Palo Alto: Fast Growth in Security

12/14/2015 8:00 am EST


The computing network threat environment has never been more toxic, with well-publicized security breaches of large businesses as well as government agencies almost every week by nefarious state and non-state actors, explains Joseph Bonner, analyst with Argus Research.

Palo Alto Networks (PANW)—whose integrated security platform provides in-depth network protection—is a next-generation leader in the enterprise security space.

While superior technology is at the core of the company’s value proposition, we also expect growth to be driven by market share gains, sales of additional products to existing customers, and international expansion.

The company is currently seeing its fastest growth in the US, though it should be able to develop its international sales force over time. We also like management’s balanced focus on revenue growth and increased profitability.

We see customer lifetime value as a key performance indicator for Palo Alto in that it highlights the company’s ability to generate more recurring spending from existing customers.

In the first quarter of fiscal year 2015, a customer had to spend a minimum of $6.1 million in lifetime value to be in the company’s top 25 list.

In the first quarter of fiscal year 2016, a customer had to spend a minimum of $10.1 million to reach the top 25, a stunning 66% increase.

We are raising our 2016 fiscal year EPS estimate to $1.72 from $1.64 and our 2017 fiscal year forecast to $2.70 from $2.42. Our long-term earnings growth rate forecast is 50%, from a low base.

The forward enterprise value/sales multiple of 10.5 is 100% above the peer average, greater than the average premium of 84% over the past two years, but well below the two-year high of 15.

While Palo Alto trades at lofty multiples, the company is also growing substantially faster than most competitors, suggesting that it is both taking market share and generating more revenue from existing clients.

We are raising our rating to buy and setting a target price of $227, implying a potential gain of 24% from current levels. Palo Alto could also become an acquisition target for a larger tech player.

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