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Summary

  • The recent sell off could be a buying opportunity for nimble traders.
  • The shares appear about 50% overvalued.
  • The technology appears relatively useful and nascent.

The momentum names have been taking a beating lately, and Jim Cramer said on the Monday morning CNBC show that if he were still in the game that he would be purchasing shares of some of these momentum names. Splunk (NASDAQ:SPLK) is a momentum name, and from a pure technical perspective, it would likely be wise to accumulate shares once the technicals signal accumulation.

From a fundamentals perspective, the platform appears to be useful. The integration with key applications from leading vendors suggests Splunk has staying power. Also, the revenues growth rate is phenomenal. Additionally, the balance sheet is strong.

With that stated, I think the shares are overvalued. I think the intrinsic value is closer to $26 per share, and that currently the shares are priced for perfection, which doesn't exist.

Recent Developments

  1. Version 3.0 of the Splunk App for Microsoft Exchange will be generally available on April 15, 2014.
  2. Jim Cramer, one of the all-time great investors, is bullish on Splunk's fundamentals.
  3. Splunk Enterprise was selected as the Best Enterprise Security Solution in SC Magazine's 2014 Excellence Awards.
  4. Splunk Enterprise 6 has won the Best Cloud Management Product award at the inaugural UK Cloud Awards.
  5. Splunk and Tableau Software (NYSE:DATA), a global leader in rapid-fire, easy-to-use business analytics software, announced a strategic alliance to leverage the power of visual analytics and real-time machine data.
  6. Splunk App for NetApp Data ONTAP is available. The app provides comprehensive visibility into the operational health of NetApp Data ONTAP storage systems.

Analyst's Note

Splunk develops and sells software that enables customers to collect, index, monitor, and analyze large amounts of data generated by a wide variety of systems, applications, and devices. The company is organized into two business segments: License contributed 66% to revenue in fiscal 2014, while maintenance and services contributed 34%. The firm is not yet profitable.

Splunk Enterprise 6 is available for download; the platform is based on the idea of operational intelligence for everyone. It comes with several apps, which are available for download, that interact with services and apps from other providers, such as AWS and Citrix XenDesktop. I may be losing a portion of the functionality by using Enterprise 6 on a Mac rather than on a Windows-based PC.

After a few hours of setting up Enterprise 6, I was able to gain some operational intelligence. Granted because of my inexperience the intelligence was limited, but what I gathered from the platform is that some people think Goldman Sachs (NYSE:GS) "sucks" and that we are in a historic bull market. Specifically, in December of 2011, the S&P 500 (NYSEARCA:SPY) posted its best December performance since 1991. Additionally, the indexes started to sell off with 10 minutes to go in 2010.

Simply stated, once I found the "stocks" app, I was able to generate data that was relatively meaningful. But the analytic capabilities of the investment recommendation portion of the app may be of limited use based on the extensive (soon to be borderline excessive) training and experience that I have earned. If I worked with the developers, the app could be more useful. Overall, I'm substantially less than certain about how to use Enterprise 6 and the data that it generates, but I get the impression that it is useful and nascent.

For the year ending (in millions of dollars except per share data):

2010-01

2011-01

2012-01

2013-01

2014-01

2015-01E

2016-01E

Revenue

35

66

121

199

303

424

594

Gross profit

32

60

109

178

267

373

520

Operating income

-7

-3

-9

-22

-78

-85

-104

Net income

-7

-4

-11

-37

-79

-106

-143

Diluted EPS

-0.22

-0.52

-0.46

-0.75

-0.84

-0.94

Revenue growth of 40% in 2015 and 2016 is anticipated to be driven by the continued implementation of big data solutions in the enterprise and SMB spaces. Management is likely to continue to reinvest those revenues into marketing, selling, and general administrative expenses. Consequently, Splunk is forecasted to continue generating operating losses in 2015 and 2016. As the firm nears the $1B of annual revenue level, operating income may move closer to the breakeven level.

2010-01

2011-01

2012-01

2013-01

2014-01

2015-01E

2016-01E

Asset turnover

1.59

1.69

1.48

0.51

0.29

0.37

0.43

Financial leverage

-0.63

-1.05

-1.95

1.64

1.32

1.5

1.5

Current ratio

1.27

1.13

1.01

3.22

4.77

3.60

2.83

The liquidity appears ample and the solvency position seems solid. I think revenues growth outpaces assets growth. The financial leverage ratio is expected to stay roughly inline with peer companies. Also, some of the cash raised in the equity offering is expected to be used, which results in a declining current ratio.

For the year ending (in millions of dollars):

2010-01

2011-01

2012-01

2013-01

2014-01

2015-01E

2016-01E

Cash provided by operations

1

8

15

47

74

102

143

Capex

0

1

8

9

9

12

15

FCFF

1

7

7

38

65

90

128

FCFE

1

7

9

36

65

90

128

I think we continue to see strong cash flows growth driven by revenues growth. Obviously, management will have to invest in working and fixed capital. But free cash flow to equity should cross the $100M mark in fiscal 2016. I'm not forecasting an additional equity offering in the next two fiscal years.

Splunk appears to have long-term staying power as the firm is forecasted to generate annual revenue over $500M during fiscal 2016. The firm collected an estimated $361M in cash from customers during fiscal 2014. While the return on capital is negative near-term, as Splunk gains traction in the market, the return on capital will increase.

General Risks

  1. The share price is likely to remain volatile and investors could lose a portion or all of their investment.
  2. Investors should judge the suitability of an investment in Splunk in light of their own unique circumstances.
  3. A decline in the global economic growth rate and/or a decline in the pace of economic growth in the United States could adversely impact the results of operations and the share price.
  4. The technology industry is characterized by rapid technological change, which could materially adversely impact the results of operations.
  5. Competition in product development and pricing could adversely impact performance.
  6. Incorrect forecasts of customer demand could adversely impact the results of operations.
  7. Higher interest rates may reduce demand for Splunk's offerings and negatively impact the results of operations and the share price.

This section does not discuss all risks related to an investment in Splunk.

Portfolio & Valuation

(click to enlarge)

Splunk is in a bear market of at least intermediate-term degree. The share price hasn't formed a technical bottom yet, which suggests that the shares are likely to continue to trade at lower prices. So the play here is to wait for a bottom.

Estimated intrinsic value

Forward price multiples based on base case intrinsic value

Optimistic

$35.51

P/E: -31.09

Base case

$26.17

P/S: 7.77

Pessimistic

$11.21

P/BV: 4.31

P/CFO: 32.38

Using a fundamentals-based model that incorporates the company's lifecycle stage, it appears that Splunk is overvalued. A 50% decline from the current share price would put shares closer to inline with the estimated intrinsic value. At 21.7 times sales and 9.4 times book value, shares of Splunk are priced for perfection.

Source: Splunk: Great Fundamentals But Priced For Perfection