The cybersecurity industry can be a tough one to invest in since many companies have high valuations with non-existent profits. But investors should still have some exposure to the cybersecurity market, which could grow from $122.5 billion to $202.4 billion between 2016 and 2021, according to research firm Markets and Markets.
So today I'll discuss a balanced cybersecurity company that might appeal to conservative investors: Check Point Software (NASDAQ: CHKP). The Israeli company is known for upgrading traditional enterprise firewalls with "stateful inspection" features that track the operating state of all network connections as they pass through. It also sells ZoneAlarm, a popular firewall for mainstream users. Let's examine the four clear signs that Check Point's best days are still ahead.
1. Surging cyberattacks worldwide
The outbreak of cyberattacks over the past few years reveals that many government agencies, businesses, and individuals remain poorly protected. Last year, data breaches exposed 4.2 billion records, and roughly 4,000 ransomware attacks occurred daily -- compared to 1,000 daily attacks in 2015. Business email compromise (BEC) scams hit over 400 businesses daily, draining $3 billion from businesses over the past three years.
That's why many companies are investing heavily in firewalls. In FireMon's 2016 State of the Firewall report, which surveyed 600 IT security professionals, 91% of respondents stated that firewalls were "as critical as ever" in securing their networks. The same percentage didn't see that fact changing over the next five years. This ensures that Check Point -- which serves over 100,000 businesses and millions of users with its firewalls -- will continue growing.
2. Stable growth and profitability
Check Point's revenue rose 7% to $1.7 billion last year, and analysts anticipate 8% growth this year. It attributes that slow and steady growth to higher sales of its appliances and management gateways, as well as higher subscription revenues for software. Customers are also transitioning toward higher value packages with advanced threat protection solutions, and the company has been inking more deals with bigger customers which have an aggregate transaction value exceeding $1 million.
Check Point's growth admittedly isn't as impressive as that of Palo Alto Networks (NYSE: PANW), the next-gen firewall vendor founded by former Check Point engineer Nir Zuk. Palo Alto's revenue surged 49% to $1.4 billion last year, and analysts anticipate 26% growth this year.
However, Check Point crushes Palo Alto (and many other cybersecurity companies) in terms of profitability. Check Point is profitable by both non-GAAP and GAAP measures. Its non-GAAP earnings rose 13% last year, while its GAAP earnings grew 12%. Wall Street expects its non-GAAP earnings to improve 10% this year.
Palo Alto is only profitable on a non-GAAP basis, since that metric excludes hefty stock-based compensation (SBC) expenses, which consumed 29% of its revenues last year. On a GAAP basis, which includes those expenses, it remains deeply unprofitable. Check Point stays consistently profitable because it spent just 5% of its revenues on SBC expenses last year.
3. Plenty of free cash flow for additional acquisitions
Check Point's consistent profitability generates steady cash flow for the company -- which enables it to acquire smaller companies like stealth-mode security start-up Hyperwise and mobile security firm Lacoon.
Check Point was reportedly interested in acquiring another profitable Israeli cybersecurity company, CyberArk (NASDAQ: CYBR), but those talks eventually fizzled out. However, it's likely that Check Point will make additional purchases in the near future to expand its security solutions beyond firewalls.
4. Reasonable valuations
Check Point rallied nearly 40% over the past 12 months, but it still trades at just 26 times earnings -- which is much lower than the industry average of 103 for application software makers. CyberArk, which is also considered one of the more stable cybersecurity plays, trades at 57 times earnings.
So should you buy Check Point today?
I don't own any shares of Check Point, but I've been keeping an eye on the stock. I believe it's one of the best long-term plays in the volatile cybersecurity market, and that demand for its products will continue growing among both enterprise and mainstream consumers. Its consistent profitability, conservative use of stock bonuses, and low valuation all make it a compelling buy at current prices.
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Leo Sun has no position in any stocks mentioned. The Motley Fool owns shares of and recommends Check Point Software Technologies. The Motley Fool recommends CyberArk Software and Palo Alto Networks. The Motley Fool has a disclosure policy.