Catalysts to drive this shares of this cyber security company higher? Let me count them. First, any time Iran, China, North Korea, Russia, or the United States reports a cyber attack, CEOs all over the world stop to think, “Hmm, do we need more protection.” If a CEO has that thought he or she is likely to call the company’s current security vendor. Palo Alto Networks has a nearly 100% customer renewal rate and billings have climbed $2.86 billion in fiscal 2018 from $771 million in fiscal 2014. If a company doesn’t have a cyber security vendor, it’s likely to look first at one of the best know names in the field. At the end of February 2019,Palo Alto Networks had 59,000 customers versus a customer base of 15,000 in February 2014. Second, the transition to the cloud from internal storage and networking has meant that the access points into a system that need defining have multiplied. More business for Palo Alto Networks with existing customers and a route for the company to expand from its initial focus on firewall security to cover security tide the customers data center to include mobile workforces, cloud environments, and applications. Third, the transition to 5G mobile networks from 4G will increase the number of mobile and Internet of Things access points that need to be secured and astronomically multiply the number of disparate devices with access of corporate networks and clouds. Palo Alto’s Cortex XDR, announced in February 2019, is a cloud-based data analytics platform that uses machine learning to protect and resolve security issues across networks, endpoints, and clouds through behavior analytics and machine learning.
With all that going for the stock, why were Palo Alto Networks shares down 22% from $250.77 on May 3 to $195.54 on June 7? (They have since recovered to $204.93 on June 27.)
The stock fell after third quarter billings rose just 13% year over year to $821.9 million, below analyst estimates of $872.6 for the quarter. Analysts wheeled out their standard worry that Palo Alto Networks’ transition to cloud-based subscriptions from annual product contracts would lead to a delay in billings. What we’ve seen, in actuality, at companies that include Adobe Systems (ADBEWealth Strength IndexADBE is Extremely Down and trending Down) and Salesforce.com (CRM) is that successful transitions to cloud-based subscriptions from annual product contracts leads to an acceleration of revenue growth–if the transition is managed efficiently. If it is, the cloud-based model allows leaders in a sector to increase margins–Palo Alto Networks already shows gross margin of 72%–and to increase market penetration. That means that the drop after the disappointing quarterly results is a buying opportunity (one I’ve been waiting for.) Morningstar calculates that the shares are 35% undervalued on projected growth in gross margins to 74% in fiscal 2023 and an increase in operating markets to 13% in fiscal 2023 from a 5% loss in fiscal 2018.