Why Shares of Palo Alto Networks Inc Tumbled 13.5% in May

Image source: Palo Alto Networks.

What: Shares of network security company Palo Alto Networks slumped 13.5% in May, according to data provided byS&P Global Market Intelligence. The company's fiscal third-quarter report on May 26 was largely positive, but a widening GAAP loss and underwhelming guidance sent the stock tumbling.

So what: Palo Alto reported quarterly revenue of $345.8 million, up 48% year over year and about $6 million higher than the average analyst estimate. Billings grew at an even higher rate, rising 61% year over year to $486.2 million. Palo Alto CFO Steffan Tomlinson pointed to strong demand for the company's products. "Robust new customer additions and expansion in existing accounts resulted in market-leading, year-over-year growth as customers increased their investments in our Next-Generation Security Platform, with particular strength in our subscription services."

On a non-GAAP basis, Palo Alto reported earnings of $38.5 million, or $0.42 per share. That's up from $0.23 per share during the prior-year period and in line with analyst expectations. On a GAAP basis, the company remains extremely unprofitable, with a loss of $70.2 million during the quarter. That's far worse than a loss of $45.9 million during the same period last year. Stock-based compensation is the main reason for the discrepancy.

In addition to reporting a larger GAAP loss, Palo Alto's guidance was nothing to write home about. The company expects revenue between $386 million and $390 million during the fourth quarter, up 36% to 37% year over year. Non-GAAP EPS are expected between $0.48 and $0.50. Both are in line with analyst expectations, but investors may have been hoping for better guidance from the company.

Now what: Palo Alto Networks is an expensive stock, trading for nearly 10 times trailing-12-month sales. Over the past year, the stock has been extremely volatile, a hallmark of high-flying stocks like Palo Alto.

PANW data by YCharts.

The company remains unprofitable, and while it is producing positive free cash flow, stock-based compensation and a growing deferred revenue balance are the driving forces. Palo Alto's free cash flow really shouldn't be viewed as a measure of profitability.

Palo Alto's revenue guidance called for a slowdown during the fourth quarter, which no doubt concerned investors and analysts. Following the company's earnings report, a slew of analyst price target cuts rained down on the stock, although most analysts still rate it as a "buy." Going forward, Palo Alto will need to maintain rapid growth to keep investors happy. That becomes harder as the company grows larger.

The article Why Shares of Palo Alto Networks Inc Tumbled 13.5% in May originally appeared on Fool.com.

Timothy Greenhas no position in any stocks mentioned. The Motley Fool recommends Palo Alto Networks. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.