Better Buy: Palo Alto Networks, Inc. vs. Check Point Software

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Cybersecurity represents a $93 billion market in 2018, according to research firm Gartner. That is music to the ears of cybersecurity providers Palo Alto Networks (NYSE: PANW) and competitor Check Point Software Technologies (NASDAQ: CHKP).

But despite the opportunity securing data represents, Palo Alto and Check Point shareholders haven't enjoyed the explosive growth seen by others in the tech industry. Check Point stock is up "just" 16% while Palo Alto's is up 13% in the past year. Rather than a negative, the relatively muted growth for the two companies translates to greater upside potential.

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Which is positioned as the better buy for long-term investors? An argument can be made for both, but for a couple of reasons, one does have the edge.

The case for Palo Alto

If not for its most recent record-breaking quarter, Palo Alto's so-so growth the last 12 months would have been even less positive. But after reporting a 27% jump in revenue to a record $505.5 million and earnings per share excluding one-time items of $0.74 in its fiscal 2018 first quarter, Palo Alto has been on a tear.

Revenue and the 34% jump in EPS year over year handily beat analyst estimates. Palo Alto topped off its quarter with strong guidance as well. CEO Mark McLaughlin expects revenue to climb 23% to 25% this quarter, equal to $518 million to $528 million. To its credit, Palo Alto was one of the few in its peer group expecting another period of stellar top-line growth.

Another strong point was Palo Alto's addition of more than 2,500 new customers to begin its fiscal year. It now boasts over 45,000 customers worldwide. Subscription and support revenue, a means of building a foundation for steady growth, skyrocketed 36% to $319 million. Deferred revenue, a good indicator of Palo Alto's sales pipeline, rose 37% and now sits at $1.9 billion.

The problem was Palo Alto's spending and the negative impact it had on EPS including one-time items. Operating expenses rose 21% to 418.4 million, which, combined with the 40% increase in cost of revenue, negated revenue growth. The end result was that Palo Alto's actual profitability -- in other words, including all costs -- sank 11% to a loss of $0.70 a share.

The case for Check Point

At first glance, it may appear Check Point doesn't warrant consideration compared to Palo Alto. Check Point's $455 million in revenue last quarter was a mere 6% improvement year over year, a drop in the bucket compared to Palo Alto's.

However, CEO Gil Shwed made it clear years ago that his business model is predicated on managing expenses and growing Check Point's recurring revenue base. What the company lacks in a "wow factor" is made up for by containing overhead and driving ongoing sales. Check Point's business model translates to reliable profitability increases.

Last quarter was a microcosm of what investors can expect from Check Point. In keeping with Shwed's long-term plan, product sales declined 6% to $128.7 million last quarter. However, the all-important software subscription revenue soared 22% to $120.33 million. Combined with software service revenue of $205.6 million, 72% of Check Point's total revenue is derived from predictable subscription and service revenue.

Check Point's focus on efficiency was evident last quarter as cost of revenue rose a meager 3% to $51.8 million and operating expenses were up just 3.8% to $229.69 million. In what has become a recurring theme, Check Point's EPS increased nearly three times its total revenue growth to $1.16 a share, a 17% improvement compared to last year.

And the better buy is...

For investors who are comfortable with risk and a wild stock-price ride, Palo Alto -- with its potential for significant long-term growth -- is a sound choice. If Palo Alto is able get a handle on its spending while maintaining its outstanding top-line gains, the sky's the limit.

However, for investors like myself who appreciate consistent profitability gains and reliable, if not mind-blowing, revenue growth, Check Point is the hands-down better choice. For those reasons, along with Shwed's relatively conservative approach to growth, Check Point earns the nod as the better buy.

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Tim Brugger has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Check Point Software Technologies. The Motley Fool recommends Gartner and Palo Alto Networks. The Motley Fool has a disclosure policy.