Andreas Rentz/Getty Images Entertainment

Andreas Rentz/Getty Images Entertainment

Geopolitical tensions have escalated, and the war in Ukraine has created devastating ramifications. While my heart breaks for the citizens of Ukraine during their darkest hours, the current situation illuminates how important Palantir (PLTR) is to America and its allies. While PLTR was founded in Silicon Valley, its corporate values and commitments to America's security are drastically different than other software companies. Many within the sector and from the outside looking in have politicized PLTR as projects aligned with America's defense and intelligence agencies have been portrayed as controversial. It's abundantly clear that evil and terror still exist, and the thought of attaining a utopian society is unattainable. While the world is an imperfect place, I am thankful to have been born in the United States and grateful for companies such as PLTR. PLTR has transformed from a black box company whose software was utilized to hunt down terrorists and facilitate special operations missions to a full enterprise software company that empowers organizations to make critical operational decisions.

Since February of 2021, growth companies have been caught in a downward spiral, and many of the overhyped companies have shed 50%, 60%, 70%, and even 80% of their value. An infatuation with growth at all costs drove many companies to unrealistic valuations based on certain financial metrics. From its direct listing, PLTR has been a controversial stock, with many classifying it as a hype stock as investors flocked to PLTR trying to make a quick buck. I have been bullish on PLTR since it went public, I bought shares directly after the direct listing in 2020 at $9.80, I bought shares in the teens, in the twenties, and I am still buying shares now. Outside of Microsoft (MSFT), due to its operating system, PLTR has the potential to become the most important software company in America. The sharp decline in share price has left many investment positions in the red, but that only matters if you're a trader, need the money tomorrow, or have a short time horizon for the investment. One of the most difficult things is timing the markets as very few people can call tops and bottoms. PLTR finished 2021, generating $1.54 billion in revenue with 31% adjusted operating income and 28% adjusted free cash flow margins. PLTR continues to sign new contracts with existing clients while bringing new customers into the fold, forming new relationships and vertices. PLTR has a long runway for growth, with enticing margins. It's been a sea of red, but sometimes the largest gains come from facing adversity head-on.

Some will look at PLTR as an unprofitable company since the recorded negative net income for 2021. There are several measures of profitability and financial performance. Some companies hold themselves to an EBITDA metric, some to free cash flow (FCF), and others to the bottom line of net income. The analyst community tends to emphasize net income, which is a fundamental metric that can drastically impact a stock's price as it measures the ability to deliver profits. Net income represents a company's profits from an accounting standpoint, which includes every line item, including non-cash expenses such as depreciation and amortization. FCF measures the actual cash flow that is available to shareholders. FCF is the amount of cash that a company has generated after adjusting for non-cash expenses, capital expenditures, including property and other physical assets, and changes in working capital. Some investors place a high value on a company FCF, representing the amount of cash that a company generates. FCF is important because it's the cash flow stream that can be utilized to pay down debt, make acquisitions, pay a dividend, and buy back shares.

I like to focus on FCF because it's harder to manipulate the numbers, cash is generated from operations, and cash is utilized in CapEx. Something that many investors overlook when investing in stocks is that they are buying an equity stake in a company. Suppose you were going to buy a business. In that case, regardless of whether it's a 4 unit apartment building, a coffee shop, or a manufacturing company, you're buying a business for its ability to generate cash. Although many investors don't look at it through this lens, buying stocks isn't different. When you're buying a stock, you're essentially paying the present value for the company's future cash flow. A company can grow its revenue indefinitely, but if they aren't generating positive cash flow then are they really achieving their goal and responsibility to shareholders?

If a company has FCF over a period of 5-years of $20, $40, $60, $80, $100 or $20, $25, $30, $35, $40, which one would you pay more for? You would be enticed to pay a larger multiple for the first set, which is a larger and quicker growing FCF set. While PLTR did finish 2021 with negative net income, which decreased significantly YoY, they were FCF positive.

Some companies put their Adjusted FCF number in their reports: Adjusted EBITDA, plus or minus changes in current and long-term assets and liabilities, minus any cash payments for taxes, restructuring, and interest. In 2021, PLTR delivered $424 million in Adjusted FCF, which was a 28% margin. I am going to use standard FCF and compare PLTR to other young application software companies, including Snowflake (SNOW), The Trade Desk (TTD), Datadog (DDOG), Splunk (SPLK), Autodesk (ADSK), Unity Software (U) and Okta Inc. (OKTA) to see how their market cap to FCF multiples compare to each other.

