Its annual recurring revenues (ARR) are growing strongly, while Splunk guides to grow its revenues with a compounded annual growth rate of 40% into fiscal 2023.
Having said that, the company continues to struggle to turn a GAAP profit, and its valuation is sky high at more than 11x forward sales.
Strong Rally Post Results
Splunk is a software-as-a-service (‘SaaS’) platform that investigates, monitors and analyzes data at scale.
The bullish thesis is that data-driven decision-making matters more than ever before and even if the financials are not yet representing a strong path towards profitability, that this irrelevant for now. At some point in time, strong GAAP profits should emerge.
Hence, here are the two sides of the story. One, its valuation is red hot (more on this later). The other side, is that Splunk is successfully enrolling many tier-one companies into its vision.
Indeed, Splunk has made a strong partnership with Google Cloud (GOOGL) - Get Report, and has enrolled as customers Zoom (ZM) - Get Report, giving Zoom visibility into potential security threats at machine speed, and Shopify (SHOP) - Get Report, giving Shopify high observability standards as Shopify grows in scale and complexity.
The Brightest Spot in Its Results
As a reminder, Splunk is shifting from perpetual license sales to a software-as-a-service model. This is dampening its GAAP revenue growth rates, which was only up 2% year-over-year, but longer-term, this strategy should increase the company’s visibility.
Moreover, Splunk points investors towards its total Annual Recurring Revenue (ARR), which normalizes for the impact from cloud mix, as well as contract duration, and this metric was up 52% compared with the same period a year ago.
Meanwhile, Splunk deemed it necessary to withdraw its guidance, as it believes that the more customers adopt its cloud service, the more variable its revenue will be for fiscal 2021.
Even though more cloud customers are beneficial long-term to Splunk, as Splunk bills these customers annually rather than upfront, this nevertheless negatively impacts its near-term results.
For Q1 2021 Splunk’s cloud bookings reached 44% of its total software sales, which is not only meaningfully up from the 35% cloud contribution in Q1 2020, but it now puts Splunk substantially closer to its fiscal 2023 target of reaching 60% cloud contribution.
Valuation - Expensively Valued
As already noted, the stock rallied strongly on the back of these results, as the market is viewing all cloud stocks as ‘new era’ companies, reminiscent of the dot.com period. Put another way, investors are clamoring and willing to pay a huge multiple to participate in this new and exciting new world.
Splunk wants investors to appreciate that its ARR is growing at 52% year-over-year. But this is from relatively small numbers. Note that before its fiscal 2021 guidance was pulled, Splunk was guiding its fiscal 2021 revenues to reach $2.6 billion. This puts its present market cap at north of 11x forward sales.
Splunk expects to grow its revenues with a compounded annual growth rate of 40% into fiscal 2023 and that its historical cash flow yield of 20% should be similar as it gets closer to fiscal 2023.
Specifically, by fiscal 2023, it is expecting to see its revenues reaching somewhere between $4 billion and $5 billion, with close to $1 billion in cash flow from operations.
The Bottom Line
As is the case with many stocks at present, any cloud-name positioned as a Software-as-a-Service platform presently trading at less than 15x sales is being viewed as a value investment. But personally, I can not see how anyone can make the claim that buying companies at such a premium can lead investors towards any upside potential.