Palantir Technologies made its market debut with a direct listing on September 30 2020. Shares in the data analysis company opened at $10, surged 10% higher, then ended the day at $9.73. Palantir stock now changes hands for around $9.50 per share.
Is $9.50, or thereabouts, a fair price to pay for Palantir stock? That question is tough to answer at the best of times. In Palantir’s case, it’s particularly tricky. The company has only just gone public, and its financial history is limited. That history shows a company that is making a gross profit, but losses at every commonly accepted level below this.
Forecasting the future for a fast-growing company that is yet to walk the path to bottom-line profit is tricky, and therefore valuing Palantir is difficult. However, pricing Palantir by comparing its multiples to those of other comparable companies is straightforward. But, we can only do this with the enterprise value to sales multiple. The other common multiples are useless because their denominators (EBITDA, EBIT, earnings) are negative in Palantir’s case.
Relative pricing with multiples
So, what I have done is compare Palantir’s enterprise value to sales (EVS) multiple to those of nine companies in the same sector — information technology — as Palantir. The idea behind pricing with multiples is that similar assets should trade at similar prices. The table below shows the gross, operating, net and profit margins for Palantir and the comparable companies.
| Company | Gross Margin | Operating Margin | Net Profit Margin |
| Microsoft | 67.78% | 36.94% | 30.96% |
| Avast | 76.37% | 36.09% | 25.35% |
| Citrix Systems | 85.30% | 20.03% | 24.11% |
| Black Knight | n/a | 24.68% | 17.57% |
| Sage | 93.24% | 23.59% | 17.20% |
| Accenture | 31.36% | 14.68% | 11.28% |
| IBM | 47.76% | 9.32% | 10.62% |
| Slack Technologies | 86.79% | -43.09% | -42.24% |
| MongoDB | 70.70% | -34.18% | -44.55% |
| Palantir Technologies | 67.36% | -77.63% | -79.20% |
Palantir has a positive gross margin of 67.36%, but negative operating and net profit margins of -77.63% and -79.20% respectively. In terms of gross margin, Microsoft is the closet comparison to Palantir, with 67.78%. Two other companies — MongoDB and Slack — run with negative operating and net income margins like Palantir. So, comparing the multiples for Palantir and Microsoft should be instructive. Also Slack and MongoDB might make particularly interesting multiple comparisons for Palantir.
I am not suggesting that the margins of information technology companies alone determine comparability. But, before calculating and looking at the multiples, I want to form expectations about the results. What we are going to find is that Palantir’s EVS multiple is closer to some companies than others. If Palantir stock is a similar enough asset to shares in those company’s, that suggests it’s fairly priced. If it’s not, then it could be expensive or cheap. It’s expensive if its EVS multiple is significantly higher than that of a true comparable company and cheap if below.
The table below shows the EVS multiples for Palantir and nine other information technology companies. Also included are market capitalisations and market value to sales multiples for the ten companies. You might see market values to sales multiples used in pricing exercises. However, I would encourage readers to avoid this practice.
Enterprise values include both the equity and debt used to fund a company’s assets. Sales of a company “belong” to both debt and equity holders. The same is true of EBITDA and EBIT. Only when you move down the income statement past the point of interest payments, which go to the debt holders, do the amounts “belong” to the equity holders. Market value to earnings multiples makes sense, but the market value to sales multiples might not.
| Company | Enterprise Value (billions) | Market Capitalisation (Billions) | Revenue (TTM in Billions) | Enterprise Value to Sales Ratio | Market Value to Sales Ratio |
| MongoDB | 13.86 | 13.79 | 0.50 | 27.60 | 27.50 |
| Slack Technologies | 15.18 | 15.85 | 0.77 | 19.80x | 20.60x |
| Palantir Technologies | 16.32 | 15.18 | 0.90 | 18.10x | 16.80x |
| Black Knight | 14.63 | 13.62 | 1.18 | 12.40x | 11.50x |
| Microsoft | 1,505.99 | 1,560.37 | 143.02 | 10.50x | 10.90x |
| Avast | 6.04 | 5.41 | 0.88 | 6.90x | 6.20x |
| Citrix System | 17.73 | 16.66 | 3.20 | 5.50x | 5.20x |
| Sage | 8.04 | 7.81 | 1.90 | 4.20x | 4.10x |
| Accenture | 136.96 | 141.49 | 44.33 | 3.09x | 3.19x |
| IBM | 163.18 | 107.38 | 75.50 | 2.20x | 1.40x |
As you can see from the table above, Palantir stock trades at an EVS multiple of 18.1x. The closest comparison is Slack Technologies, another negative operating and net income margin company, with an EVS multiple of 19.8x. Palantir’s EVS multiple is almost double Microsoft’s 10.5x, and recall, these two share similar gross margins.
Finding a fair comparison
Palantir is similar to Slack in that it is also making operating and bottom-line losses. No one invests in a company that will lose money forever. At some point, investors expect both to tread the path to profit. Slack and Palantir are just too different for their paths to lead to the same place.
Slack has a “freemium” business model. It offers a product to corporations and groups for free, who then, hopefully, find it useful and pay for additional functionality. Slack has to find enough paying customers to offset the costs of providing free services to turn a profit. Slack has millions of weekly active users.
Palantir does not offer a free service. It has 125 customers who all pay (a lot) for its services. These customers are governments and big businesses. If Slack is not a fair comparison for Palantir, how about Microsoft? They do, after all, share similar gross margins. But I think that is where comparability between Microsoft and Palantir ends.
Microsoft’s revenues come from selling licenses and subscriptions to use its software which is installed locally or accessed via the cloud. Aside from big enterprise clients, most users are paying for a generic product, and there are millions of users. Then, of course I could talk about growth rates and how they differ between the two. Palantir has been growing faster, and is expected to continue to grow faster than Microsoft. That’s why investors are willing to buy at higher multiples.
| Revenue growth rates | 2010 | 2011 | 2012 | 2013 | 2014 | 2015 | 2016 | 2017 | 2018 | 2019 | 2020 |
| Palantir | 700% | 131% | 95% | 83% | 34% | 33% | 55% | 28% | 11% | 16% | 25% |
| Microsoft | 7% | 12% | 5% | 6% | 12% | 8% | -9% | 5% | 23% | 14% | 14% |
Palantir has a small number of users, and they appear to be receiving a custom service. Its gross margins appear to reflect ongoing and maintenance and professional services to already deployed software. But that software, used by 125 customers, albeit big ones with many employees, required 41,000 upgrades per week in Q2 2020. That does not sound like routine maintenance.
If you exclude stock-based compensation from Palantir’s sales & marketing and research & development expenses, they are still 61.8% and 35.8% of sales respectively. It costs a lot of money for Palantir to develop and market its software to its customers. Furthermore, its customer pool is limited. Microsoft caters to lots of individuals and small and big business. Palantir customers are exclusively (very) big businesses and governments and not many of them.
Its also worth stating that Palantir’s management expects its cost of revenues to increase in absolute terms, meaning the gross margin will fall, as revenues increase, making comparisons with Microsoft even more redundant.
If Palantir addresses its customers (or groups of customers) needs individually, rather than in general then Accenture, which provides management and technology consulting services to corporate customers, looks like a better comparison. If Palantir and Accenture are more alike, then the market realises then that 18x EVS multiple looks unjustified. Using something closer to Accenture’s 3x EVS multiple to price Palantir stock might be more appropriate, which would be bad news for its share price.
DISCLAIMER: James J. McCombie does not own shares in Palantir. The Storied Investor has no beneficial ownership interest in Palantir.
The Storied Investor 