Bear of the Day: Palo Alto Networks (PANW) - Bear of the Day

By Zacks | June 04, 2014 AAA

Network security is certainly a critical area of business and government and we would all like to invest in the champion who comes up with the best solutions. Unfortunately, finding that hero has not been an easy task lately with stocks like Fireye (FEYE) and Palo Alto Networks (PANW).

The former has seen its shares go from $40 to nearly $100 and back to $30 just this year. And the latter has been embroiled in patent litigation with competitor Juniper Networks (JNPR) which was just settled last week. Still, PANW remains a Zacks #5 Rank Strong Sell today.

Palo Alto Networks offers an enterprise security platform featuring a proprietary firewall that delivers natively integrated application, user, and content visibility and control through its operating system, hardware, and software architecture.

Sounds great. But here's a visual of what analysts have thought of the company's earnings outlook since their IPO nearly 2 years ago...

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The steady decline is clearly not a pretty picture of reality cooperating with expectations for the network security newcomer.

Legal Battle Over, Now What?

Last week, Juniper announced that Palo Alto Networks will make a one-time payment to Juniper of $75 million in cash and $100 million in shares of common stock and warrants. The companies entered a licensing agreement with no royalty payments required. With this settlement, Juniper Networks and Palo Alto Networks will dismiss all patent litigation.

Analysts at Raymond James described the competitive landscape this way after the settlement...

"According to Infonetics, Juniper’s share of the Integrated Security Appliances and Software market fell to 10.6% in 2013 from 13.0% in 2012 while Palo Alto’s share rose to 6.4% from 4.5%. The two segment leaders, Cisco (CSCO) and Checkpoint (CHKP), largely maintained share at 33.5% and 16.0%, respectively. This settlement will not likely alter the strategic challenges that remain regarding Juniper’s competitive position in the security market."

Analysts at Wells Fargo were so encouraged by the settlement that they anticipate raising estimates for PANW. Here's what they had to say last week regarding the legal "overhang"...

"We would not be surprised if somewhere between a half to a full turn discount on PANW’s 2015 revenue multiple was factored into the stock. Thus, the removal of this overhang should be viewed as a meaningful positive as investors can now focus on fundamentals."

Obviously, the estimate revision story is still dominated by lower expectations as you can see from this Zacks table that was used to build the previous chart...

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Bottom line: Palo Alto may indeed turn out to be the savior of corporate and government networks, but until this EPS trend turns around, be cautious with the stock. The Zacks Rank will tell you when it's safe again.

Kevin Cook is a Senior Stock Strategist for Zacks where he runs the Follow The Money portfolio.

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