Cisco or FireEye: Which Is the Better Cybersecurity Play?

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Comparing Cisco Systems (NASDAQ: CSCO) and FireEye (NASDAQ: FEYE) might not seem fair at first. Cisco is a diversified networking behemoth primarily known for supplying networking infrastructure like routers and switches to corporations and governments. Its market capitalization of almost $200 billion dwarfs FireEye's $2.8 billion in market cap and the smaller company provides just cybersecurity solutions.

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But Cisco and FireEye cross paths in the cybersecurity business. As already mentioned, Cisco is a diversified conglomerate, and security is one of its many business units. In fact, Cisco's cybersecurity business is bigger than FireEye's and has been growing at a decent clip. But does this make Cisco a better bet to take advantage of the massive opportunity in the cybersecurity space, as compared to a pure play like FireEye? Let's find out.

The case for Cisco

Cisco's cybersecurity business grew 8% year over year in the latest quarter, generating revenue of $585 million for the networking specialist. This was one of the few bright spots for Cisco in an otherwise tepid quarter, where its total revenue fell 2% year over year because of weakness in the core networking infrastructure business.

Cisco's cybersecurity business is its fastest-growing source of revenue. The company is putting great stress on this business as it recognizes that cybersecurity has big potential.

In May last year, Cisco struck a deal with IBM to share threat intelligence data in a bid to reduce the risk from hackers. The aim is to speed up threat detection and help organizations to automate faster and more accurate responses to breaches.

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More importantly, the partnership gives Cisco access to IBM's Watson artificial intelligence (AI) engine. Watson has been trained to counter cybersecurity threats with the help of 1 million security documents, and this is helping Cisco launch AI-enabled cybersecurity offerings. The company announced a couple of new subscription services last quarter that, it says, use "AI to predict future IT failures before they happen."

These efforts should help Cisco capture more cybersecurity customers, boosting its deferred revenue in the process. Cisco's deferred revenue from the cybersecurity business shot up 42% year over year in the last reported quarter, as it locked more customers into its ecosystem.

It won't be surprising if Cisco's deferred revenue keeps increasing as it adds AI-enabled features with the help of the IBM partnership. And the recently closed acquisition of Perspica, a company that specializes in machine learning and real-time data processing, can also contribute toward Cisco's AI-enabled cybersecurity development.

The case for FireEye

FireEye has been in business for just over a decade, focusing exclusively on cybersecurity. But it is failing to make a mark despite being a pure-play cybersecurity company.

During the last reported quarter, FireEye's revenue grew less than 2% year over year, slower than Cisco's cybersecurity segment. Furthermore, weaker-than-expected guidance added to FireEye's woes. The company reduced its full-year revenue and billings guidance because customers are entering into shorter contracts, which set the alarm bells ringing.

FireEye's average customer-contract length fell to 25 months in the last reported quarter as compared to 27 months in the year-ago period. Looking ahead, the average contract length could decline to a range of 20 months to 24 months. The company attributes the decline to subscription plans that give customers the flexibility to choose between one- and two-year deals.

By comparison, FireEye was locking in customers for three years when it was focusing on product sales as compared to subscription services. FireEye can be given the benefit of doubt as the shift to subscription services is leading to margin improvements, though investors need to watch for red flags over the next few quarters.

Apart from shorter contract lengths, FireEye is witnessing a slowdown in customer sign-ups. The company added 234 customers during the last reported quarter, an 18% drop as compared to the prior-year period. Additionally, FireEye's deal size seems to be decreasing, as the number of $1 million contracts fell to 43 from 47 in the year-ago quarter.

The weakening customer momentum is bad news for FireEye, as it might be falling prey to intense competition in the cybersecurity space. Its peers, like Palo Alto Networks and Cisco, are clocking impressive revenue growth, and FireEye is clearly falling short in this area.

The verdict

There's no doubt that Cisco is the better bet to take advantage of the potential growth in the cybersecurity market. The company's long-standing expertise in networking has helped it score a huge client base, giving it the liberty to cross-sell its cybersecurity offerings by creating cost-competitive packages.

FireEye, on the other hand, is finding growth difficult to come by. Its top line has stagnated, and customer growth has stalled.

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Harsh Chauhan has no position in any of the stocks mentioned. The Motley Fool recommends Cisco Systems, FireEye, and Palo Alto Networks. The Motley Fool has a disclosure policy.