PSTG Future EV/FCF Projections

Investment Analysis Clubs Saul’s Investing Discussions
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To start with, I will say that the following includes many, many assumptions. I’ve uploaded my spreadsheet at the following link, so that whoever might be interested could take a closer look at the formulas and see if I have made any errors worthy of pointing out. Much of the information associated with this “analysis”/projection is from the latest Pure Storage earnings presentation (https://s21.q4cdn.com/687136699/files/doc_financials/present…). Please do not use this analysis on its own for any investment decision relating to PSTG.

If this seems to be worthwhile methodology, this type of analysis may become my version of a Tom Engle “Page Post” (TMF1000 - http://my.fool.com/profile/TMF1000/activity.aspx ).I will say that I do find the good case that I developed to be more likely than the base case (which probably has revenue growth rates dropping too quickly), and considerably more likely than the bad case. If year-over-year revenue growth for 2018 (FY19) is somehow only 25%, I will not be staying invested in Pure Storage and would hopefully sell out prior to the announcement next March of those full-year results.

Link to spreadsheet file:
https://drive.google.com/file/d/15c_ZsZeI0FQKlJhFkzs-1JlIJjq…

			          2017 (Act.)	2018 (project.)	2019	2020	2021	**2022	2023**
**Base Case**           FY16	FY17    	FY18	 FY19	        FY20	FY21	FY22	FY23	FY24
Revenue (millions)	 $440.40  $728.00  $1,023.00  $1,335.00  $1,668.75  $2,002.50  $2,302.88 	 $2,533.16 	 $2,659.82 
Rev. Growth Rate	-	65.3%	40.5%	30.5%	25.0%	20.0%	15.0%	10.0%	5.0%
Op. Margin	       -	-	8.0%	10.0%	12.5%	15.0%	17.5%	20.0%	22.5%
FCF %	       -	-	0.75%	2.3%	4.1%	6.0%	7.9%	9.8%	11.6%
FCF	       -	-	 $7.70 	 $30.07 	 $68.88 	 $120.20 	 $181.41 	 $247.05 	 $309.28 
Net Cash	-	-	 $597 	 $619.56 	 $671.22 	 $761.37 	 $897.43 	 $1,082.72 	 $1,314.67 
**Share Price**	-	-	$21.38 	 $23.50 $28.00 	 $30.00  $33.00  **$34.00 	 $31.00** 
Share Count (mil's)	-	-	 218 	 264 	 276 	 289 	 301 	 314 	 326 
Market Cap (mil's)	-	-	 $4,660.8 	 $6,192.3 	 $7,728.0 	 $8,655.0 	 $9,933.0 	 $10,659.0 	 $10,106.0 
Enterprise Value	-	-	 $4,063.8 	 $5,572.7 	 $7,056.8 	 $7,893.6 	 $9,035.6 	 $9,576.3 	 $8,791.3 
EV/FCF	               -	-	 527.8 	 185.3 	 102.4 	 65.7 	 49.8 	 **38.8 	 28.4** 
Y-o-Y FCF Growth	-	-	 - 	290.6%	129.0%	74.5%	50.9%	**36.2%	25.2%**

**Bad Case**
Revenue (millions)	 $440.40 	 $728.00 	 $1,023.00 	 $1,278.75 	 $1,508.93 	 $1,690.00 	 $1,791.40 	 $1,845.14 	 $1,845.14 
Rev. Growth Rate	-	-	-	25.0%	18.0%	12.0%	6.0%	3.0%	0.0%
Op. Margin	-	-	8.0%	9.0%	10.0%	11.0%	12.0%	13.0%	14.0%
FCF %	-	-	0.75%	1.3%	1.8%	2.3%	2.8%	3.3%	3.8%
FCF	-	-	 $7.70 	 $16.02 	 $26.45 	 $38.07 	 $49.31 	 $60.02 	 $69.24 
Net Cash	-	-	 $597 	 $605.01 	 $618.23 	 $637.27 	 $661.92 	 $691.93 	 $726.55 
**Share Price**	-	-	$21.38 	 $22.00  $22.00   $21.00  $18.00   __*$12.00 	 $8.00*__ 
Share Count (mil's)	-	-	 218 	 266 	 281 	 296 	 311 	 326 	 341 
Market Cap (mil's)	-	-	 $4,660.8 	 $5,852.0 	 $6,182.0 	 $6,216.0 	 $5,598.0 	 $3,912.0 	 $2,728.0 
Enterprise Value	-	-	 $4,063.8 	 $5,247.0 	 $5,563.8 	 $5,578.7 	 $4,936.1 	 $3,220.1 	 $2,001.4 
EV/FCF	               -	-	 527.8 	 327.6 	 210.4 	 146.5 	 100.1 	 **53.7 	 28.9** 
Y-o-Y FCF Growth	-	-	 - 	108.0%	65.1%	44.0%	29.5%	**21.7%	15.4%**

