Palantir Stock: Is the Incredible Valuation Justified?

2021 seems like a long time ago because a lot has happened since then. But just three years ago, economic stimulus sent stocks to the moon, only to crash back to Earth in 2022. Enthusiastic investors pushed stock valuations through the roof. For example, the popular lending platform Upstart Holdings it peaked at a market cap of $32 billion, trading at 48 times sales. The company is worth $3.7 billion today, at a more modest valuation of 7 times sales. The upstart didn’t deserve the premium; however, some companies are.

Amazon it has traded at a premium valuation for decades and investors have been handsomely rewarded up to 7,000% over 20 years. But what do you say? Palantir (PLTR -2.80%)? Is the premium assessment justified?

There’s a lot to like

When Palantir stock traded below $10 per share in 2022, investors criticized the company for not being profitable, using too much stock compensation and struggling to grow commercially. These concerns have been put to rest. Here are the graphs that tell the story.

Palantir reported record operating and net income in the second quarter of 2024. As you can see below, both grew steadily and significantly.

PLTR Operating Income Data (Quarterly) by YCharts

Net income of $134 million came in at an impressive 20% margin, while operating margin was 16%, which is also solid and growing rapidly.

Share-based compensation (SBC), which dilutes existing shareholders by increasing the number of available shares, is declining. As shown below, growth in outstanding shares has largely stabilized as SBC has declined.

PLTR Stock Diluted Moving Average Data (Quarterly) by YCharts

The decline is even steeper when measured as a percentage of revenue. SBC for the last 12 months represented 20% of sales; it was 33% in 2022.

Finally, the company’s commercial customer and sales growth is impressive. Palantir has launched its artificial intelligence (AI) platform AIP and is aggressively selling it. The program aggregates data from multiple sources and allows users to use the data to make smarter decisions. For example, a distribution company that expects downtime at one location (perhaps severe weather is forecast) can use AIP to determine the best alternatives for getting product to customers, as well as the impact on revenue and margins.

Commercial revenue reached $307 million in Q2, with global growth of 33% year-over-year and growth of 55% in the United States. Government sales were also strong at $371 million, up 23 percent.

It’s easy to see why investors are exuberant, but has it gone too far?

Palantir investors should be cautious

Palantir shares have risen 520% ​​since the start of 2023, reaching an all-time high of $40 per share. Investors who bought then are enjoying tremendous gains, but new investors should be extremely cautious. The price-to-sales ratio, shown below, is approaching 2021 tech bubble levels and is significantly higher than other fast-growing tech companies.

PLTR PS report data by YCharts

CrowdStrike and Cloudflare they are reasonable comparisons as they also have gross margins of over 75% and revenue growth of 30% or more. They trade at 21 and 19 times sales respectively. CrowdStrike’s valuation peaked at 29 times sales before the outage incident.

To put that into perspective, Palantir would need to grow its 2023 sales at its current rate of 27% by the end of 2026 before the valuation falls to 20 times sales at the current price. Even if the company is performing flawlessly and the stock market and economy remain strong, investors still do not have a margin of safety. If 2021 has taught us anything, it’s that ratings matter in the long run. Palantir is a great company, but the price is too high for my money.