Zack Morris's avatar
$22.1m follower assets
Palantir: The Defense Contractor for the 21st Century $PLTR
As touchy of subjects as national defense and war are, one must grapple with them when considering an investment in $PLTR.

Sometimes, it's best not to overthink it.
  • Palantir's largest customer is the largest customer with the deepest pockets in the world: the U.S. government.
  • With war increasingly economic, cyber, informational vs. kinetic, state of the art encryption, security, big data, software and AI solutions are required to retain an advantage. Palantir is the world class provider of these solutions, bringing government-grade security to industry, and industry-grade know-how to government.

Take the competitive advantages enjoyed by government IT, engineering and consulting contractor Booz Allen Hamilton and lay a SaaS business model on top of it and you have Palantir, on sale today for 7x 2026 FCF.

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Thesis

Global leader in AI software sales. Monopoly-like software market share with western governments. Long runway for growth competing in combined $119 billion and growing TAM for commercial (~$56 billion) and government (~$63 billion) software (Palantir S-1) against $2 billion in 2022 revenue.

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Moat

"Most software companies are either uninterested in producing or unable to produce products that address the fundamental needs of a large institution. The investment required is too high. The potential payoff is too uncertain." - Alex Karp, Palantir CEO, 2022 Annual Letter

While most software companies build and market one size fits all products which lend themselves to commodification, Palantir sometimes works with customers for months or years developing custom solutions to provide real value before generating any revenue, engendering customer trust and long-term lock-in.

Product and Business Model

Palantir began in 2003 providing a software platform for government use, and has since expanded into the commercial market. The company has built two principal software platforms: Gotham and Foundry.

In the company's words (from the S-1):

"Gotham was constructed for analysts at government defense and intelligence agencies. It enables users to identify patterns hidden deep within datasets, ranging from signals intelligence sources to reports from confidential informants, and helps U.S. and allied military personnel find what they are looking for.

The challenges faced by commercial institutions when it came to working with data were fundamentally similar. Companies routinely struggle to manage let alone make sense of the data involved in large projects. Foundry was built for them. The platform transforms the ways in which organizations interact with information by creating a central operating system for their data."

Customers pay Palantir to use their software platforms, and pricing is based on the value the company estimates their software platforms will produce for their customers.

Business Performance and Unit Economics

Currently, Palantir is growing both through expanding down market in the commercial sector as well as increasing Average Revenue Per Customer (ARPC) in the government sector.

In 2021, Palantir tripled its number of commercial customers from 49 to 147 while government customers remained flat at 90.

Correspondingly, ARPC in the commercial sector fell from ~$10 million to ~$4 million, while in the government sector ARPC increased from ~$7 million to ~$10 million.

After heightened, one-time SBC costs attributable to the company's 2020 direct listing, sales & marketing expense dropped from 2020 to 2021 even as revenue grew 41%.

With total ARPC of $6.51 million, CAC (2021 S&M expense / customer net adds) of $6.21 million and net dollar retention of 132%, Palantir boasts outstanding unit economics.

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Betting on Themselves

Palantir has adopted a unique strategy of taking equity stakes in their commercial customers, aligning incentives and allowing them to succeed alongside their customers not only in terms of their business but also their investments. See below a table of equity investments and this recently announced partnership with Lilium.

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source: mtcapital.substack.com

Valuation

Despite the tech and growth meltdown in the equity market, Palantir's business has kept on humming in 2022.

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After a 79% drawdown from its January 2021 highs, the stock now sits at an attractively valued 6x 2022 revenues with 80% gross margins.

A revenue growth and margin expansion story over the next 5 years, I project an 18% annual return in the stock from now until 2026, based on 20x 2026 FCF estimates, 6% annual share dilution and a 15% discount rate.

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CEO Alex Karp is a controversial figure.

I encourage you to read his 2022 annual letter and more recent Q2 2022 shareholder letter to get a sense of his values and to evaluate if they align with your own.
Tom's avatar
Great read! Thank you for sharing. I’m also a PLTR shareholder for many of the same reasons.

A few Q’s:

1) what’re your thoughts on missed/soft guidance from the past quarter and the back half of ‘22? Is this an indictment of management’s ability to forecast their business or a symptom of the macro environment?

2) your current model prices the name below IPO - why do you think that is? If BAH trades 15-18x Fwd PE what gives PLTR the boost to 20x?

Always love to chat about this name, thanks for writing!
Zack Morris's avatar

1) I don't think the lowered guidance from the Q2 report are an indictment of management's ability to forecast the business, nor a symptom of the macro. Palantir's contracts, and thus revenue, are inherently lumpy and therefore difficult to forecast. I think that is the nature of the beast when dealing with governments and large annual contract values. But, I think this is a feature, not a bug, of Palantir's business.

One, it means the product is more sticky/less able to be commoditized.

Two, dealing with gov'ts on large, mission critical problems insulates the business from the macro environment and in fact you can imagine how it would even be countercyclical. For example, Palantir landed a number of contracts to help the government navigate the GFC.

Three, it provides investors opportunities to capitalize on short-term stock price reactions if they can stay focused on the long-term story.

2) PLTR direct-listed at $9.20 in Q4 2020. My fair value today of $8.22 allows for what I think will be a 15% CAGR over the next 5 years. 15% is just my hurdle for investing, other investors might have a different one.

I think the primary reason my target price is low relative to the DL price is that multiple have re-rated down significantly across the whole software space in the intervening months. I actually think a 20x FCF multiple on a software business growing revenue ~30% annually is quite conservative, but that is the environment we're in today.

The truth is, over the short and medium term (1-5 years), multiple expansion or contraction is going to drive the bulk of the returns. Only in the long-term (5+ years) do business results start to outweigh multiple expansion/contraction.

Relative to BAH, I think PLTR's superior growth deserves a higher multiple.
Dissecting the Markets's avatar
$PLTR is an underrated SaaS company. I see them having a very bright future.
StockOpine's avatar
Great pitch @zmo. Thanks for sharing.
SLT Research's avatar
Nice summary @zmo. A 10% discount to intrinsic value currently after a c.80% drawdown just shows how insane tech stocks valuation was in 2020-2021.
I would not have guessed that PLTR is the #1 AI software seller. However, a 60.66 NTM P/E for a company with negative FCF (adjusted from SBC) is a bit expensive for me.
Sagar Vensi's avatar
It's definitely an interesting business.
Zack Morris's avatar
If you're interested in learning a bit more about the company and/or hearing from the CEO, check out this 45 minute interview with Stan Druckenmiller that took place just 2 weeks ago: https://www.youtube.com/watch?v=0sddHG0D0Y4
Sagar Vensi's avatar
@zmo Thank you Zack. Let me know whT you think about my write up :)

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