**Good Case**
Revenue (millions)	 $440.40 	 $728.00 	 $1,023.00 	 $1,381.05 	 $1,795.37 	 $2,262.16 	 $2,782.46 	 $3,338.95 	 $3,906.57 
Rev. Growth Rate	-	-	-	35.0%	30%	26%	23%	20%	17%
Op. Margin	-	-	8.0%	11.0%	14.0%	17.0%	18.0%	19.0%	20.0%
FCF %	-	-	0.75%	3.8%	6.8%	9.8%	10.8%	11.8%	12.8%
FCF  	-	-	 $7.70 	 $51.83 	 $121.24 	 $220.62 	 $299.19 	 $392.42 	 $498.19 
Net Cash	-	-	 $597 	 $648.83 	 $770.06 	 $990.68 	 $1,289.87 	 $1,682.29 	 $2,180.48 
**Share Price**	-	-	$21.38 	 $25.00  $30.00   $36.00   $40.00   **$47.00 	 $50.00** 
Share Count (mil's)	-	-	 218 	 263 	 274 	 284 	 294 	 304 	 314 
Market Cap (mil's)	-	-	 $4,660.8 	 $6,575.0 	 $8,220.0 	 $10,224.0 	 $11,760.0 	 $14,288.0 	 $15,700.0 
Enterprise Value	-	-	 $4,063.8 	 $5,926.2 	 $7,449.9 	 $9,233.3 	 $10,470.1 	 $12,605.7 	 $13,519.5 
EV/FCF	               -	-	527.8	114.3	61.5	41.9	35.0	**32.1	27.1**
Y-o-Y FCF Growth	-	-	-	573.1%	133.9%	82.0%	35.6%	**31.2%	27.0%**

Apologies for not being able to get this table to look better, but I will not be spending any longer formatting it here. It should show up well in the Google Doc. I have bolded the years 2022 and 2023 and the associated share prices EV/FCF ratios, and the Y-over-Y FCF growth.

To summarize my methodology (which is certainly up for critique/refinement), I have listed the actual revenue numbers from the past few years. For 2018 (FY19), the base case includes the midpoint of the revenue guidance provided by Pure Storage management. The good case includes a revenue growth rate a bit above guidance, with the revenue growth rate slowing but not slowing as quickly as the base and bad cases. For the operating margin, I used the target model provided by Pure management as a guide, with good case reaching it faster and the bad case not quite reaching it during the “analyzed” period. For the base case, I assumed that 3/4 of the increase in operating margin would flow down to FCF (bad case, only half…good case, the full amount). For the base case, I assumed that 3/4 of the FCF would be added to the net cash position (bad case, only half…good case, all of the FCF added to net cash position). For share counts, I use the 218 million at present, with 251 as the starting point for future years (as that’s what it would be with GAAP profits). I looked at last year’s report and the share count increased by 13.6 million from 1/31/16 to 1/31/17, so I used that in guesstimating future share counts (using more dilution for the bad case, less for the good). I then adjusted the assumed share prices to get the 2022 and 2023 values to provide an EV/FCF ratio that was numerically about the same as the year-over-year FCF growth rate (similar to the 1YPEG). I didn’t drop the share price fully in the bad case to get a good match.

Tons of assumptions, each of which could be debated.

Bottom line, revenue growth rates need to stay high, share counts need to not be overly diluted, and Pure needs to continue boosting their operating margin and FCF margin. Otherwise, Pure Storage shares won’t appreciate a ton. That is a whole lot of John Madden-worthy observations, I know, but still maybe provides some value of ranges of what it would take to justify various future share price possibilities for PSTG shares.

volfan84
caveat emptor…and note that this is my first post of this type and includes ongoing methodology development

Before hitting post, I can’t help myself and will do a “best case” projection, with growth rates staying higher longer (that will not be included in the linked Google doc). For that scenario, changing the growth rate from 40% for the present year, tapering down to 20% revenue growth for 2023…same margins as “good” case…I get a $70/share price for the end of 2023 to get an EV/FCF value of 29.5 (against a 30.2% FCF growth rate…just under $5.2B of revenue). Who knows what in the world will actually happen.

