Palantir (NYSE:PLTR) rallied 23% after its recent earnings report beat expectations. It is up even more after Trump’s recent election victory—explains why it’s the most searched stock on the market right now.

Unfortunately, you usually have two types of people yelling the loudest when a stock like this pops: bulls who have no limitations on how much they’re willing to pay, and bears who are constantly “dooming”—and end up being proven wrong.

I assume most people are in the middle and usually want to find out if people are herding or if there’s something truly game-changing here you don’t know about.

Let’s a look at the facts; I’ll add in some of my own opinions—and you can better make up your mind about whether or not Palantir is truly worth buying.

Before we take a look at its financials, let’s try to understand the business. It’s the only way you can make out whether or not the business’ growth will be long-lived.

What Does Palantir Really Do?

In simple terms, Palantir is a Big Data software company. It has strong connections to US government agencies and also sells to the private sector.

It has two segments:

• Government: $408.3 million in Q3 revenue. $307.6 million in revenue for the same period last year. ~33% YOY growth.
• Commercial: $317.2 million in Q3 revenue. $250.6 million in the same period last year. That’s about 27% YOY growth.

Four software platforms form these two segments.

• Gotham
• Foundry
• Apollo
• Artificial Intelligence Platform (AIP)

Palantir does not report figures for individual software segments.

Palantir Gotham: This is where Palantir makes most of its revenue. It’s not growing the fastest—AIP likely is—but Gotham is where Palantir gets its reputation of being “mysterious” since this is the software platform Palantir sells to governments.

(Note: “Gotham is now used broadly across government functions, and we also offer Gotham to our commercial customers.” 2023 10-K.)

It’s truly hard to gauge the true value that Palantir provides to governments. That’s because Palantir does not reveal—for obvious reasons—exactly what it sells to the U.S. Department of Defense and the FBI. It has also been used by the U.S. Special Operations Command (USSOCOM).

Gotham can aggregate a huge amount of data; i.e. from social media or satellite imagery. Social media data can help Gotham identify connections between individuals or entities—and presumably a whole lot more. The latter is probably geospatial analysis for tracking.

Here’s a visualization if you still don’t get it:

Palantir Foundry: This platform is something that you can get to know the specifics of more deeply than the Gotham one. Foundry is mostly for commercial customers.

Foundry can unify data from a lot of sources—breaking down silos—to create a single source of “truth.” Simply put, this is a must for managing complicated datasets from multiple systems. For example, it was used by the National Covid Cohort Collaborative to analyze electronic health records across the U.S.

It’s also used by companies for supply chain management for real-time analytics to optimize inventory levels. It can also reduce stockouts using its predictive tech. A retailer called Unit8 reduced out-of-stock levels by about 50% with Foundry. Banks also use it for risk management fraud detection—and so on.

Here are some notable customers:

• Morgan Stanley (finance)
• Merck KGaA (healthcare)
• Airbus (manufacturing)
• NHS England (government/healthcare)
• Fiat Chrysler Automobiles (automotive)

It has pretty broad use cases.

However, it’s not the only one that offers data analysis. You can find companies like Alteryx, Informatica, Microsoft (Azure Data Factory), and even Tableau being mentioned as Palantir Foundry’s competitors. Many of them have a decent amount of product breadth. But rest assured—unless Palantir’s Foundry pulls a CrowdStrike—the customers it does have are unlikely to switch. Migrating large datasets from Foundry to another system is not an expense other companies want in their books—forget the costs of retraining their employees. This is primarily why new customer wins are pretty important for Palantir.

That said, this is still something that has a worse moat than Gotham. Many government agencies are pretty much married to Palantir due to the trust they’ve built up over the years.

This should help you better digest how Foundry works:

Artificial Intelligence Platform: This is probably going to be a very big part of Palantir’s business—if it already isn’t—since this AI platform can do a lot due to its ontology-based (not to be confused with oncology) architecture.

Ontology here refers to a structured framework that defines the relationships between different types of data and concepts within an organization. Think of it as a map or blueprint that organizes information in a way that makes it easy to understand and use.

Explaining all the nitty gritty here is going to take us off-topic. However, what I like about AIP is that it can integrate with systems—with the help of AI—without requiring extensive data migration.

I’ve said earlier that data migration is pretty expensive and companies don’t wouldn’t want to switch from Palantir Foundry to others due to this. Well, it applies the other way around too, but Palantir’s AIP is a pretty clever way of “solving” that problem and attracting customers who are using competitors’ solutions.

My take is that you should pay extra attention to how Palantir Gotham performs. Palantir’s relationship with the government gives that portion of its business one of the biggest moats. The rest of its business is highly advanced—and growing very fast, don’t get me wrong—but these commercial customers can still switch as other companies work on making data migration cheaper. The government is unlikely to do that. Palantir has so far done a good job of protecting their secrecy.

If you’re thinking about making moves on PLTR stock, you’d wanna know how much that moat is worth.

Is PLTR Stock Overvalued or Undervalued?

Palantir is definitely a special business in the sense that you don’t have to worry about the dependability of its long-term earnings. The company has very sticky clients, and the US DoD, the FBI, and more are certainly among the stickiest you can have. That’s why I think valuing Palantir in more traditional ways is not going to be always accurate. The revenue generation and the customer wins are likely going to stick around for a long time—both government and commercial.