Why do I look at the market cap to FCF? I want to see the multiple Mr. Market is placing on a company's FCF and opportunities within a sector. Of the 8 companies I selected PLTR, SNOW, TTD, DDOG, SPLK, ADSK, U, and OKTA, PLTR trades at the lowest market cap to FCF multiple and has the second-lowest market cap. PLTR is currently trading at 70.32x FCF while the other 7 companies have a wide range where U is generating negative FCF and SNOW is trading at 621.61x FCF. It's interesting that TTD and PLTR were separated by only $2.5 million in FCF, yet TTD trades at 93.45x FCF as its market cap is almost $8 billion larger. Cathie Wood and the team at Ark Invest sold their entire position in PLTR and have been adding shares of OKTA, which trades at 270.8x FCF. Looking at the current market caps, FCF generated, and market cap to FCF multiples, PLTR looks undervalued compared to others in the group.

Another aspect that people overlook is corporate expenses. PLTR, OKTA, and SNOW are growth companies but how they are generating the growth is important.

Of the three companies, PLTR is the only one that's reducing its expenses across the board. Here is how everything lines up YoY:

PLTR's revenue increased by $449.2 million (41.11%) YoY while their cost of revenue decreased by -3.73%, and their operating expenses declined by -15.69%. SNOW grew its revenue by $627.3 million (105.96%) YoY, but this wasn't true growth, it was paid for. SNOW's cost of revenue increased by $215.8 million (88.95%), while their total operating expenses increased by $582 million (65.14%) for a total of $797.8 million. Their revenue growth was manufactured as it cost SNOW $797.8 million to gain $627.3 million in revenue growth. OKTA is in a similar boat as SNOW. OKTA's cost of revenue increased by $176.8 million (81.21%) YoY and their total operating expenses by $849 million (103.3%). OKTA spent an additional $1.03 billion to generate $464.8 million in additional revenue for 2021. Another interesting aspect is that PLTR grew its gross profit by $462.4 million (62.48%) YoY while decreasing its overall expenses. Of the three, PLTR grew its gross profit by the largest amount monetarily ($462.4 million), yet its revenue grew by the least YoY. By the numbers, PLTR has the best income statement of the three, trades at the lowest price to FCF multiple, and has decreasing expenses, yet Ark Invest sold off its position and is adding OKTA. It seems quite peculiar that SNOW and OKTA are trading at larger valuations.

Meet Kevin did an interview with Brett Winton, Director of Research at ARK Invest. In the interview, Mr. Winton touched on why Ark-Invest closed out their PLTR position after acquiring throughout the $20s.

Meet Kevin: Hey you know this one's coming. Palantir. What happened?

Brett: Sure, I mean like I described as we're in risk-off periods we tend to consolidate the portfolios, so um, we had some concerns about their competitive positioning within the government space and we had better risk money elsewhere. Uh and so it's not you know, when you are making a decision to like consolidate the portfolio, it's not like those are an easy decision, but you look at kind of the risk return profile for all of your positions and you say what's lowest on the stack rank, relative to something else, which we think has comparable upside.

Meet Kevin: That makes sense. So in risk off periods to make this simple, basically when prices are going down narrow into the ones maybe you have the most conviction in. Is that what you're saying?

Brett: Exactly. Yeah, yeah. If we have a better edge somewhere else then we'll operate somewhere else.

I understand the premise around consolidation and believing there is more alpha to be created in a different position. That portion makes complete sense. What doesn't make sense is that Mr. Whiton specifically indicates that ARK Invest had concerns about PLTR's competitive positioning within the government space. While the government side revenue increased by 47.05% YoY ($287 million) from $610 million to $897 million, their customer count stayed stagnant at 90 customers YoY. I covered this in my article after PLTR delivered their 2021 earnings report.

I don't see this being an issue, and now that war has broken out in Ukraine, I would be willing to speculate that PLTR will be very busy with demonstrations and request for proposals (RFPs). Germany has long resisted pressure from the United States and others to raise its defense spending. Chancellor Olaf Scholz said on Sunday, 3/6/22, Germany would sharply increase its spending on defense to more than 2% of its economic output in one of a series of policy shifts prompted by Russia's invasion of Ukraine. Connect the dots, Alex Karp has given a series of interviews over the past two weeks from Germany. 2 weeks ago, Alex Karp spoke with Europe Strategy Lead Jan Hiesserich, in Germany about Palantir's relationship to Germany, what makes Palantir platforms unique, and how our products can create value in Germany and beyond. Just last week Alex Karp also spoke with Kai Beckmann, Member of the Executive Board of Merck KGaA, Darmstadt, and CEO Electronics, in Germany to discuss cross-industry collaboration and the unique challenges of the semiconductor shortage.