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Surely this post didn’t have too big of an impact on the 5.5% drop early this morning.

As a follow-up in mulling the methodology before I fell asleep last night, determining a reasonable “terminal value” for a time period after which FCF growth would simply match inflation fairly closely could be a decent way to model far out periods to get a range of possible prices for some specific target date (probably looking 3-5 years into the future).

Also, as I was asleep or partially asleep, I developed a decent desire to mimic this analysis for Arista Networks in the near future if no one beats me to it.

-volfan84
Still long PSTG for the time being…definitely long ANET

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Before undergoing another deep dive, I’m Curious as to your convinction on growth rates and the basis behind them. It seems to vary significantly in your two analysis, why?

To perhaps build some parameters of confidence around this figure, I might suggest fully understanding assumptions put into

Potential of Market

  • TAM (today and the future)
  • Competition (today & future)

Timing of Market

  • Customer decision making (when are investments made, why are investments made-> ie, end of life decisions, expansion decisions, business drivers, etc)

Longer term sales cycles

  • Life cycle of revenues (when would an array be replaced, given the software aspect what upsell opportunities exist)

These could help you further understand your growth forecasts which make a significant different in the outputs if your model. Much easier than just guessing and probably provides higher confidence in your measure

Keep digging and refining, a path isn’t built by walking the ground only once.

Thanks from the rest of us

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<<>.

Vol,

Step back from the market. Remember my license plate on the Tesla 1D1DNUTH1N.

The earnings report was just fine. Arista’s earnings report was just fine. As Saul itemized, what in there would make one want to sell?

Stocks sell off for many reasons. Sometimes just because they are “tired”. PSTG has ha da great recent run.

There is uncertainty regarding FlashBlade. That is the one material thing I find and I have already complained about it here.

No, I do not think, given that Pure has TWO, that is TWO, products, that they should give projections for the the smaller and faster growing of the two, and then refuse to keep us apprised as to how this very material new product is doing. Platitudes will not cover it.

This said, two weeks form now the market may very well have forgotten it.

Stocks are like politics, you have the news of the day and a few days later they move on to something else.

Should I sell Nvidia because it has underperformed since Trump announced his preliminary plan to impose tariffs? Because Google is announcing its tensor service (and doing a good job of marketing it). Some would say yes, some would say no.

But, if you want to reallocate that money, taxes are not a concern, Nutanix made quite clear that they are a dominant player in their market. Fundamentally, if they were not losing money in bucket fulls (albeit, their losses are small cash flow wise), look at Nutanix’s CAP

Sometimes CAP x Growth supersedes the Tinker Ratio…but not usually. They are usually the same thing.

Tinker

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Volfan,

I commend you for putting in the work involved in this attempt.

A problematic assumption that you have in your models is the linear correlation between Op. Margin and FCF. Last year Operating Margin was 8.3% and FCF was 0.75%. The gulf between the two was the $65M Pure spent on “Purchases of property and equipment.” This was actually down from $77M the year before, so unless you know something I don’t about it, I would suggest that this investment isn’t likely to increase much, and might continue to decrease. Arista, which has more revenue, only had a $15M spend for this category in 2017.

In your “Good” model you have those going to 20% and 12.8%. I think it’s highly likely they could converge and be more like 20% and 19%.

In your “Bad” model you have them going to 14% and 3.8%. I think maintaining such a gulf is nigh impossible.

Bear

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JAFbrblev,

To perhaps build some parameters of confidence around this figure, I might suggest fully understanding assumptions put into
…
These could help you further understand your growth forecasts which make a significant different in the outputs if your model. Much easier than just guessing and probably provides higher confidence in your measure

Keep digging and refining, a path isn’t built by walking the ground only once.

Thanks from the rest of us

Definitely some good suggestions for future thought and refinement before deciding on any future action. I’ll factor some of this in when I re-visit the spreadsheet.