“Our customer acquisition strategy generally targets large-scale, hard-to-execute opportunities at large government and commercial institutions. The high installation costs, high failure risks, complexity of data environments, and the long sales cycles associated with these opportunities raise the barriers to entry for competition.” 10-K 2023.

That said, the growth is not as permanent. The government agencies have money, but they don’t have infinite money. They don’t have the capacity to buy 20-30% more from Palantir annually for decades. It’s more realistic that this sort of growth can only last a few years at most. I think the problem arises when you put too much emphasis on Palantir’s growth—both short-term and long-term—when valuing its stock. Sooner or later those growth figures are going to fall off, and the stock might follow that fall if the market is overly optimistic.

Let’s find out how optimistic the market is right now, but we’re first going to look at the company’s financials.

Palantir stock is up 649% from its May 2023 trough till now because not only did it grow fast and surprise the market, it also successfully transitioned from being a cash-bleeding growth company to having a net margin of nearly 20%—still growing its top and bottom line—with no end in sight to how much bigger its top line could get. However, estimates do see the margin growth falling flat.

Just to clarify: Palantir raised full-year revenue guidance to $2.805-$2.809 billion. That means ~28% growth from 2023. I’m using analyst numbers here.

Now how good are the bottom-line estimates?

These estimates are definitely not foolproof and have been outperformed by Palantir’s actual earnings over the past few quarters. However, what you can see is that the market expects Palantir to outperform, and if it fails to outperform by a big margin, the market will likely punish it.

“…In recent periods, we have increased our focus on commercial customers. In the future, we may increasingly focus on such customers… We have also increased our focus on new technologies, such as AI. …As we expand into and within new and emerging markets and heavily regulated industry verticals and technologies, we will likely face additional regulatory scrutiny, risks, and burdens from the governments and agencies which regulate those markets, industries, and technologies. …it is uncertain we will achieve the same penetration and organic growth in the future and our reputation, business, financial condition, and results of operations could be negatively impacted.” Q2 10-Q.

Regardless, PLTR stock can still go up if:

1. Palantir keeps beating bottom-line estimates by 15-20% each quarter.
2. The broader market remains healthy and Wall Street doesn’t mind holding up the premium.

The second point is why I think PLTR stock is a risky bet.

PLTR stock has not been driven up just by the gains in its income statements and its balance sheet. It has been driven by a surge in optimism and momentum, too. It needs the latter two to keep hold of its current price.

Investors are paying an unprecedented premium here. They won’t do that if the broader economy dives, and that’s the biggest risk factor here. The growth here is dependent on more than just the government, and it is likely that any pause in growth in its Commercial segment will knock PLTR stock down greatly.

“…until recent quarters, we had a history of incurring net losses, and we anticipate our operating expenses will continue to increase and we may not be able to achieve or maintain profitability in the future; we may not be able to sustain our revenue growth” – Q3 10-Q.

No one knows when that pause could happen; the stock could gain a lot more as long as the broader market continues to rally and macros hold up.

I believe most people would agree that PLTR stock trades too steeply when you judge it by traditional metrics. Hence, it’s fair to say PLTR stock is overvalued.

However, it can get a lot steeper if the broader market rally holds up. The question boils down to whether or not you’re willing to take the downside risk in return for not missing out on the momentum-driven gains here.

PLTR Stock: The Upside vs the Downside

Before I weigh the upside against the downside, you should understand that no one can tell you how high or how low a stock can go with absolute certainty. I’ll be using analysts’ estimates coupled with what I believe may or may not happen in the coming year.

Let’s take a look:

The $70 price target is based on a Forbes analysis which assumes revenue growth at a 31% average over 5 years. The $47 price target is more based on some recent analyst price target rises after the Q3 report.

The downturn scenario is what I calculated using Palantir’s historical PE ratio during market downturns and a potential EPS of 35 cents in 2025. If we see a worse downturn, Palantir could dive well below $20.

The average price target right now is at $34.30.

Is the downside risk here worth the upside? That really depends on the type of investor you are.

For me—personally—it is not. I would not be comfortable paying so much for this business, even if that does mean I could be missing out on some gains. Does that mean you shouldn’t buy this? Not really. If you are a trader who is looking to take on the risk for momentum-driven gains, I wouldn’t say that’s unreasonable. However, you should stay away from PLTR if you want your portfolio to focus more on value.

The Bottom Line

Are you willing to accept substantial downside risk for potential momentum-driven gains? If yes, feel free to buy PLTR stock. However, don’t bet the farm on it and limit your exposure.

If you’re either a value investor; if you don’t have much money to lose in the long run, or if you don’t have the time to keep up with each of your investments and you just want to watch your money grow passively, I wouldn’t rate PLTR stock as a buy. In fact, I would start taking some profits on it if I was sitting on a hefty gain here. The market won’t go up indefinitely, and it’ll likely drag down Palantir’s premium valuation with it when the cycle reverses.

While I acknowledge the potential of PLTR as an AI play, my conviction lies in the belief that some AI stocks hold greater promise for delivering higher returns and doing so within a shorter time frame. If you are looking for an AI stock that is more promising than NVDA but that trades at less than 5 times its earnings, check out our report about the cheapest AI stock.

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Disclosure: None.