A lot of investors have strong opinions about Palantir stock one way or another, but how much is Palantir stock really worth?

I'm going to answer that question in this video by conducting a discounted cash flow analysis of Palantir stock, evaluating the company's growth of free cash flows over the next five years, discounting them today, and applying a valuation to determine how much I think Palantir's intrinsic value is worth.

Now this example provides a very interesting learning experience.

I love when these cases come up when conducting a discounted cash flow analysis, when my discounted intrinsic value differs so greatly from the current market price, because that allows us to look at why there is that big difference and evaluate what assumptions are creating that difference.

So without further ado, let's take a look.

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All right, so here we have my Palantir discounted cash flow model, but before I get into the details of the numbers, let me share with you where I'm getting all of the numbers from.

So from Y charts, I got Palantir Technologies average diluted shares outstanding of $2.415 billion and the current market price of $39.26 for Palantir stock.

I also pulled Palantir's trailing 12-month free cash flow of $696.41 million.

This is where I will start my cash flow forecast, my free cash flow forecast for Palantir for the next five years.

Now, I also got Palantir's growth rate expectations for earnings per share for the next five years from Yahoo Finance and the analysts on Wall Street that are following Palantir stock.

They expect its earnings per share will grow by 57.64% over the next five years.

Now, I'm going to use that growth rate to forecast Palantir's free cash over the next five years, and already you see one of the challenges of creating this type of discounted cash flow valuation.

I'm using an earnings per share forecast and using that for my free cash flow forecast.

So it's an imprecise forecast.

Everything when you're looking to the future is imprecise, but like Warren Buffett says, I'd rather be approximately right instead of precisely wrong.

So I tend to use generalities and I'll share with you the differences I'm using where I'm getting the numbers from to be transparent and so you can tell what's going on and make your own conclusion whether or not the numbers I'm using are accurate or too optimistic or too pessimistic.

Whatever you might feel, I'm going to share with you where I'm getting the numbers so you can come to your own conclusions.

All right, so here we go.

Let's start with 2024 free cash flows here for Palantir.

I told you I got this number from YCharts. 696 million in free cash flow for Palantir in 2024, and I forecasted their free cash flows out for the next five years using the growth rate that I got from Yahoo Finance from the analysts on Wall Street that are following Palantir's stock of 57.64%.

I forecasted the next five years of cash flows using that 57.64% growth rate, and then in the sixth year, I forecasted Palantir's cash flow using a long-term growth rate of 5%.

In this valuation model, I'm forecasting Palantir will grow at an above average rate for the next five years and then settle down to the long-run growth rate of just 5%.

Now, this isn't typically what happens in business.

Usually, a business will transition to a lower growth rate, and I would typically model this out in phases where I would have this short-term growth rate of 57%, and then perhaps a smaller growth rate of 25% for the next five years, and then slowly transitioning to the long-term growth rate of 5% for Palantir.

But for the sake of being concise and shortening the video and shortening the example, I just went straight into the long-term growth rate, which is something that brings down Palantir's valuation perhaps more than it should.

So already, this one number that I'm using or this one strategy that I'm using to evaluate Palantir stock gives it a lower valuation than it should, but I wanted to share that with you so you know that's one area that's bringing the valuation down.

All right, the next thing I want to highlight is the cost of capital.

So Palantir's weighted average cost of capital, I calculated at 19.07%.

Now, I feel that is on the higher side than where it should be, but here's where I'm getting the numbers from.

So Palantir's capital asset pricing model, where I bring in the pricing model cost of equity of 19.82%, mostly because Palantir's beta is very high at 2.72. 2.72, and I got this beta from Yahoo Finance, which provides the beta for Palantir stock.

Additionally, since Palantir has close to zero debt and over 94% of its capitalization is from so because the cost of equity is so high and more than 94% of the company, 94.3% to be precise, is capitalized through equity, that brings up Palantir's weighted average cost of capital to 19.07%.