I think Ark Invest acted prematurely during an ongoing selloff that has decimated their fund's returns. Everybody loved Cathie Woods and her team on the way up, and now their funds have become the black sheep of the ETF world. Honestly, I disagree with liquidating the PLTR position, but their flagship fund Ark Innovation ETF (ARKK) is still up 149.73% over the past five years, so they deserve credit for getting a lot right and generating returns for long-term shareholders.

When I went through their Q4 and 2021 earnings report I was surprised that their customer count stayed at 90, but I wasn't concerned. The more important slide to evaluate is their Government customer cohort growth table. Each year of contracts has grown its revenue base YoY. In 2018 PLTR's government revenue was $255 million, $224 million was from existing contracts prior to 2018, and $31 million or 12.16% was from new contracts secured in 2018. Now, look at the YoY growth. In 2019, the $224 million of existing contracts grew by $59 million (26%) YoY, while the $31 million of new contracts from 2018 almost doubled in value as they grew by $30 million (97%). In 2019 PLTR only added $2 million of new government contracts, which was less than 1% (0.58%) of the annual government revenue. Fast forward to 2020, PLTR's overall government revenue increased by $264 million or 76%. The individual tranches of government contracts experienced significant growth YoY. The $283 million of contracts prior to 2018 grow by another $33 million or 12%. The new contracts from 2018 that grew from $31 million to $61 million in 2019 grew by an additional $138 million or 226% in 2020 as this accounted for $199 million of the $610 million government revenue. The $2 million of new government contracts PLTR signed in 2019 grew by $16 million or 800% to $18 million in 2020. In 2020 PLTR added $77 million worth of new contracts on the government side. In 2021 the existing base of government contracts prior to 2018 grew by an additional $21 million or 7%. 2018's contracts grew by an additional $83 million or 42% to $282 million from $199 million in 2019. In 2019, PLTR secured only $2 million of new contracts, which grew into $18 million of revenue in 2020, and in 2021, this increased by an additional $25 million (139%). In 2020 PLTR signed $77 million in new contracts, which grew YoY by $150 million (195%).

Not a single government agency left PLTRs ecosystem, and each tranche of contracts grew its revenue base YoY. I am not sure how one can be concerned with PLTRs competitive positioning within the government space when the government's ide revenue increased by 47.05% YoY. First, the questions were directed toward the commercial space since PLTRs revenue was primarily generated from the government sector. Now that PLTR has delivered on the commercial side, questions are being raised about not adding new government clients/agencies. 47.05% YoY revenue is 47.05% YoY revenue regardless if their customer count on the government side increases from 90 to 120 or if the 90 clients add services or enter into additional agreements. If revenue was decreasing, that would be a concern, but it's not. The government business segment is healthy, and the situation in Ukraine should benefit PLTR in 2022. I wish PLTR would increase its customer count and revenue due to different circumstances, but the war in Ukraine has made many of America's allies realize that defense spending is needed now more than ever, and PLTR will be in a position to pick up additional contracts.

Could you imagine setting up a demonstration with PLTR, providing them a dataset to analyze, and PLTR discovering a terrorist plot that wasn't on the radar in the demo? Peter Theil gave an interview on Bloomberg and was asked about this story. He acknowledged that a government agency provided data for a demo, this did occur, and the government agency had to reclassify all types of data as classified. When he was asked directly if he thought PLTR has helped thwart multiple terrorist plots, he responded with, "I suspect that's true." PLTR builds software platforms and provides solutions years in advance before clients know they need that capability. There is a reason why PLTR is a government favorite, and that is unlikely to change. Regardless of what people may assume, government agencies need the very best software from the military down to SEC operations, and PLTR is a unique vendor willing to build exactly what the government needs.

It's been a busy Q1, and I want to go over some of the partnerships that PLTR has established, leading to multiple vertices. In the beginning of January PLTR and Hyundai Heavy Industries formed a Data Joint Venture. This is a $25+ million deal for PLTR, which will allow the two entities to build a new big data platform for Hyundai Heavy Industries. Hyundai Heavy Industries is a $5 billion South Korean company that has grown into the world's leading heavy industries organization which has diversified from shipbuilding to offshore & engineering, Naval & Special Ships, and engine & machinery. Hyundai Heavy is a global entity with partnerships throughout the globe. Based on the agreement, Hyundai Heavy Industries and PLTR will jointly build a big data platform for the Group's key affiliates related to shipbuilding & offshore engineering, energy, and industrial machinery. Once the big data platform for each affiliate is built, the two parties plan to create a joint venture that specializes in developing and selling big data platform services. The big data platform will also be adopted by energy affiliates, such as Hyundai Oilbank.

