Splunk (SPLK) is a growing data analytics software company that is working to sign new enterprise customers while also expanding wallet share through product extensions, explains Joseph Bonner, an analyst with Argus Research — a leading independent Wall Street research firm.
Given Splunk’s presence in a fast-growing market, we believe that much of its success will depend on execution. New CEO Gary Steele hit the ground running in his first quarter with the company, setting out new expense policies that led to a surprising increase in profitability.
While the market focused on the company’s reduced recurring revenue guidance, we note that Splunk raised its overall revenue and non-GAAP operating margin guidance for FY23.
The company has in recent years posted ugly financials due to its business model transition. However, we have seen both Adobe and Autodesk move through the same transition from perpetual licensing to ratable licenses and come out as stronger, faster-growing, and higher-margin companies.
Splunk appears to be emerging from its business transition. For now though, the company must grapple with customer fears of recession that may slow or cut buying decisions in the near term.
Although the company’s original focus was IT operations management, former CEO Doug Merritt prioritized expansion into cloud software computing. While we expect this to continue, in line with secular trends, new CEO Gary Steele is likely to focus on the expansion of the Splunk observability platform into IT network security, in line with his own background.
The company is also expanding into the adjacent area of application performance management, often driven by customer requests. We think that Splunk’s rapid innovation in enterprise IT operations management (ITOM) and security information and event management (SIEM) will be a key factor in future revenue growth.
As the company moves through its business model transition, traditional valuation metrics may be skewed. Although we are loath to play M&A roulette, we believe that Splunk is exactly the kind of company that could become an acquisition target for a larger enterprise software firm.
Splunk reported results for fiscal 2Q23 (ended July 31) on August 24 after the market close. Splunk beat the high end of its revenue guidance range by $44 million and the consensus forecast by $52 million. With the 2Q results, Splunk also increased its FY23 revenue guidance for the second time, this time by $60 million at the midpoint to $3.375 billion, implying growth of 26%.
We are raising our FY23 non-GAAP EPS estimate to $1.02 from $0.03 and our FY24 forecast to $1.49 from $0.71. While revenue growth remains strong, Splunk is also looking to drive cloud gross margin higher as its cloud services scale. Our long-term EPS growth rate forecast is 30%.
SPLK shares have traded between $85 and $177 over the past year, and are currently near the bottom of this range. The trailing EV/revenue multiple of 5.6 is below the low end of the five-year historical average range of 8.3-11.4.
On a forward basis, the EV/revenue multiple of 4.7 is 25% below the peer average, compared to an historical average premium of 6%. We note that as the company moves through its business model transition, traditional valuation metrics may be skewed. We are maintaining our "buy" rating with a revised target price of $125.