So these cash flows that I forecasted out for the next five years, I'm discounting them back at that 19.07% growth rate or discount rate, I should say, and that brings me to the present value of the cash flows of the next five years of $8.7269 billion, all right.

Then when we look at the horizon value, and this means the cash flows, I've heard this called terminal value as well.

In the textbooks that I use to teach corporate finance, they call it horizon value.

So I've gotten in the habit of calling it horizon value, but you could think of it as the terminal value.

It's the same concept.

I've got a calculation for a horizon value at $50.57 billion, and I'm taking the 2030 expected free cash flow of $7.1 billion, divided by the weighted average cost of capital of 19.07%, minus the long-term growth rate of 5%, which brings me to that $50 billion horizon value.

But remember, that's the horizon value in the year 2029.

We need to get that value today.

So I discount this horizon value all the way back to today, which brings me to the present value of the horizon value of $21 billion.

When we sum up these two values together, the PV of cash flows plus the PV of horizon value, we get the value of operations at $29.8639 billion for overall value of Palantir's business.

So now we have the value here, $29.863 billion value of operations.

We need to add non-operating assets and subtract debt.

So I add Palantir's cash balance of $3.998 billion, and then I subtract its debt of only $229 million.

And then we have to take that value and divide it by the number of shares outstanding.

So when we take this number, the value of equity at $33.632 billion for Palantir, divided by the number of shares outstanding, I get an intrinsic value calculation of Palantir stock of just $13.93.

And remember in the introduction of the video, I said I like when I get a value that's so much different than the current market price, which is right now $39 per share.

And my intrinsic value suggests it's worth $13.93 per share.

So I love when this happens because then I get to ask further questions.

Why is my valuation so much lower than the current market price?

What are the assumptions that are causing this big difference?

And for one, it's what I mentioned in the beginning of the video when I introduced my model and I said that I'm assuming that after five years, Palantir goes immediately into its long run growth rate, which is a much smaller growth rate of just 5%, which is one tenth the rate of one eleventh the rate of growth of the next five years.

So that's one assumption that's bringing down my intrinsic value.

Whereas if I did what's called the H model, which is a transition into a lower growth rate instead of an abrupt shift to the lower growth rate, that would have lifted Palantir's valuation according to my big difference is the weighted average cost of capital.

I mentioned that I feel this weighted average cost of capital is too high for Palantir stock.

A beta of 2.72 is really high for Palantir given its business.

Typically, when a company is deriving a significant percentage of its revenue from the government, you have these companies become lower beta companies.

They're considered defense stocks, etc.

And they have lower betas.

These revenues are at lower risk than revenues to enterprises because the government has the ability to spend money, whether the economy is in a recession or whether the economy is in robust growth.

So I would adjust downward Palantir's beta.

I would adjust it downward at least to perhaps 1.72.

And you'll notice that brings up the intrinsic value per share to $24.55.

It makes a big difference, right?

Now, if I were to lower the beta further 1.32, that would bring me to a market price and intrinsic value per share that's closer to the current market price.

But at the current beta of 2.72, that's making the big difference of bringing down the intrinsic value per share.

So if I were to make a few changes to the assumptions, you'll see that Palantir's intrinsic value per share will increase.

But still, regardless of the assumptions that I adjust, I don't arrive at a calculation that makes me feel that Palantir stock is undervalued.

And you'll see that.

And that's partly the reason why earlier, a couple of months ago or a couple of weeks ago, I forget, but you can look back on my videos and see when I told investors that I felt Palantir stock was overvalued and it was a good time to take profits.

Earlier this year, around January, I had Palantir stock rated as a buy because the market price was below where I felt the stock price was worth.

And then after the stock price surged, I told investors, okay, the stock price has increased way faster than I thought it would and way ahead of the company's growth in profits and free cash flow.

So it's an interesting example, not one that you should use explicitly, meaning this isn't the one data point you should use to make your investment decision.

This is just one of among many things you can utilize to make your decision about Palantir stock.

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