The Source of My Frustration
In my previous Palantir (NYSE:PLTR) article I made this point:
Therefore, before adjustments, PLTR lost about $0.09 per share. After adjustments, PLTR earned $0.06 per share.
Now, it should already be clear that the adjustments are almost entirely due to stock-based compensation and related taxes. And, in turn, simple math tells us that stock-based compensation consumed $0.15 of profits per share.
I voiced my frustration like this:
In other words, given that stock-based compensation was $0.15 per share for Q4 2020, and also because these expenses pushed PLTR from profits to a loss, I fully expected to see some kind of clarity. Instead, no forward guidance was provided at all.
At the time, I reported that I had reached out to PLTR Investor Relations but didn't get a response. However, in this article, I'm going to provide an update based on several responses provided by Rodney Nelson, Head of Investor Relations at PLTR.
GAAP EPS Correction
First, I want to point out that I made a small mistake in my calculations. Here's what Mr. Nelson provided:
You’re correct that adjusted EPS for Q4 was 6 cents. One clarification is that GAAP diluted EPS was ($0.08), not ($0.09)
In other words, PLTR lost $0.08, not $0.09, so the results were better than I reported by an extra penny. Given the number of shares, this is not trivial. My calculation was thrown off by other adjustments to expenses. For added clarity, I suggest you look at PLTR's Q4 2020 Press Release.
Source: PLTR
The First Response
My first specific question was this: Can you provide any guidance on the size and scope of stock-based compensation in 2021, and beyond?
Mr. Nelson responded:
We have not provided guidance on stock-based compensation, but a couple thoughts worth sharing: we are focused in the near term on managing dilution, which we believe will be very small on an annual basis. In terms of SBC expense, SBC is a meaningful and important component of our compensation, as it provides our employees a heightened ownership mentality and incentive to create long term value for the business. We are focused on managing this expense over time, but there is a natural spike in these expenses for most companies following their public listing given many of these vehicles are vesting for the first time (it is coming for certain equity compensation vehicles to vest in concurrence with a liquidity event like public listing).
I read this very closely, multiple times. There's a lot to unpack.
- PLTR is not providing any guidance on stock-based compensation. Therefore, full stop, we cannot directly get the answer we seek. Instead, investors will have to make assumptions. I'll return to this later.
- PLTR is very aware of dilution. In addition to the expense, there is a focus on minimizing the impact to existing investors. There is clarity here regarding long-term and short-term plans, even if we don't have specifics.
- PLTR is making a point that I made in previous articles. Namely, PLTR is treating stock-based compensation as a way to invest in employees, not just enrich employees and leadership. Time will tell if this pays off, and if this is entirely truthful, I'm willing to play along for now.
- PLTR acknowledged the "expense spike" seen in 2020, and that it's quite natural because of the public listing. Especially with a direct public listing, much like an IPO, it's all about liquidity.
This response is reasonable and provides a lot of color. And, while this doesn't thrill me because I want hard numbers, I can appreciate the added details. For example, again, I'm hearing that PLTR really does have a long-term vision.
You'll be happy to know that I followed up with Mr. Nelson and pressed for more information.
The Second Response
I asked for any and all details related to stock-based compensation, "SBC," as indicated in the first response above. Although I was unable to get any forward-looking statements regarding stock-based compensation, Mr. Nelson was able to share some things available in public.
First, Mr. Nelson pointed me to Note 12 in PLTR's 10-K. Here's how he followed that up:
...spells out how many options and restricted stock units are outstanding/vested/unvested, as well as associated expense we expect to recognize over the life of the underlying securities (bearing in mind that these securities need to be exercised and/or vest over time before they will be recognized as expense, hence the associated duration commentary).
Note 12 starts on page 142 if you wish to really deep dive, and parse everything. I've extracted three selections based on what's included in PLTR's SBC (i.e., options, restricted stock units).
- "In September 2020, prior to the Direct Listing, the Company’s Board of Directors approved the 2020 Equity Incentive Plan (“2020 Plan”). The 2020 Plan provides for the grant of ISOs, NSOs, restricted stock, RSUs, SARs, and performance awards to the Company’s employees, directors, and consultants. A total of 150,000,000 shares of the Company’s Class A common stock were initially reserved for issuance pursuant to the 2020 Plan."
- "As of December 31, 2020, the unrecognized expense related to options outstanding was $1.1 billion, which is expected to be recognized over a weighted-average service period of 8.06 years."
- "The total grant-date fair value of RSUs vested during the year ended December 31, 2020 was $531.9 million. As of December 31, 2020, the total unrecognized stock-based compensation expense related to the RSUs outstanding was $873.5 million, which the Company expects to recognize over 3.2 years."
There is more, and there are too many nuances to fit into this article. That said, $1.1B over 8.06 years means $136M per year, or $34M per quarter. And $873.5M over 3.2 years means $166M per year, or $41.6M per quarter. That's at least $75M per quarter by my back-of-napkin math, for at least the next three years. To be conservative, I'd push this up to $90-100M per quarter.