The other critical partnership is with Jacobs Engineering Group (J), which is a $16.53 billion company. J will leverage its existing O&M portfolio, as well as proprietary machine learning modules and wastewater process optimization tools to develop a dynamic management solution suite on PLTR's Foundry system. This will connect day-to-day site operations with AI to optimize power, chemical usage, and asset management. Like Hyundai Heavy Industries, J and PLTR are planning other joint technical and programmatic initiatives to serve U.S. federal government customers. J is the ideal partner for PLTR as they provide consulting, technical, scientific, and project delivery services for the government and private sectors in the United States, Europe, Canada, India, rest of Asia, Australia, New Zealand, South America, Mexico, the Middle East, and Africa. The company operates in two segments, Critical Mission Solutions, and People & Places Solutions. The Critical Mission Solutions segment provides cybersecurity, data analytics, systems, and software application integration and consulting enterprise and mission IT, engineering and design, nuclear, enterprise-level operations and maintenance, and other technical consulting solutions. The People & Places Solutions segment offers data analytics, artificial intelligence and automation, software development, digitally-driven consulting, planning and architecture, program management, and other technical consulting solutions.

These are the clients and projects PLTR investors should become ecstatic about. Unlike straight contract revenue, PLTR is developing platforms with industry leaders who are already connected throughout their respective industries on the government and commercial side. These aren't just contracts for revenue, they are strategic partnerships that will lead to other business verticals. The proprietary platforms that PLTR will build with J and Hyundai Heavy will create opportunities for initial revenue through their joint ventures but put PLTR in a position to possibly provide other services throughout each of their respective business networks. This is exactly what we want PLTR to be doing, creating industry-specific platforms with commercial partners that can be sold to their clients and partners replicating what PLTR did with AirBus through Skywise.

Everything comes back to net income and FCF. PLTR closed in 2021 with an FCF margin of 20.83%. Today, PLTR has a market cap of around $22.59 billion and trades at a 70.32x FCF multiple, which is low compared to similar companies. PLTR has always beat its estimates and in 2021, guided up for its end-of-year results. If PLTR only meets its estimates with a 30% revenue YoY increase and maintains its current FCF margin, then it will produce $917.31 million in FCF in 2025. At the same multiple as PLTR trades today, PLTR would have a $64.51 billion market cap. If PLTR's multiple compressed to 50x FCF, they would have a $45.87 billion market cap in 2025. This is assuming that PLTR only meets their internal expectations. I can see a scenario where PLTR replicates 2021 and over-delivers with 40% YoY growth on revenue. If this occurs, PLTR will generate $1.24 billion in FCF in 2025, and at today's multiple, its market cap would be $86.76 billion. Based on today's valuation and PLTR's numbers, there is no reason why PLTR can't generate 2-4x returns by the end of 2025, and I feel that could be conservative. I plan on holding PLTR throughout this decade, and if PLTR doesn't get acquired, they should have no problem reaching the $100 billion valuations well before 2030.

I am extremely bullish on PLTR's future and use the volatility to add shares at valuations close to PLTR direct listing. This is a long-term investment for me, and I plan on continuing to add if PLTR goes lower and as it rebounds. PLTR is going to see increased spending on the government side due to geopolitical tensions and is forging terrific strategic partnerships. Shareholders should be excited that PLTR is building software platforms with companies like J, that can be sold throughout their global network. From a valuation standpoint, PLTR looks cheap compared to other software application companies and based on PLTRs internal growth metrics and today's valuation of price to FCF, PLTR looks like a multi-bagger in the coming years.

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This article was written by

I am focused on growth and dividend income. My personal strategy revolves around setting myself up for an easy retirement by creating a portfolio which focuses on compounding dividend income and growth. Dividends are an intricate part of my strategy as I have structured my portfolio to have monthly dividend income which grows through dividend reinvestment and yearly increases. Feel free to reach out to me on Seeking Alpha or https://dividendincomestreams.substack.com/

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.

Additional disclosure: Disclaimer: I am not an investment advisor or professional. This article is my own personal opinion and is not meant to be a recommendation of the purchase or sale of stock. Investors should conduct their own research before investing to see if the companies discussed in this article fits into their portfolio parameters