Splunk’s Earnings Report Will Show if its New Revenue Model is Working

Splunk (NASDAQ:SPLK) will report fourth-quarter 2020 earnings after the market closes on March 4. Analysts estimate the company will post earnings per share (EPS) of 96 cents. The whisper number says the company will deliver EPS of $1.00. That would mark a 70% increase from the prior quarter.

Splunk stock was up nearly 20% on February 20. But the market correction fueled by uncertainty surrounding the depth and breadth of the coronavirus has the stock in negative territory for the year. Still, Splunk is well-positioned as investors look around to see which stocks could lead the charge. Despite the extreme market volatility, Splunk is still outperforming the S&P 500, which has also turned negative for the year.

However, prior to the market correction, some investors were starting to wonder if Splunk was overvalued. With that in mind, the question is now that the stock has dropped, will a positive earnings report be enough to give it some juice?

What is Splunk and why is it important?

For those that are unfamiliar, Splunk is software that helps analyze machine data. Specifically, Splunk turns machine data into actionable insights for enterprises. That’s a lot of buzz words. Basically, Splunk identifies potential problems or opportunities for businesses based on on-site data.

Splunk is important because the volume of data available to businesses continues to increase. If you play fantasy sports, you understand the importance of data. But having data is one thing. Being able to accurately analyze that data to determine what is important is something different. And that’s what Splunk does well.

Splunk is also entering the cybersecurity arena. Businesses are paying larger and larger amounts of money to ensure that the data they receive from customers is secure. Although Splunk is at its core a data company, it is using the access to company data to create data-driven cybersecurity solutions.

What this means is that the company continues to find new revenue streams to increase business with its existing customer base. And the company continues to add customers. In the prior quarter, the company added 450 new customers.

If there’s one criticism of Splunk, it’s that the software is expensive. However, Splunk is taking steps to address that by moving to a renewable SaaS (software as a service) model. The earnings report will give investors the first opportunity to see if this is driving up revenue. It will need to because the company’s operating cash flow will be affected by the change. To that end, Splunk is expected to show lower margins in the earnings report.

Is Splunk stock overvalued?

Splunk posted a 40% year-over-year (YoY) increase in revenue in their 2018 third-quarter earnings report. At the time, the company was not profitable, but it trimmed its net loss to $55.7 million with negative EPS of 38 cents.

What a difference a year makes. In the most recent earnings report, Splunk reported $603 million in revenue. That marked a 30% YoY increase. And the company posted earnings of 60 cents per share. If the company’s fourth-quarter projections are accurate, they will deliver a number of around $780 million which would be around 5% higher than the consensus estimate.

The concerns about overvaluation started at the beginning of the year. However, investors largely ignored those concerns, moving SPLK stock 10% higher in February prior to the correction. This was putting the stock above the 12-month price target of $164. And it would have made me a little more cautious heading into earnings.

Don’t fight the trend

Splunk stock looks like it has room to, at the very least, reclaim the ground it lost. And, if the company shows that its new renewable pricing model is taking root, the stock may have room to go higher.

One thing I always try to think about when analyzing a company is that good stocks don’t suddenly become bad. Companies demand for big data will only be increasing. Splunk offers software tools that help them analyze the data and create real-time solutions. Splunk is an industry leader and has solid fundamentals.

As of this writing, Splunk stock was almost back in positive territory for the year. I expect that will become confirmed once the earnings report is released. At that point, the only question investors have to ask is how high can it go? The company is not in an industry that should have much exposure to the coronavirus, and its services remain in high demand.