Palantir: 3 Reasons And 2 Interesting Ways To Buy The Dip
Summary
- PLTR is our highest conviction tech investment.
- PLTR has a lot going for it that we believe will continue to fuel robust performance moving forward.
- We detail 2 ways to buy the dip.
- Looking for a portfolio of ideas like this one? Members of High Yield Investor get exclusive access to our model portfolio. Learn More »
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Palantir (NYSE:PLTR) is our highest conviction tech investment with a viable path to a $1 Trillion valuation. PLTR has a lot going for it that we believe will continue to fuel robust outperformance moving forward.
However, over the past week shares have cratered, presenting an interesting opportunity to add to our position:
In this article we will detail the three biggest reasons why we are buying the dip, while also discussing two interesting ways to do so.
3 Reasons To Buy The Dip
#1. PLTR Is Undervalued
First and foremost, we never buy a stock unless we believe it is undervalued. In the case of PLTR, our current fair value estimate is $27.50 per share. We arrive at that figure by determining that the fair value of the company as a whole right now is $57 billion.
This intrinsic value of PLTR is derived from the idea that if the company is worth about $250 billion by 2040 then it will generate about 8% annualized returns between now and then (which we determine to be a fair discount rate given how elevated the market valuations and how low the interest rates are today).
We reach this valuation by assuming a 20% CAGR in total addressable market (which is slightly below the 22.4% CAGR forecasted for the global big data market), which is currently estimated to be around $120 billion. That would put their total addressable market at around $4 trillion by 2040.
We think that PLTR has a strong moat around much of its U.S. Government business (with an estimated total addressable market of $26 billion) and therefore expect it to eventually capture 50% of this market by 2040 as the AI arms race with China heats up substantially over the next two decades, pushing the U.S. Government to bet increasingly on its top horse (Palantir). Assuming this total addressable market grows at a 3% rate per year (in-line with historical inflation rates), PLTR should be garnering about $23 billion in revenues by 2040 from the U.S. Government alone.
However, we will make a conservative assumption that they will only capture 25% of this business, leaving U.S. Government revenues at $11.5 billion. Adding in allied government business at an assumed weaker performance, we will assume total revenues of $15 billion for the Gotham business by 2040. This is a very reasonable assumption as it would require about 15% annualized Gotham revenue growth between now and then and it just grew by 66% year-over-year this past quarter.
We also believe these revenues will be higher margin than the Foundry business contracts given that they will have a wider moat around them (as most government contracts do). Therefore, we will assign a 10x multiple to Gotham revenues and a 7x multiple to Foundry revenues.
That means they will only have to earn $14 billion in revenues from Foundry by 2040. This is also very achievable as it would require about 24% annualized Foundry growth between now and then and the company's revenue growth engine is only just beginning to accelerate. In fact, US commercial revenue grew by 90% in Q2.
With shares currently trading at a 12.7% discount to our fair value assumption based off of this base-case scenario, PLTR is undervalued.
#2. PLTR Is Poised To Outperform Guidance
We also believe that PLTR has a much larger margin of safety than this base case implies as we expect the company to crush these numbers moving forward.
First of all, the company is on pace to grow revenue by 40-50% this year which is well ahead of management's guidance for 30%+ revenue growth.
Second, the growth rate is actually accelerating as PLTR generated 47% annual revenue growth in 2020 and thus far has grown revenue by 49% year-over-year through the first half of 2021. On top of that, the company has been investing aggressively in growing its sales force and in product innovation which will combine to turbocharge growth in the quarters and years to come. As management stated on the Q1 earnings call:
Our sales force combined with outreach and events are generating more high quality opportunities. What's more, customers are coming to us with a much deeper understanding of our products and the value they unlock, to the point where the first meeting today really now feels like the fourth or fifth meeting from a year ago. The flywheel is turning faster.
