Palo Alto Networks (PANW -3.91%) released its fiscal 2025 second-quarter results (for the three months ended Jan. 31, 2025) on Feb. 13. Investors’ initial reaction to the report was a negative one as the company’s earnings outlook fell below expectations.
However, shares of the cybersecurity specialist recovered and were down less than 1% on Feb. 14. It seems like investors took notice of the broader context provided by management regarding the health of the business and how its platformization strategy is paying dividends by helping it land larger deals.
But is the improving revenue pipeline enough to make Palo Alto stock a buy now, especially considering its valuation? Let’s find out.
Palo Alto Networks’ valuation is on the expensive side
Palo Alto’s premium valuation may have played a role in the initial sell-off following the quarterly report. Shares traded at 114 times trailing earnings immediately before earnings, so when management guided for fiscal third-quarter earnings of $0.76 to $0.77 per share — falling short of the $0.80 consensus estimate — investors were quick to press the panic button.
However, it’s worth noting the cybersecurity specialist increased its full-year revenue and earnings guidance. At the midpoint, its full-year adjusted earnings outlook of $3.21 per share translates to 14% growth. Still, that doesn’t seem sufficient to justify its high earnings multiple.
One scenario in which Palo Alto stock could head higher is by delivering better-than-expected results in the future. Or it could show that its strategy of consolidating multiple cybersecurity tools into a single platform — platformization — is going to reap rewards in the long run.
The company has beaten Wall Street’s expectations in the recent past. More importantly, it seems capable of accelerating its earnings growth in the long run as its future revenue pipeline is getting stronger.
Platformization is setting the company up for solid long-term growth
Palo Alto is focused on providing comprehensive protection to its customers through a full platform instead of individual solutions. The company believes that by “leveraging features like automation, AI, and analytics, this approach simplifies threat detection, response, and management, reducing the complexity and costs associated with managing various tools.”
This platformization approach has found takers. On the latest earnings call, CEO Nikesh Arora pointed out:
We delivered approximately 75 new platformizations in Q2, up from approximately 45 in the year ago. We now have a total of over 1,150 platformizations within our top 5,000 customers.
Palo Alto’s platforms address verticals such as network security, cloud security, endpoint security, and security operations. What’s worth noting is that its customers are adopting multiple platforms. According to Arora:
As you might expect, most of our platformization[s] start with network security and are from customers that are platformized in one area. However, our number of two-platform customers grew over 50% in Q2, and we’re seeing the number of three-platform customers up three times year over year.
This explains why Palo Alto has gained tremendous deal momentum in fast-growing areas such as next-generation security services, where the number of $10 million deals it struck increased 50% year over year last quarter. The improvement in deal activity led to a 21% jump in its remaining performance obligations (RPO) to $13 billion.
RPO refers to the total value of a company’s contracts that will be fulfilled in the future, and the growth in this metric means Palo Alto’s business has a healthy pipeline. This likely explains why consensus estimates are projecting accelerating earnings growth for the company.
Data by YCharts.
Investors who are willing to pay the premium to buy this cybersecurity stock may be rewarded with more upside in the long run. However, they should be prepared for volatility as well, since any signs of a slowdown for Palo Alto could send the stock plunging. Investors should assess their risk profile before diving in.
