By pretty much all accounts, the 2022 fiscal year is proving to be a rather difficult year for shareholders of Palantir Technologies (NYSE:PLTR). As of this writing, shares are down roughly 61.4% for the year, with their loss significantly greater than what the broader market has experienced. This plunge has been driven by concerns over growth and profitability. Most recently, on November 7th, the stock tanked 11.5% for the day, driven by an intensification regarding these concerns. At some point, continued declines might yield a scenario where buying the stock could become attractive. I don't believe we are there quite yet. Having said that, the picture is getting more appealing by the day and I don't believe the stock needs to fall much further to warrant a meaningful change in sentiment. Given where the stock is now relative to fundamentals, I am becoming more hopeful, leading me to increase my rating on the company from a 'sell' to a 'hold'.
More pain
On November 7th, before the market opened, the management team at Palantir Technologies announced financial results covering the third quarter of the company's 2022 fiscal year. Leading up to the quarter, there were concerns over what the company's future might look like. In an article that I published at the end of October, I reiterated my 'sell' rating on the stock, acknowledging that shares were getting cheaper but were not yet cheap enough to warrant meaningful enthusiasm. My biggest concern besides the valuation of the company involved potential weakness on the commercial side of the business. In its prior goal to grow revenue at an annual rate of about 30% through 2025, a goal that has since been withdrawn from the company's discourse, management painted the commercial side of the business as being a significant driver of growth moving forward. But given the state of the economy, with companies less likely to allocate significant amounts of capital toward nonessential functions, I felt as though this part of the enterprise might struggle.
So far, my 'sell' rating on the stock has proven to be pretty solid. In the several days since my last article's publication, shares have plunged by 18.8% compared to the 2.4% decline seen by the S&P 500. And since I first rated the stock a 'sell' back in August of this year, shares are down 24.1% compared to the 7.7% decline seen by the broader market. This weakness, which has come about in a relatively short period of time, can be driven by a number of factors. The most obvious is that buying into any growth company can be risky. Even when impressive growth is posted, a failure by management to achieve the level of growth anticipated by analysts can still result in pain for shareholders.
The most recent example of this can be seen by looking at financial results covering the third quarter. Revenue for the company came in at $477.9 million. This represents a 21.9% increase over the $392.1 million reported the same quarter last year. Normally, you would expect this surge in revenue to push shares up higher. To top things off, sales actually came in higher than analysts' expectations to the tune of $2.9 million. While this is great to see, the company generated a loss per share of $0.06. In addition to coming in worse than the $0.05 per share loss the company generated the same time last year, the figure also missed analysts' expectations by $0.01 per share. Although these may seem like small numbers, the loss per share the company generated in the third quarter translated to a net loss of $123.9 million. That's worse than the $102.1 million reported the same quarter one year earlier.
Of course, there were other profitability metrics that showed weakness for the company. The company's adjusted net profit, for instance, went from $82.1 million in the third quarter of 2021 to $16.1 million the same time this year. Operating cash flow more than halved from $100.8 million to $47.1 million. Even if we adjust for changes in working capital, it would have fallen from $106.9 million to $97.6 million. Meanwhile, EBITDA fell from $119.2 million to $87.2 million, while adjusted operating income dropped from $116.1 million to $81.3 million. By all accounts, the company's bottom line results worsened year over year. And those declines were instrumental in pushing down almost all of the company's bottom line results for the first nine months of the year as a whole. The only exception was the adjusted operating cash flow, which rose from $292.2 million to $339.1 million.
Those who are bullish about the company could justifiably argue that growth is positive and that's all that matters. But the fact of the matter is that the company is showing signs of weakness. On the positive side, total government revenue generated by the company during the third quarter came in quite strong. This grew by 26% year over year, rising from $218 million in the third quarter of 2021 to $274 million the same time this year. Management pointed out that commercial revenue in the US rose an impressive 53% year over year. But when you consider all global commercial revenue, the increase was a much more tepid 17%, with the figure rising from $174 million to $204 million.
When I last wrote about the company in late October, I pointed out how financial results had been favoring commercial revenue more over the past few quarters. In the first half of 2022 as a whole, commercial revenue accounted for 43% of overall sales compared to the 34.9% seen only one year earlier. In this latest quarter though, commercial revenue fell from 44.4% last year to 42.7% this year. I do find it funny that, in their latest investor presentation, management pointed to no fewer than five specific use cases with commercial clients where the company saved said clients a significant amount of money. I have no doubt that those testimonies are true. But it does show that management is trying to control the narrative regarding the commercial side of the enterprise at a time when it is certainly underperforming relative to expectations.
This is not to say that things are awful for the company. Sales increased not only because of a rise in customer count, a rise from 304 in the second quarter of this year to 337 in the third quarter but also because of higher average revenue for many of its clients. In the trailing 12-month period ending in September of this year, the average revenue per top 20 customers generated by the company totaled $48 million. That was up 15% compared to the $41 million generated the same time one year earlier. The company also saw billings climb 47% year over year, increasing from $347 million to $509 million. This was instrumental in pushing up the total remaining deal value by 14% from $3.6 billion to $4.1 billion.
But again, this is where you run into problems when it comes to growth investing. A 14% increase in remaining deal value and a 47% increase in billings would normally be considered a home run for many companies. But in the past, management had been forecasting annual growth in sales of at least 30% through the 2025 fiscal year. Admittedly, management has stepped back from that guidance in the past couple of quarters. But that alone has caused a great deal of pessimism to form regarding management's credibility. To the company's credit, it is still forecasting revenue this year of between $1.90 billion and $1.902 billion, even though it's anticipating a $6 million impact caused by foreign currency fluctuations. The company also increased guidance for adjusted operating income to between $384 million and $386 million compared to the $341 million to $343 million previously anticipated. Clearly, though, the weaker results on the commercial side and the poor bottom line results provide greater weight to investors than these near-term guidance adjustments.
One thing I have come to notice over the years is that some analysts and investors become so invested in a particular narrative that the thought of changing their outlook on a company might be unthinkable. I would like to think of myself as being immune to that. Not because of some superiority but, instead, because I have traveled down that path before and made costly mistakes as a result. At the end of the day, the market humbles us all at some point. What I do believe is that, while Palantir Technologies may not be a great prospect right now, it is getting close to that point. Following the decline in share price the company experienced, I decided to revalue it under the assumption that management can still grow revenue at a 30% rate per annum for the next few years. I also took various implied price to operating cash flow margins and EV to EBITDA margins to figure out what kind of trading multiple we are looking at during each year covered.
In the table above, you can see my thoughts on the matter. If management can grow the company's revenue at 30% per year for the next few years, the stock starts to look rather appealing starting in 2023. By 2025, shares look very cheap. In the table below, you can see the same analysis repeated. The only difference is that it assumes a much more modest growth rate of 20% per year. Even those who are bearish about the company might find it difficult to justify a lower growth rate than that. Even in that case, I wouldn't argue that the stock is overvalued using estimates for next year. And by 2025, I would certainly make the case that shares should be undervalued by a reasonable amount.
Takeaway
Based on the data provided, I will say that I understand why investors remain pessimistic regarding Palantir Technologies. Having said that, I do think the stock has fallen significantly and is at risk of falling too far. I'm not yet at the point where I could consider myself bullish about the company. I do think management has certainly damaged their credibility to some degree and I don't think the stock is cheap enough yet to account for that or to account for continued weakness on the commercial side of things. But given where shares are now, I feel comfortable increasing my rating on the company from a 'sell' to a 'hold'.
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