Splunk Stock is Falling Along With Revenues. Why?
No matter how hard we try to follow best practices – diversify, don’t try to time the markets, use dollar cost averaging – we always find ourselves reverting back to bad habits. Of the 32 positions we’re holding right now, two of them we engaged in a bit of market timing on – Alteryx (AYX) and Splunk (SPLK) – which dropped -40% and -25% respectively at which time we went long. Today, both of those positions are in the red, which means we’re accumulating them at an even bigger discount. Today, we’re going to talk about why Splunk’s annual revenues appear to be falling along with their stock price.
People always Google “why is stock price X falling” when things start going south. Even Google can’t answer that question. What investors should be asking is “has my thesis changed?” In the case of Splunk’s falling stock price (down -42% from a peak of $219.33 a share), we want to make sure our thesis hasn’t changed as we continue accumulating at these prices. The first thing we want to look at are some basic financials.
Splunk’s Basic Financials
Looking at the annual data shows a company that’s been rocked by The Rona with revenues declining about -5.5% in 2021 (Corporations use something called a fiscal year, which means their accounting year can be finished even though the actual year isn’t. Yes, we think it’s mental too.)
But, if we look at the quarterly numbers, we see a trend that’s far more encouraging. Revenue growth is back, and cost discipline is reigning in losses.
Our investment methodology focuses on revenue growth as one of the most important metrics to watch, so we’re happy to see that’s back on track. If we annualize Q4-2021 revenues (4 * 745 million) we get $2.98 billion. That means if the next three quarters are at least $745 million in revenues, Splunk will handily beat last year’s revenues by +33.6%. So, there’s a path to continuing revenue growth. We can also use these numbers to produce our standard valuation ratio – market cap / annualized sales – which gives us (21 / 2.98) a value of 7. To put that in context, here’s a table that shows relative valuations of enterprise AI/big data stocks using our valuation ratio (lower is better).
| Company Name | Revenue Data | Annualized Revenues (billions USD) | Ratio |
| Palantir | 4Q-2020*4 | 1.288 | 34 |
| UiPath | 2021 Actual | 0.607 | 64 |
| Splunk | 1Q-2021*4 | 2.98 | 7 |
| C3 | 1Q-2021*4 | 0.196 | 37 |
| Alteryx | 4Q-2020*4 | 0.64 | 9 |
| Blue Prism | 4Q-2020*4 | 0.2 | 8 |
| Snowflake | 1Q-2021*4 | 0.76 | 89 |
It’s easy to argue we’re buying Splunk’s future revenue growth at a fair valuation relative to its peers.
Has Our Splunk Thesis Changed?
It’s been about 14 months since we last wrote about Splunk, a company that makes sense of “machine data” which is basically the data exhaust that happens as a result of running loads of enterprise apps in an organization. The product is priced primarily on the amount of data indexed, which is a great business model to have when the amount of big data on this planet is expected to grow exponentially with technologies like global internet, 5G, and IoT.
When checking in on a company, we’ll look at their latest regulatory filings to see what meaningful events have taken place. Splunk’s most recent 8-K is worth mentioning.
The CTO Departs
A few weeks ago Splunk traded lower on news that their Chief Technology Officer (CTO) handed in his resignation so that he could join Menlo Ventures as Partner leading the charge in early-stage investments. Says the press release by Menlo:
While CTO of Splunk, Tim oversaw the company’s shift to the cloud. He was responsible for 10 of Splunk’s acquisitions (SignalFx, Omnition, Phantom Cyber, VictorOps, Streamlio, Plumbr, Flowmill, Rigor, Rocana, and SignalSense) and also worked with Splunk’s venture capital arm.
The fact that he was poached by a venture capital firm to take his career in an entirely different direction isn’t devastating news. Provided there’s no internal turmoil going on at Splunk (it did appear he may have blindsided them with the news), then it just means the company needs to find a successor for this critical role. While some analysts downgraded the stock because of this, it’s a temporary setback which a solid management team ought to easily navigate.
The Latest 10-K
The best way to start learning about a company is with two documents – the latest 10-K and investor deck. Always start with the 10-K, paying special attention to the “risks” section. Then, check out the investor deck to see how they’re painting the bigger picture.
In their 10-K, Splunk talks about shifting from selling licenses to cloud subscription agreements. In other words, they’re making it a simpler business for investors to understand – software-as-a–service (SaaS) which commands a premium in the market. The percentage of revenues attributed to cloud-based subscriptions increased from +13.2% in 2020 to +24.9% in 2021 as seen below.
Since license revenues are being cannibalized by cloud services, the whole thing becomes rather confusing. It may make sense to focus on overall revenue growth while they navigate this transition.
While no customer accounts for more than 10% of total revenues, sales through Splunk’s top two partners represented 41% of their revenue in fiscal 2021. That’s a risk. So is the nearly $4 billion in debt the company has on their books, though that’s offset by cash and cash equivalents of $1.8 billion. Revenues are expected to be volatile as they transition to cloud-based subscriptions, but that doesn’t appear to be a problem thus far.
