Contemplating an investment in Palo Alto Networks prior to its stock splitting?
Cybersecurity firms often face different levels of scrutiny compared to other software companies. Unlike other tools that can improve daily life yet aren't essential, reducing cybersecurity funding can lead to serious repercussions. This has resulted in cybersecurity stocks being popular investment choices due to their high profit margins and the enduring importance of business software.
A notable choice in this market is Palo Alto Networks (PANW 0.74%), a company planning to divide its stock on Dec. 16. With an approaching stock split, potential investors may be pondering if Palo Alto Networks is a wise investment choice currently, given the popularity of cybersecurity stocks.
Palo Alto continues its expansion in the next-generation sector while also maintaining legacy operations
Palo Alto Networks isn't a newcomer to the cybersecurity realm. The company has been operating since 2005, which is relatively old in the cybersecurity industry. Palo Alto Networks isn't a niche cybersecurity company; it offers a wide range of products and employs a strategy known as "platformization," where a single vendor handles all cybersecurity needs. According to market analyst Gartner (NYSE: IT), 75% of cybersecurity leaders use this strategy, but only 15% of large-scale clients have adopted this method. This leaves substantial growth potential.
Palo Alto Networks is also working on encouraging its clients to transition away from its traditional business model. It segments its business into three primary areas: Strata, Prisma, and Cortex. Prisma and Cortex are Palo Alto's "next-generation security" (NGS) platforms, which the company emphasizes. Cortex utilizes artificial intelligence (AI) to fend off cyberattacks in a similar manner to its rival CrowdStrike (NASDAQ: CRWD). Prisma encompasses Palo Alto's cloud-based security, which safeguards cloud workloads. Strata represents the legacy portion of the business, primarily focusing on firewall management for clients.
Management is making efforts to convince investors to concentrate on the NGS business segments, as these are experiencing the most growth. In the first quarter of fiscal year 2025 (ending Oct. 31), NGS' annual recurring revenue (ARR) increased by 40% compared to the previous year, reaching $4.5 billion. Management anticipates this segment's growth to decelerate throughout the year, with second-quarter ARR growth estimated to rise between 35% and 36%, and fiscal year 2025 ARR growth predicted to come in between 31% and 32%. While this information might suggest that Palo Alto is expanding rapidly overall, it isn't necessarily the case.
Total revenue rose 14% to $2.1 billion in Q1, indicating issues with other parts of the business since this figure falls well below NGS' ARR growth. However, this doesn't mean that Palo Alto is not a robust company.
In conjunction with its earnings report, the news of a 2-for-1 stock split emerged. This stock split will decrease the share price by half once it begins trading at its adjusted price on Monday, Dec. 16. Management is implementing the stock split due to its belief that the current $400 per share price makes it inaccessible for some employees and investors.
Sometimes, stock splits can generate some momentum for the stock, but is this adequate motivation to invest now?
The stock is far from affordable
Palo Alto is not an inexpensive stock, which is typical of cybersecurity companies. With the stock priced at 64 times forward earnings and 17 times trailing sales, Palo Alto undeniably costs more than many other corporations.
The cybersecurity industry's growth is undeniable. The question is, is Palo Alto Networks a better buy than some of its competitors? One of my preferred companies in this sector is CrowdStrike, which has an even pricier price tag: 97 times forward earnings and 24 times sales. However, CrowdStrike's entire business focuses on what Palo Alto defines as Next-Generation Security, making it a more appealing investment option for me, especially considering overall revenue grew 29% in its latest quarter.
As a result, I believe I'll refrain from investing in Palo Alto's stock at the moment, as I already have holdings in the cybersecurity market. However, if you're interested in building a portfolio of cybersecurity stocks, Palo Alto could prove to be a valuable addition.
Despite the approaching stock split, the high pricing of Palo Alto Networks' shares at 64 times forward earnings and 17 times trailing sales might be a deterrent for some investors. In the context of finance and investing, diversifying one's portfolio by considering Palo Alto Networks as a potential investment option could be a strategic move due to the enduring importance of cybersecurity in the business world.
