I'm one of the biggest bulls on Palantir's (NASDAQ:PLTR) operations that I know of, but I'm also very careful about buying strong companies at the right valuation. My analysis shows that the market has priced years of growth into Palantir's stock in advance. My attitude to achieving the highest alpha is either long-term with growth-at-a-reasonable price or short-term with a significant undervaluation at an inflection point. Since Palantir offers neither of these, I consider it a bad investment at this time.
My valuation model shows a -4% compound annual decline rate in the company's stock price over the next five years, and a -61.74% negative margin of safety in the company's stock price for investment. When combined with my macroeconomic analysis, including historical analogies and recession probabilities, my neutral investment sentiment on the stock is reaffirmed, though I reiterate that I highly admire the company's management and operational trajectory.
Operational and macroeconomic analysisThe focus of this portion of the analysis is the reaction that Palantir's stock will likely face in a recession, as I'm suggesting this will be the most likely catalyst to cause a major decline in the company's valuation. At the moment, the stock has gained 360% in 12 months, which appears to be based on speculative behavior in the market and momentum-based sentimenta conclusion supported by the company's forward GAAP price-to-earnings ratio of nearly 160. Moreover, the company has a trailing 12-month EV-to-EBITDA ratio of over 300. I will analyze the valuation further in the next section of this thesis, but readers should develop a preliminary understanding of the company's overvaluation for the foundation of this part of the analysis.
As a quick operational synopsis for those unfamiliar with Palantir, the company creates advanced data analytics and management software. It has two primary platforms: Gotham (primarily for government and defense intelligence) and Foundry (primarily for commercial enterprises).
First, Palantir has a notable advantage during times of recession: a large proportion of its clients depend on its services for cost-saving processes and non-discretionary needs. As a result, it offers more recession resistance than companies selling less vital products and services, like entertainment. For concrete examples, consider that Tyson Foods (NYSE:TSN) achieved $200 million in savings over 24 months using Palantir Foundry. Moreover, Foundry users have reported a 30% reduction in costs related to supply chain, inventory management, and procurement processes.
Additionally, Palantir's government contracts account for 55% of its revenue as of 2024, which are typically less sensitive to economic downturns due to their focus on defense and public safety priorities.
However, no business is immune to a reduction in GDP amid a recession. The important element to remember is that a moderate revenue growth rate contraction for a fairly valued company will likely result in a moderate decline in its valuation; but a moderate revenue growth rate contraction for a significantly overvalued company will likely result in a significant decline in its valuation. This is primarily why investors buying Palantir at the present price may be fine in the short term but face significant losses in the medium to long term.
According to J.P. Morgan, there's a 45% probability of a U.S. recession by the end of 2025. While the U.S. economy has shown resilience in 2024, slowing consumer spending, weaker labor demand, and potential fiscal tightening could dampen growth in 2025-2026. Additionally, Deloitte has projected a contraction of 2.1% in U.S. GDP by 2026 as a result of trade tensions, government spending cuts, and inflationary pressures. Palantir generates 61.9% of its revenue from the United States as of its last annual report, so this U.S. recession forecasting data is crucial, especially as the U.S. economy is a reliable proxy for global economic dynamics, given that the U.S. dollar is the global reserve currency.
There are multiple examples of overvalued companies that have contracted significantly in price during recessions. For example, Cisco (NASDAQ:CSCO) traded at a forward price-to-earnings ratio of over 140 during the dot-com bubbleits share price crashed over 85% when growth expectations moderated. Similarly, Amazon (NASDAQ:AMZN) had a price-to-sales ratio of over 37.5 during the height of the dot-com bubble, and its share price fell by approximately 90% when the bubble deflated; it took nearly a decade for Amazon's valuation to recover. Furthermore, while Tesla (NASDAQ:TSLA) was not publicly traded in 2008 (its IPO was in 2010), it struggled to secure funding during the Great Financial Crisis, and its valuation estimates dropped significantly as a result. Google (NASDAQ:GOOGL) (GOOG) also saw its stock price fall by over 55% during the Great Financial Crisis. Therefore, it's reasonable to suggest that during a significant contraction in GDP during a recession beginning in the next few years, Palantir's stock price could fall 50% or more.
As a result, I'm holding off on buying a stake in the company for now. Like Buffett, I'm prioritizing a strong cash position to allow for the opportunity to buy undervalued equities (hopefully like Palantir) when macroeconomic conditions present them.
Valuation analysisIn my current valuation model for Palantir, I forecast that it will have $7 billion in annual revenue in December 2029 with a GAAP net income margin of 37.5% (the consensus is a net income margin of 35% for 2026-12), leading to an annual net income of $2.625 billion. With 3,000 shares outstanding in five years due to share issuance, GAAP earnings per share would be $0.875. I use a realistic and conservative trailing 12-month price-to-earnings terminal multiple of 75, which is higher than Salesforce's (CRM) current ratio of 55 due to sentiment factors but still low enough to be a conservative and fair estimate. Tesla, another stock that carries substantial intangible value, has a current price-to-earnings ratio close to 120, reaffirming that a ratio of 75 is fair and conservative for Palantir in five years' time. The result of my estimate is a December 2029 price target of $65.625 for Palantir. As its current price is $80.55, this indicates a potential compound annual decline rate of -4% over the period.
Palantir's weighted average cost of capital (WACC') is 16.32%, with an equity weight of 99.87% and a debt weight of 0.13%, with equity costing 16.34% and debt at 0.054% after tax. When discounting back my December 2029 price estimate for the stock to the present day using the WACC as my discount rate, the implied negative margin of safety is -61.74%.
ConclusionGiven the outcome of this analysis, it's clear to me that Palantir is not worth investing in right now. Instead, waiting a few years for around a 50% contraction in its valuation would be the prudent value investor's mindset. At the present valuation, returns are momentum-based at best and speculative at worst. There is no use in investing in the best companies in the world at bad valuations. Instead, a company like Palantir needs to be bought at a reasonable price, which I believe is most likely to occur coinciding with the next U.S. recession.