Splunk lost nearly $1 billion in 2020. If that continues, they’ll need to raise cash after a few years – either with debt, or by diluting existing shareholders. The quarterly chart above shows consistency which translates into good financial controls in the organization. We need to let them get on with it and we’ll continue accumulating. The next time we check in with the company, here are some of the key metrics we’ll look at:
- 2022 Revenue growth – anything around $3 billion and we’re smiling
- Progress moving from license model to cloud subscriptions – cloud is around 25% of revenues now and over 50% of new bookings.
- CTO replacement – sooner they get this sorted the better
If you’re thinking about opening a position in Splunk, don’t try and time the market. Just establish about a quarter of a position and slowly accumulate over time. If tomorrow the stock falls to $99 a share (a -22.65% drop from today’s price of $128 a share), don’t start kicking the dog. It’s simply an opportunity to add to your position while lowering your overall cost basis.
There’s an $81 billion total addressable market (TAM) that Splunk’s chasing and they’ve only captured around 2% of it so far.
Seems like there’s lots of room for further growth if they keep executing as they have been.
Conclusion
The fact that the market keeps on tearing upwards doesn’t make us happy when we’re trying to buy assets. That’s why we prefer to buy growth assets that are depressed. If we’re down -20% or more on a position, we’re accumulating, provided the thesis hasn’t changed. Our views on Splunk haven’t changed at all. There are some risks to keep an eye on, some metrics to watch, but other than that, we won’t be losing any sleep over Splunk’s falling stock price.
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I have invested in Splunk but am curently under water by $40 per share. Regarding your analysis, I agree that the transition to cloud should make the firm more future-proofed.
You mention the departure of the CTO and suggest that he “blind-sided” the company. However what you fail to mention is that 2 weeks prior to his going, a new female CEO or was it President ?) was appointed. My suspicion is that the CTO was unimpressed with that appointment which then accelerated his departure.
A CTO who focusses on acquisitions of other firms, may make sense if the strategy is to scale up quickly – Cisco did this in the past. But I would hazard to say that the CTO job spec at Splunk looking forwards needs to change and be more focussed on technilca and operational competencies.
Thanks for the input Andrew. Says an article by SiliconANGLE, “Top AWS executive Teresa Carlson joins Splunk as president and chief growth officer.” It goes on to say, “she will report directly to Merritt and will work closely with interim Chief Marketing Officer Claire Hockin, Chief Customer Officer John Sabino, Chief Revenue Officer Christian Smith, who will all report to her.”
Interesting theory you present, but two weeks is hardly enough time to assess someone. It could be all part of some master plan. We asked the author and he was referring to the 8-K being filed the same day the CTO gave his notice. That’s pretty standard, so maybe it was known for a while internally before communicating. Hard to say actually. Agree on what you said about an “internally focused” CTO needed going forward.
Regarding your position, you can always top it up to lower your cost basis. One way we always like to think of it is like this.
Let’s say your cost of Splunk was $180 a share. What’s the likelihood that Splunk will NEVER trade at a higher price? Very, very, low. You only incur losses when you sell. Sure, that doesn’t work well in some cases, but for companies with growing revenue streams, it’s almost certain they’ll trade higher than your cost basis in the future. Sleep well at night, and thank you for the comment!
Just a separate point. There are some very annoying logo immages of Twitter, Facebook, Reddit and Buffer that appear as a vertical list down the left hand side of the page that partly obscure the text of your article. It is impossible to get these to vanish. Can you perhaps fix this ?
Thank you for taking the time to report this.
The images you see are social share icons. We have observed that occasionally they will overlap text if the reader is using a browser with a “not normal” zoom setting. In other words, it’s a difficult problem to replicate that affects a small percentage of users.
One thing you can try is to do a hard refresh – press CTRL and hold it, then press F5. That does a hard refresh and may fix the problem. If it doesn’t, please drop us an email – [email protected] – and we can try to help you resolve it. Sorry about the troubles!
Revised! I am concerned I was gifted 1400 shares January 2020 which was reported by them as 1099 Misc Income. I have to pay taxes on the original dollar amount I was given. Because I was grieving I did not understand anything about this nor was I given any documentation how to proceed with the shares by Splunk. I also did not know it would be counted an income. Now the issue is that I owe more taxes than the shares are worth. I sold some at the beginning of 2020 but there was no gains on that sale. Should I hold onto the rest of my shares with hopes it will retain its value in the next couple of years.
We love people who ask for financial advice in comment sections. They have the cojones to just say whatever is on their mind and they’re usually the type of people that are fun to sit at a Blackjack table with.
We’re not proficient in taxes by any means. We use accountants who are reasonably priced because they all work from home. Most importantly, we don’t give financial advice. But we can’t help but say a few words here.
You said “retain its value” and we’re not sure if you meant “regain its value,” so here’s something to think about.
You’re talking “next couple of years,” but forget about the time frame. You don’t have a cost basis, so here’s how you can look at this.
The highest Splunk shares ever were was (checks notes) $225.89 a share. Ask yourself this. Will Splunk shares never trade higher than that price at any time in the future? You’d have a tough time convincing us they won’t, aside from an Enron-type event, or perhaps a buyout, though in the case of a buyout it’s the acquirer who usually pays the premium.
Lastly, Fidelity once took a look at their highest performing self-managed accounts and found that the people with the highest returns were the ones who had forgotten they had the accounts. Sometimes it’s best to not overthink this stuff.