From looking at your Foolish profile, it appears that you and I have several things in common with the UT thing, entreprenuerial interest, electric utility sector experience, being about the same age, and sharing some tastes in companies to invest in (AAPL, AYX, KMI, NVDA, SBUX, SHOP, SQ, and TTD all in common with some level of position; with me being a bit less diversified).

volfan84

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Step back from the market. Remember my license plate on the Tesla 1D1DNUTH1N.

The earnings report was just fine. Arista’s earnings report was just fine. As Saul itemized, what in there would make one want to sell?

Tinker, you’d probably be glad to know that I did nothing today. I did try to enter a bear call spread with SNAP to try out the trading mechanics on my new platform, but doing that type of thing will have to wait for another…if ever). With doing nothing, another new all-time portfolio high (me at 22.6% compared to 10.3% for the S&P 500 during the same period).

From Bear’s reply:
I commend you for putting in the work involved in this attempt.

A problematic assumption that you have in your models is the linear correlation between Op. Margin and FCF. Last year Operating Margin was 8.3% and FCF was 0.75%. The gulf between the two was the $65M Pure spent on “Purchases of property and equipment.” This was actually down from $77M the year before, so unless you know something I don’t about it, I would suggest that this investment isn’t likely to increase much, and might continue to decrease. Arista, which has more revenue, only had a $15M spend for this category in 2017.

In your “Good” model you have those going to 20% and 12.8%. I think it’s highly likely they could converge and be more like 20% and 19%.

In your “Bad” model you have them going to 14% and 3.8%. I think maintaining such a gulf is nigh impossible.

Bear,

Thanks for the feedback. Getting feedback to refine the analysis was a main reason I wanted to throw this out into the open.

Modeling that delta between operating margin and free cash flow margin was certainly one of if not the most “shot in the dark” assumptions I made and had the most uncertainty about. For a good or best case, you’re probably right that the gap between those should be quite a bit smaller. I’ll try to refine that part in adding a best case to go with base, good, and bad. I’ll try to look at Arista, NetApp, and maybe a few other companies to try to get a better feel for what a reasonable range for the delta would be between operating margin and cash flow generation.

The initial bad case definitely included some almost worst possible outcomes across revenue growth, share dilution, and margins (although I dampened the extreme of the share dilution from a version prior to looking at the historic share count increase from '16 to '17). Hopefully not too much was read into my “for the time being” included in my reply to my original posting in this thread.

volfan84

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I’ll try to refine that part in adding a best case to go with base, good, and bad. I’ll try to look at Arista, NetApp, and maybe a few other companies to try to get a better feel for what a reasonable range for the delta would be between operating margin and cash flow generation.

Here’s a quick tweak of a “best case” with revenue growth slowing fairly gradually and FCF margin starting to more closely approach operating margin.

			   2017 (Act.)	2018 (project.)	      2019	2020	 2021	2022	2023
	    FY16   FY17	     FY18	        FY19	      FY20	FY21	 FY22	FY23	FY24
Revenue (mils)$440 $728    $1,023              $1,432      $1,976    $2,628    $3,417  $4,305  $5,296 
Rev. Growth Rate -  -	      -	               40.0%	     38%	33%	30%	 26%	23%
Op. Margin	  -	-   8.0%	       11.0%	    14.0%	17.0%	18.0%	 19.0%	20.0%
FCF %	          -     -   0.75%	        5.0%	     9.0%	**12.9%	14.2%	 15.4%	16.5%**
FCF  	          -	-   $7.70 	       $70.9 	     $177      $339     $483 	 $661   $874 
Net Cash	  -	-    $597 	      $668 	     $846    $1,185   $1,668   $2,330  $3,204 
Share Price	  -	-    $21.38 	       $26.00 	    $40.00   $55.00   **$70.00   $85.00  $95.00** 
Share Count (mil's)-	-     218 	       263 	      274 	284 	 294 	  304 	 314 
Market Cap (mil's)-      -   $4,661 	     $6,838        $10,960  $15,620  $20,580  $25,840  $29,830 
Enterprise Value  -	-   $4,063.8 	     $6,170 	   $10,114  $14,435  $18,911  $23,510  $26,626 
EV/FCF	          -	-    527.8	      87.0	     56.8	42.6	39.1	35.6	30.5
Y-o-Y FCF Growth  -	-	-	     821.2%	    150.8%	90.6%	42.6%	36.7%	32.2%
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Note, this does not mean that I am predicting the PSTG share price to go up 4x in value between now and early 2023 (from under $21/share to over $80/share), but shows some (very) rough operating parameters for which such an occurrence could make sense.

