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Techpocalypse? Been there, done that
A decade ago, Splunk (SPLK) was one of the first leaders to further automate and accelerate monitoring within the enterprise software stack. And a year ago, his stock was one of the first to join the swan-diving club of names that decided they would be happier occupying lower positions on their respective charts. Having already taken his hits, the market for his bullying pulpit pretty much left Splunk alone last month. More fragile characters available to punish, no doubt. We infer that the likelihood of Splunk having bottomed has increased somewhat. And we now take this opportunity to reiterate our buy rating.
The driver of a potential stock price improvement at Splunk is, in our view, the most old-fashioned thing, improving fundamentals. The company is following a well-trodden path in changing the revenue model from perpetual license to subscription; those who preceded Splunk, such as Synopsys (SNPS), Autodesk (ADSK), Adobe (ADBE), and even to some extent Microsoft (MSFT), left a trail of breadcrumbs and lessons that Splunk is now following.
Here are the numbers up to the last reported quarter. First, revenue up to EBITDA.
Now the cash flows down to the remaining performance obligation.
Also note the reduction in outstanding shares, which is an unusual thing in this world of stock-based competition. (That said, this is a prelude to a potentially dilutive future event, a consequence of that convertible debt you see being added to long-term liabilities in the July 21 quarter).
As proof of the success of the ongoing shift from perpetual to subscription, consider three key elements.
- Growth in TTM revenues, steadily increasing since the January 21 quarter;
- TTM’s unleveraged pre-tax FCF margins, rising again from July 20 quarter low;
- The remaining performance bonds (i.e. the total futures portfolio) are at record highs and the growth rate is increasing.
Let’s assume for the moment that the fundamentals are in hand. That company can still hit a bump in the road, but the flywheel is spinning and it feels like it’s accelerating. Let’s move on to inventory.
First, the fundamental valuation.
7.8x TTM revenue for 11% growth and acceleration. As you know, EBITDA and cash flow margins are negative, but they will likely turn positive soon enough, as you can see from the trends in the tables above. And at that multiple, with an EV of around $20 billion and a rapidly improving cash profile, and Silver Lake already at the table to provide adult oversight, you can bet every private equity store in the country is applying the slide rule on this thing. A nice purchase for someone we don’t doubt. So you have a little potential for free money in the background.
OK, now let’s look at the stock chart. We’re not going to bother with fancy Fibonacci or waves of wonder. We’ll just point out that there’s a pretty solid long line of support at work here, which has held up even in the face of the continued misery of market action this month. Support is never at a specific price point of course, but the $108 zip code has proven important several times over the past few years, first as resistance and then as support. (Full page table, here).
Let’s see how the SPLK fared in this dismal start to the new year.
Well, it’s not oil or energy; but that’s not a major clue either. Flat on the year in software, that’s what good looks like right now!
Overall, we’re quite bullish on Splunk and think the stock can have a very strong 2022. We’re pricing the name in Buy and holding it in personal staff accounts for a big gain.
Cestrian Capital Research, Inc – January 21, 2022.