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Is Palo Alto Networks Stock a Buy?

By Leo Sun - Apr 2, 2021 at 9:15AM

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The cybersecurity leader is still firing on all cylinders.

Palo Alto Networks (PANW -4.65%) is one of the world's best-known cybersecurity companies. It serves over 80,000 customers in more than 150 countries, and it's been named a market leader in Gartner's Magic Quadrant for Network Firewalls for nine straight years.

Palo Alto's stock has nearly doubled over the past 12 months as demand for its services has remained high throughout the pandemic. But does its stock still have room to run this year? Let's dig deeper to find out.

How fast is Palo Alto Networks growing?

Palo Alto has consistently generated double-digit-percentage revenue and billings growth over the past few years, but its earnings growth has been bumpier.

Growth (YOY)

FY 2019

FY 2020

First-Half 2021

Revenue

28%

18%

24%

Billings

22%

23%

21%

EPS*

30%

(10%)

41%

Data source: Palo Alto Networks. YOY = Year over year. *Non-GAAP.

Palo Alto's profits dipped in 2020 because it made several acquisitions, including the Internet of Things (IoT) security company Zingbox, the machine identity firm Aporeto, the software-defined networking company CloudGenix, and the attack surface management services firm Expanse.

More acquisitions on the way

Palo Alto bought those companies to strengthen its cloud security suite, Prisma Cloud, and its AI-powered threat detection platform, Cortex. That transition will enable it to gradually replace its on-site appliances with recurring cloud-based subscriptions, which are stickier and easier to scale.

Palo Alto is locking in many of the world's largest companies with its new services. Prisma Cloud and Cortex served 74% and 66% of the Fortune 100, respectively, at the end of the second quarter. Its existing customers are also using more of its services: 68% of its Global 2000 customers are now using more than one of its platforms, compared to 62% a year ago.

A man uses a secured tablet.

Image source: Getty Images.

That ongoing transformation is enabling Palo Alto to keep pace with cloud-native competitors like CrowdStrike (CRWD -6.33%) and challenge other cybersecurity companies that are replacing their on-site appliances with similar cloud-based services.

Palo Alto has already spent nearly $3 billion on acquisitions since 2019, but it plans to keep buying more companies to expand its ecosystem. It recently agreed to buy the cloud security start-up Bridgecrew, and it expects roughly 15% of its billings to come from all its newly acquired companies this year.

Stable growth at a reasonable price

For the full year, Palo Alto expects its revenue to rise 22%-23%, its billings to climb 19%-20%, and its non-GAAP earnings to grow 19%-21%. It expects its annual recurring revenue (ARR) from its next-generation security products to increase 77% for the full year and account for about 28% of its top line.

Next year, analysts expect Palo Alto's revenue and non-GAAP earnings to grow another 18% and 20%, respectively. Based on those expectations, its stock trades at about 45 times forward earnings and six times next year's sales -- which are reasonable valuations for a company that will likely generate double-digit revenue and earnings growth for years to come.

By comparison, analysts expect CrowdStrike's revenue and earnings to rise 51% and 7%, respectively, this year. However, its stock trades at over 300 times forward earnings and 30 times this year's sales. 

But don't overlook the weaknesses

Palo Alto's core business looks strong, but it isn't flawless. It's still unprofitable by GAAP measures due to its high stock-based compensation and aggressive acquisitions, and it's burning cash.

It ended the second quarter with $2.11 billion in cash and equivalents, compared to $2.96 billion a year ago, and its stock-based compensation expenses consumed 12% of its revenue in the first half of the year.

Palo Alto also still faces plenty of formidable competitors, including CrowdStrike, in the cybersecurity market. That pressure could force Palo Alto to make even bigger investments and acquisitions -- which could mean sacrificing margins in exchange for billings growth.

Is Palo Alto Networks worth buying?

Palo Alto Networks is still worth buying because its strengths easily outweigh its weaknesses. It's a market leader in next-gen firewalls, its cloud and AI services are locking in more customers, and it provides an attractive balance of value and growth in a sector filled with companies that either generate sluggish growth or are too hot to handle.

 

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Stocks Mentioned

Palo Alto Networks, Inc. Stock Quote
Palo Alto Networks, Inc.
PANW
$468.18 (-4.65%) $-22.83
CrowdStrike Holdings, Inc. Stock Quote
CrowdStrike Holdings, Inc.
CRWD
$146.39 (-6.33%) $-9.90

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