Palantir Technologies Stock Recently Tumbled. Here's Why There Could Be More Pain in Store.

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Palantir (NASDAQ: PLTR) stock crashed after the company reported first-quarter earnings on May 5, but has since recovered a bit. However, this slight recovery is only a blip in a more likely long-term trend.

Palantir's stock is incredibly overvalued, and it may have its day of reckoning on the horizon as it's unlikely that it can live up to the expectations baked into the stock price. But how overvalued is Palantir?

Image source: Getty Images.

Palantir's business is doing incredibly well

Palantir has risen in popularity thanks to its artificial intelligence (AI)-powered data analytics platform. The basic idea behind Palantir's software is to take various data streams into the platform, and then the software produces recommendations. Furthermore, with its Artificial Intelligence Platform (AIP) product, this work can be automated with AI agents, further increasing a client's autonomy.

Another factor with Palantir is that it has both government and commercial clients. This dual client base is critical to Palantir's success, as governments tend to keep spending during economic downturns. However, with how strong the demand for AI technology is, both client bases are spending hand over fist with Palantir.

In Q1, commercial revenue rose 33% year over year to $397 million, while government revenue rose 45% year over year to $487 million. Palantir is seeing monster growth in the U.S. commercial sector, where it saw 71% year-over-year growth to $255 million. U.S. commercial is a promising area, as many companies are racing to reap the benefits that come with AI deployment.

Overall, Palantir's revenue rose at a 39% pace, making it one of the fastest-growing stocks on the market. It also gave Q2 revenue growth guidance of 38%. While that represents a slight slowdown from Q1's levels, Palantir's management team has a very consistent track record of beating expectations that it sets for itself.

Palantir also displays its strength on the bottom line, with its profit margin continuing to tick up after a slight drop in Q4.

PLTR Profit Margin (Quarterly) data by YCharts

Overall, this quarter has been pretty much everything you could ask for as an investor. But why do I think the stock will suffer more?

Palantir's stock faces jaw-dropping expectations

The biggest problem with Palantir is the high expectations priced into the stock. Right now, Palantir's stock trades for jaw-dropping numbers.

PLTR PE Ratio (Forward) data by YCharts

Valuations of 104 times sales and 224 times forward earnings are just absurd, and are levels that almost no stock ever reaches. If a stock does reach those levels, it rarely grows into the valuation and often crashes. However, Palantir's stock has held up at these levels for a fairly long time. But the stock is a ticking time bomb.

To illustrate how much growth Palantir's stock has already baked in, let's make a few assumptions:

• Palantir's revenue growth accelerates to 40%, and it maintains that level over five years.
• Palantir's profit margin expands to 30%.
• Stock-based compensation effects are ignored.

If all three factors become true over the next five years, Palantir will produce nearly $17 billion in revenue and about $5 billion in profits.

That's a huge rise from today's totals, but if you value the stock using its current market cap (around $300 billion), you'd see that it would trade for around 19 times sales and 61 times earnings. Those are more reasonable valuations and are on par with other big stocks like Nvidia (NASDAQ: NVDA), which currently trades at about 46 times earnings. However, for Palantir's stock to get there, it must stay flat over the next five years.

That's a long time to wait with no movement, and it illustrates why Palantir's stock is just too expensive to consider buying shares here. While I don't know when more pain will come for the stock, it will happen eventually, because almost no stock has ever lived up to the expectations priced into Palantir's stock.

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Keithen Drury has positions in Nvidia. The Motley Fool has positions in and recommends Nvidia and Palantir Technologies. The Motley Fool has a disclosure policy.