For a smidgen of context, NetApp’s present market cap is $16.6 billion, with TTM revenue of $5.75 billion, which is down from $6.3 billion for 2013 and 2014. NetApp’s TTM FCF is $1.2 billion after being around $800 million the past 2 full years and a bit over $1 billion for the 2 years before that.
http://financials.morningstar.com/cash-flow/cf.html?t=NTAP&a…

Considering the continued growth trajectory included in my made up future numbers for PSTG compared to the decline in revenue and FCF from 2013 and 2014 to 2015 and 2016 for NetApp, the made up, future valuation I have assigned Pure Storage seems reasonable for the assigned parameters.

volfan84

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Vol,

Given that PSTG has Cisco, Arista, and Nvidia as either partners or companies recommending their products to work along theirs in cloud and AI implementations, it is hard to see a company with greater credentials than PSTG to become, literally, the next NTAP. We should not dismiss the fact that NTAP crashed after a huge rise, it was a tremendous disruptive company in its day. NTAP may be having a new day now, finally.

But this said, even back in the rise of the internet, that created that huge bubble, the need for data, has never been so great as it is today, and it will only keep growing exponentially, with the need for less lag, parallesism and the like. Creating more volume and more need for quality than the NTAP EMC days of yore.

I do not find it far fetched at all for PSTG to get to NTAP’s valuation. Not at all. FlashBlade is the current material product, but FlashArray will probably continue to be the leading product for a long time to come.

As always, speculative, but PSTG and Nutanix both got to $1 billion in revenues in roughly the same record time. Both however remain unprofitable. That is the one big difference between them and NTAP, who was always extremely profitable when I invested in them long ago. It was their software that set them apart, along with off the shelf components.

The issue is, it is tough to know. I find a better rule of thumb that is simpler. I simply take their projected long-term margins, multiply it by their next year’s forecast revenues, say $1.3 billion x 15%, as the low end of their estimate and you get profits of (at least operating profits) of $195 million. Divide that by the enterprise value and you get an enterprise value/ earnings ratio of around 20x.

Hardly seems overvalued, or a company in a bubble. Clearly, if PSTG is successful, the share price is going to rise from here. Yes, this is a hypothetical profit number, that one can convert into a cash flow number, and it does not take into account future dilution, but it demonstrates that PSTG is clearly not outgrowing its perceived growth, because if it does grow into its margin goals, it is not overvalued, at all, at present.

What we have to ask is, it here some reason that PSTG does not have a defensible CAP? Is there some reason PSTG does not have a long runway for growth, and growth rapid enough to make us smile?

I am a bit apprehensive with the way they talk abut the FlashBlade numbers, but other than this, I have not found anything. This is of course a material thing. And we cannot know everything as passive investors, thus why we diversify, more or less, if the circumstances call for it.

Tinker

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Guys - I don’t want to suggest that this thread is in any way myopic but one other factor in these scenarios is that Pure Storage perhaps goes down the EMC route.

I loved NTAP as fast growing innovative pure play storage company that stole share from everyone as the new kid on the block but I was also in EMC and appreciated them for very different reasons. Sure both were much more nimble than the archaic IBM etc however EMC was also a massive business builder.

They not only did storage but they identified innovation in parallel spaces and acquired promising prospective capabilities and then turned them into massive value creation enterprises in their own right which were spun out into a federation of semi-independent businesses. They were much more successful at it than attempts by HP and Dell.

EMC acquired small start ups - Pivotal Software and VMWare, incubated them, then partially listed them and benefited from the federation of interconnectivity.

I would like to see Pure and or Nutanix do the same if they see the opportunity and feel it necessary to extend their core business to take advantage of innovation pathways and not be outflanked.

My point is these best/worst scenarios focus on the existing core business and don’t fact or transformational business development possibilities that Pure could participate in.

Obviously in the end EMC was bought by Dell and in large part because Dell was struggling to compete in storage and wanted to get into these amazing growth areas.

Ant

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I’m Curious as to your conviction on growth rates and the basis behind them. It seems to vary significantly in your two analysis, why?

There are 3 scenarios. He’s trying to find the realistic boundaries for a smooth sailing scenario and a $-HitTheFan scenario, bounding a “normal” scenario. All to see if any of them would make money.

Great exercise, don’t have time to run the numbers.

Dan