I want to be very clear about something. I am not trying to be exactly right. It's impossible to be precise even with this data. I'm looking for a ballpark. Furthermore, I would expect that I'm missing some meaningful expenses. My point is that I'm very likely understating the quarterly expense, but at least we now have something to use going forward.
It's clear that there's a lot to pay out over the next several years. Mr. Nelson provides some important insights on this:
A couple other general comments – the price of the stock impacts the magnitude of this expense (as well as determines if it makes economic sense for option holders to exercise), so generally speaking, if the share price rises at the time of vesting, it will inflate the associated expense with these shares. An important thing to keep in mind here is going back to the S-1, our stock primarily traded at a value between $4 and $12 per share while we were private during 2019 and the portion of 2020 we were private (see table below), which also provides a sense of the market value for our stock when we were issuing equity grants to our employees during this period (as well as some directional sense for historical periods prior to 2019).
It's important to remember that we (i.e., investors, leadership, employees) are all in this together, because as Mr. Nelson says, when the stock price goes up, the expenses increase. That also means employees are doing their job well.
I have some more good news. Mr. Nelson reminded me of something critical, which I should have stressed more in my previous article.
...keep in mind that stock-based compensation is a non-cash expense, meaning that in general it is not a headwind to a business’s ability to generate cash from operations (and subsequently free cash flow).
Per my previous article and the PLTR Q4 2020 Earnings Call Summary:
We incurred a loss from operations of $156.6 million, which includes $241.8 million in stock-based compensation and $18.9 million in related employer payroll taxes.
Our income from operations was $104.1 million, after adjusting for stock-based compensation and related employer payroll taxes.
As a quick check, here's PLTR's Cash Flow from Operations.
Source: Seeking Alpha
You can also see Stock-Based Compensation on that line. From March 2019 through June 2020, before the public listing, PLTR's stock-based compensation was $56M to $91M. Interestingly, my back-of-napkin calculation of at least $75M per quarter is right in the middle. Although, again for reasons explained above, I'd expect that to be closer to the high end, perhaps $90M to $100M. Maybe even $125M per quarter, but less than $241.8M which was very much driven by the DPO in 2020.
Some Very Rough Numbers
We know that PLTR generated $322M in revenue in Q4 2020. And, we know that SBC was $241.8M plus other related expenses, generating a loss of $156.6M.
We also know that PLTR is expecting Q1 2021 Year-Over-Year growth of 45%. So, we have to look at Q1 2020, which was reported as $161.3M. Therefore, the forward looking revenue estimate appears to be $230M to $235M. We can expect that PLTR revenues will be higher than Q1 2019 but lower than Q4 2020, by $90-100M.
Next, let's use my somewhat conservative SBC expense estimate of $100M. That is to say, SBC should be lower than Q4 2020 by roughly $140-150M.
Taken together, all of this seems to indicate that PLTR will see another GAAP loss of $100M, give or take. The good news is that's better than Q4 2020 but the bad news is that I'm currently expecting a GAAP EPS loss in Q1 2021.
There is a very important caveat here. Several numbers are rough estimates and loosely based on what's publicly available. Perhaps in a future article I will have the space and time to dial in the numbers in even more, including better estimates for the non-GAAP EPS potential. But, essentially, I do not see "profits" coming for Q1 2021, unless we back out SBC, just like Q4 2020.
Quick Wrap Up
I'm still bullish on PLTR, especially over the next 5-10 years. I'm willing to be very patient with this business and I'm satisfied being a partner.
Recently, PLTR has "enjoyed" quite a bit of volatility. This was predictable and I specifically said:
I'll point out that you can expect volatility from traders who are cashing out or just making guesses ahead of time.
You can see the wild swings over the last month right here:
Data by YCharts
My point isn't that I've got a crystal ball. Far from it, because it was impossible to know if PLTR's lock-up expiration and Q4 2020 report would kill its price, or if it was going to skyrocket. More importantly, it was impossible to know the exact timing, size of movement, and duration.
In any event, I decided to add to my PLTR position when I saw the price collapse earlier today:
Data by YCharts
Unfortunately, I missed the absolute bottom, but I did fairly well, buying more shares at $21.77. I feel that's perfectly acceptable although it did increase my cost basis to over $11. That's not to brag but instead I'm making the point that when you trust a company, and you're a long-term shareholder, then it can be rational to add when the market seems to get a bit crazy.
Finally, I will point out that I bought more PLTR despite knowing it's unlikely we'll see profits in Q1 2021. That's due to my long term view. At the same time, if I expected profits, then it's likely I would have invested more.
As I've pointed out several times, my price target is $75 by the end of 2023. It's funny how this number seems so big when the price is down at $22, yet when it's been up around $35, it's not aggressive enough.
I look forward to your comments below.
