Where Will Palo Alto Networks Stock Be in 1 Year?

Shares of Palo Alto Networks (PANW 0.91%) jumped 11% during after-hours trading on Aug. 18 in response to its latest earnings report.

For the fourth quarter of fiscal 2023, which ended on July 31, the cybersecurity company's revenue rose 26% year over year to $1.95 billion but narrowly missed analysts' expectations by $10 million. However, its adjusted EPS grew 80% to $1.44 and cleared the consensus forecast by $0.15.

Those headline numbers look healthy, but does Palo Alto's stock still have room to run after its year-to-date rally of nearly 70%? Let's see where it might be headed in a year.

Image source: Getty Images.

Another quarter of stable (but slowing) growth

Palo Alto Networks is one of the world's largest cybersecurity companies. It has more than 80,000 enterprise customers worldwide, including most of the Fortune 100 and Global 2000 companies.

It operates three main ecosystems: Strata, which hosts its next-gen firewall appliances and on-site network security services; Prisma, which provides cloud-based security services; and Cortex, which offers threat-detection tools powered by artificial intelligence (AI). Most of the company's growth in recent years was driven by Prisma and Cortex, which it collectively refers to as its next-gen security (NGS) services.

From fiscal 2018 to fiscal 2023, Palo Alto's revenue had a compound annual growth rate (CAGR) of 25% as its billings grew at a CAGR of 26%. But as the following table illustrates, its billings growth decelerated over the past year as macro headwinds drove many companies to rein in their software spending.

Data source: Palo Alto Networks. YOY = year-over-year.

For the first quarter of fiscal 2024, the company expects revenue to rise 16% to 18% year over year as its billings grow 17% to 19%. Slower revenue growth isn't surprising, since revenue usually trails billings growth (which includes its deferred revenue).

For fiscal 2024, management expects revenue to rise 18% to 19% as its billings grow 19% to 20%. That would represent a slowdown from 25% revenue growth and 23% billings growth in fiscal 2023, but many of Palo Alto's peers, including Fortinet (FTNT 0.23%), have already been bracing for slower growth. 

Palo Alto's higher-growth NGS services -- which compete against cloud-native peer CrowdStrike (CRWD 2.03%) and the AI-driven rival SentinelOne (S 1.70%) -- grew their annual recurring revenue by 56% year over year to $2.95 billion, or 43% of its fiscal 2023 revenue. That's up from 34% of its revenue at the end of fiscal 2022.

Margins are expanding, and its profits are soaring

Palo Alto's top-line growth is cooling in this challenging market, but the company's operating margins are expanding as it generates more revenue from higher-margin software and services (instead of its lower-margin hardware appliances), reduces supply chain costs, slows down hiring, and streamlines its customer support division.

Data source: Palo Alto Networks.

That's why Palo Alto's adjusted EPS rose 76% in fiscal 2023. It expects its adjusted EPS to grow 39% to 41% year over year in the first quarter of fiscal 2024 and to rise 19% to 22% for the full year -- which easily beats the consensus forecast for 12% growth.

Palo Alto has also remained profitable based on generally accepted accounting principles (GAAP) for five consecutive quarters. The company generated a GAAP net profit of $440 million for the full year, compared to its net loss of $267 million in fiscal 2022. Those stable profits put it in the same league as Fortinet and set it apart from unprofitable cybersecurity companies like SentinelOne and Zscaler (ZS 1.28%).

Palo Alto's expanding operating margins also boosted its adjusted free-cash-flow (FCF) margin from 33% in fiscal 2022 to 39% in fiscal 2023. It expects to maintain an adjusted FCF margin of 37% to 38% in fiscal 2024.

So where will Palo Alto's stock be in a year?

Stable growth, expanding margins, and rising GAAP profits should combine to make the stock an appealing investment even as interest rates stay elevated. At $230 per share, it still looks reasonably valued at 43 times this year's adjusted earnings. 

For reference, Fortinet, which faces a tougher slowdown, trades at 38 times forward earnings. CrowdStrike, which is growing faster than Palo Alto but generates much slimmer profits, trades at 60 times forward earnings.

Therefore, I believe Palo Alto's stock will rise even higher over the next 12 months. The road ahead might be bumpy, but it remains one of the best long-term plays on the growing cybersecurity market.