Last, but not least, the company is positioned to benefit from several major macroeconomic and geopolitical tailwinds in the coming decades. As large-scale medical, supply chain, and geopolitical challenges continue to weigh on the global economy - with no real end in sight - PLTR's problem solving platforms are in high demand and ultimately invaluable. Additionally, the A.I. arms race between the West and China is only in its first inning. As this increasingly becomes the focus in the coming years, demand for PLTR's Gotham and Foundry platforms will be increasingly demanded to enable Western governments and businesses survive and thrive in the new A.I. centric economy.
#3. Foundry Has Strong Growth Momentum Building
On top of the major sales force investments and favorable macro trends which should boost Foundry's growth rate moving forward, PLTR's aggressive investments in product innovation are set to drive Foundry's growth significantly higher for years to come.
For example, the commercial customer count increased by a whopping 32% sequentially in Q2 and PLTR's active commercial pilots are up by 26% since the end of April. Furthermore, management continues to launch strategic partnerships with innovative companies like DataRobot and Wejo in order to expand their potential client pool. PLTR also recently launched Foundry for Builders to expand the platform to target small "Day Zero" companies and are rapidly enhancing and growing applications of their Apollo for Edge AI technology to better service numerous industries.
Last but not least, the company's growing portfolio of start-up investments gives them a sprawling empire of high potential investments that are using the Foundry platform as a competitive advantage. The main thing holding Foundry growth back thus far has been lackluster international growth, but management hinted that even this is about to change for the better on PLTR's latest earnings call, stating:
The international commercial revenue is accelerating.
2 Interesting Ways To Buy The Dip
Right now, we believe the best way to buy PLTR is by selling options given that the premiums are so rich.
For conservative investors looking for a greater margin of safety before buying shares, we like selling the November 19, 2021 $23 put that can be sold right now for $1.46. That would generate a 47.3% annualized return if the put expires out of the money and would generate a cost basis of $21.54 if it expires in the money. That would be a very attractive 21.7% discount to our fair value estimate of $27.5.
The other way we like buying the dip here would be to buy the shares outright and then sell a covered call. If you sell the September 16, 2022 $35 call right now, you can get a $2.10 premium for it. That would be an 8.7% yield from the shares over 350 days (9.1% annualized) while still preserving a whopping 53.8% upside potential in the shares and would be selling at a price that is well in excess of our fair value estimate.
Investor Takeaway
PLTR has been on a sharp downtrend over the past week and as a result has fallen below our fair value estimate. However, our conviction remains very strong in the business' long-term prospects, so we believe it is a great time to add exposure to the stock.
Given that options premiums are so rich in the stock right now, we believe that long-term investors can improve their risk-reward by selling options as part of their exposure to the stock.
For investors who want to take a more conservative approach, we like the idea of selling the November 19th, 2021 $23 put at a fair premium and for more aggressive investors, we favor buying the stock at current prices and then selling the September 16, 2022 $35 call to generate attractive yield on the shares while still preserving massive upside potential.
Whichever way you play it, as one of our top three tech stocks today, we believe patient long-term-oriented investors will be handsomely rewarded for going long PLTR at current prices, especially if you supplement the position with options sales.
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This article was written by
Samuel Smith is Vice President of Leonberg Capital, he has a diverse background that includes being lead analyst at several highly regarded dividend stock research firms. He is a Professional Engineer and Project Management Professional and holds a B.S. in Civil Engineering & Mathematics from the United States Military Academy at West Point and has a Masters in Engineering.
Samuel leads the investing group High Yield Investor investing group. Samuel teams up with Jussi Askola and Paul R. Drake where they focus on finding the right balance between safety, growth, yield, and value. High Yield Investor offers real-money core, retirement, and international portfolios. The services also features regular trade alert, educational content, and an active chat room of like minded investors. Learn more.Analyst’s Disclosure: I/we have a beneficial long position in the shares of PLTR either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Seeking Alpha's Disclosure: Past performance is no guarantee of future results. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. Any views or opinions expressed above may not reflect those of Seeking Alpha as a whole. Seeking Alpha is not a licensed securities dealer, broker or US investment adviser or investment bank. Our analysts are third party authors that include both professional investors and individual investors who may not be licensed or certified by any institute or regulatory body.
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