Palo Alto Networks' Pricey IPO

Jul.20.12 | About: Palo Alto (PANW)

Palo Alto Networks (PANW) went public on Friday trading above the IPO price of $42. The company originally filed for a range of $34 to $37. See S-1 here. The initial trade was above $55 for a 30% gain.

Palo Alto Networks pioneered the next generation of network security with an innovative platform that allows enterprises and service providers to secure their network and safely enable the increasingly complex and rapidly growing number of applications running on their networks. According to Gartner the company has done a good job of marrying enterprise firewall and intrusion prevention system technologies into a single, tightly integrated solution.

Competitive Market

The company serves the crowded enterprise network security market that consists of Firewall, Intrusion Detection and Prevention, and Virtual Private Network. According to IDC, the market is expected to grow from $10B in 2012 to $12.5B in 2015.

It competes with companies such as Cisco Systems (CSCO), Checkpoint Software (CHKP), and Juniper Networks (JNPR). The company is greatly reliant on convincing customers to move over to its next generation firewall and away from legacy platforms from the above vendors. With the total market only having average growth, Palo Alto as the sixth largest firewall vendor must rely heavily on taking market share.


As of April 30, 2012, the company had more than 7,750 end-customers in more than 100 countries. The revenue mix though is decided focused on the Americas with 62% of total revenue. EMEA has 26% of revenue with only 12% in Asia Pacific and Japan.


The company has seen significant growth over the last few years. Revenues for the 9 months ended April 30th were $179.5M, representing year-over-year growth of 129%.

More importantly the company has been very cash flow positive thanks to deferred revenue hitting $117M. This has helped free cash flow hit $47M for the first 9 months of this fiscal year.

Earnings though are less impressive with adjusted net income of only $12.5M so far this fiscal year. The company had GAAP losses for fiscal 2009, 2010, and 2011.

IPO Pricing

The company sold 6.2M shares in the IPO with only 4.7M sold by the company. It expects to receive just under $200M from the offering. The over-allotment option will add another 930K shares if exercised.

The most concerning part of the prospectus is the company lists 64M diluted shares in the April 30, 2012 report. On top of that, the company lists 67.5M shares outstanding after the 7.1M offering (including over-allotment). Unfortunately this excludes over 14.4M of common stock options issued with exercise prices considerably below the IPO price. These totals make the diluted shares at over 80M. That places the market value at over $4B.


This IPO is another example of a fast growing company going public at very expensive prices. This follows IPOs such as Millennial Media (MM) and Splunk (SPLK) that priced at similar ratios and have traded mostly down since.

After market investors will be better suited to follow the stock and wait for the valuation to settle down after a few quarterly reports. Typically the hype of the IPO process doesn't live up to the reality of real world when the company reports 100% revenue growth yet discusses less robust results in the future.

Disclosure: I am long CSCO.

Additional disclosure: Please consult your financial advisor before making any investment decisions.