbers might be misleading
A direct listing is different from a traditional IPO. Unlike an IPO, wherein new shares are sold to raise funds, a direct listing lets existing shareholders sell their shares to investors without raising funds for the company. A direct listing also cuts underwriting banks, which earn big fees from traditional IPOs, out of the loop.
Therefore, Palantir's insiders were expected to sell a lot of shares after the company went public. If they didn't, there wouldn't have been any shares for retail investors.
Palantir, like many other tech companies, heavily subsidizes employees' salaries with stock options to conserve cash. It was often difficult for employees to convert their vested options into cash when the company was private. But once Palantir went public, it was much easier to cash out.
There was so much pent-up selling pressure at Palantir, which was founded 17 years ago, that the initial trades crashed Morgan Stanley's trading platform and delayed the company's public debut. That crash likely wouldn't have happened in a traditional IPO, in which the bookrunners control the supply and demand of the newly issued shares.
In that context, Palantir's initial insider sales of 50.8 million shares, or about 3% of its outstanding shares, doesn't seem that significant.
Why those numbers might raise red flags
However, Palantir's prospectus reveals that prior to its public debut, its insiders consistently sold their shares at an average price of $5 to $6 in private listings over the past two years. The private price for the stock also hit an all-time low of $4.17 in August, shortly before the company went public.
Those private sales coincided with public scrutiny of Palantir's contract with Immigration and Customs Enforcement (ICE), which helped the immigration agency track down and deport undocumented immigrants. Co-founder Peter Thiel's outspoken support of President Donald Trump exacerbated those tensions.
Last year, more than 60 employees petitioned Palantir to redirect its profits from ICE to a non-profit charity. Amazon (AMZN -1.65%) Web Services (AWS) employees also asked Amazon to cut ties with Palantir, which hosts its data mining services on AWS.
Some insiders might also believe Palantir could lose its ICE contract if Joe Biden defeats Trump in the presidential election. But those concerns are largely unfounded since Palantir secured its ICE contract under the Obama Administration in 2014.
Nonetheless, Palantir's controversial business model, its high dependence on government contracts, and its consistent lack of profits seem to be dampening enthusiasm for the stock among insiders and investors.
Investors shouldn't ignore Palantir's strengths
Palantir hasn't attracted a stampede of bulls like many other high-growth software stocks, but investors shouldn't overlook its core strengths.
Its revenue rose 25% last year and grew 49% year over year in the first half of 2020, and it expects 42% growth this year. Based on that forecast, Palantir trades at 19 times this year's sales -- making it much cheaper than many recent tech IPOs.
Palantir's losses also narrowed last year and in the first half of 2020. It won't turn a profit anytime soon, but it's cash and equivalents of $1.5 billion still give it plenty of time to improve its bottom-line growth.
The bottom line
Palantir's insiders could still sell a lot more stock in the future, but investors should take into account its direct listing and heavy use of stock options before assuming that means the company is in trouble.
I've accumulated some shares of Palantir, and I still believe its ambitious plans to provide the "default" operating system of the U.S. government and expand into the enterprise market could generate big returns. So instead of fretting over Palantir's insider sales, investors should consider any big dips to be buying opportunities.
