On the one hand, Palo Alto continues to fire on all cylinders, with excellent execution quarter after quarter. Current operating margin trends are pacing well, increasing to 13.9%, with the company well positioned to meet (if not exceed) the current non-GAAP operating margin target of 22% to 25% by year-end 2016, in our view. But on the other hand, we cannot look past the rich valuation and high investor expectations… We favor Palo Alto Networks’ technological and price disruption, creating a new product category of Next-Generation Firewalls and changing the pricing model for the industry. We highlight that the company is currently in a hyper-growth phase which we expect to stabilize at the 30% level on an annual basis. However, growing competition and valuation considerations keep us at a Neutral.
Palo Alto reported third quarter results that exceeded all financial metrics across all product categories and geographies. Providing the fuel for outperformance, Billings grew 55.7% year over year to $302.2 million versus the Street’s $281.8 million estimate. Numerous factors remain powerful drivers relating to our bullish thesis: 1) Continued acceptance of its highend appliances (PA-7050 & 3060), 2) Stellar growth in recurring subscription revenue (contributing to better margins), 3) Upward revised guidance, 4) Continued scaling of the business supported by its commitment to exit FY16 with operating margins in the low-20% area. Palo Alto has announced a small acquisition of CirroSecure focusing on securing SaaS applications.
Palo Alto remains very confident in its ability to gain share in the network security market and Wildfire penetration continues to grow at a rapid clip. In addition, the company is seeing solid initial take-rates in its Traps endpoint solution and new product introductions like Auto Focus (Threat Intelligence Services) are experiencing early customer interest. We remain confident in Palo Alto’s ability to grow billings at close to a 40% pace in its next fiscal year (versus the Street forecast of 34%). And we continue to think that Palo Alto exhibits the best combination of growth and free cash flow in the security space.
Palo Alto reported strong third quarter results with revenue, deferred revenue, and EPS above consensus estimates driven by higher subscription attach rates, new customer wins, an increase in larger deals, and continued success of WildFire.
Furthermore, the number of paying WildFire customers increased to 6,000 versus 5,000 in the prior quarter, and all of Palo Alto’s top 25 customers have spent over $8 million in lifetime value with the company versus $5 million in the year ago quarter. These data points highlight Palo Alto’s ability to upsell into its installed base and sell additional services, which remains core to our positive thesis. As the company focuses on acquiring more customers, management reiterated its guidance to exit Fiscal year 2015 with a low teens operating margin.
We believe that Palo Alto Networks’ unique technology platform and long-term corporate strategy, as well as management’s ability to execute its vision, position the company to continue to gain share in the network security market driving strong, sustained revenue and earnings growth. Furthermore, we believe that the increased adoption of software defined networking could broaden the network security market to more East-West traffic in the datacenter.
As far as the valuation is concerned, Palo Alto comes with a $13.7 billion market cap. The stock also now trades at about 107 times expected fiscal 2016 (July end) earnings per share.
Palo Alto shares were last seen up 4.4% at $167.82 in Thursday’s morning trading. Its 52-week range is $72.00 to $169.84, with that 52-week high being hit on the same day — for an all-time high too. Also, the consensus analyst price target on Palo Alto was $167.17 ahead of earnings.
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