No Internet sector has escaped this year’s bear mauling, including current investor favorites such as fiber optic and wireless.
Indeed, it’s entirely possible that fewer than 30 ‘Net stocks will post gains in 2000. If so, the Security sector could be represented on that modest list by four or five companies, which would give it far and away the best showing of any one Internet group.
That security stocks would be among the top performers this year – or any, for that matter – really shouldn’t be a surprise. After all, as with bandwidth, there is no such thing as “enough” security, and there will always be a demand for effective network security products and services.
But it also is a tough market to crack. Large corporations are understandably reluctant to switch security vendors, thus it’s hard for newcomers to gain a foothold. That’s one reason why the security remains one of the smallest sectors, with no more than 20 publicly traded firms.
So are there any security stocks worth investing in these days? Let’s take a look.
Most investor attention has been directed toward virtual private network and firewall market leader Check Point Software Technologies , one of the two or three top gainers among ‘Net tickers all year. Shares closed Wednesday at $139.25, or 180% above their Dec. 31 price.
CHKP’s popularity on the street is understandable. With trailing 12 months’ revenue of $353 million, the company easily outdistances runner-up and competitor RSA Security (formerly known as Security Dynamics Technologies), which has notched sales of $264 million over the past four quarters.
Check Point not only has been profitable every quarter back through 1997, the Israel-based company has increased per share net profits for eight consecutive quarters. Further, revenue growth has been accelerating on a quarterly basis.
Clearly, then, CHKP is the class of the sector. But with a valuation through Wednesday’s close of 60x TTM revenues, Check Point has the second most-expensive stock among security players. (InterTrust Technologies, a perpetual money-loser, is the priciest at 65x TTM revenues of $5.8 million.) I believe CHKP is overdue for a correction.
As is Netegrity , whose shares have gained 55% for the year-to-date through Wednesday. NETE eked out its first profit (3 cents per share) in Q3, but it has neither the earnings history nor the sales volume ($37.3M over the past four quarters) to justify its $1.8 billion cap and TTM revenue multiple of 47x. While Netegrity looks like a comer – sales have finally taken off this year and it is newly profitable – shares appear to have gotten ahead of the game.
There are, however, several other profitable security companies whose shares are priced more attractively. They are RSA Security, AXENT Technologies , Internet Security Systems
and WatchGuard Technologies
.
RSA Security, which specializes in authentication, encryption and public key management products, posted a 94 cents per share net profit in the recent quarter, best among all security firms, and has been profitable each quarter for the past four years. Shares are down 40% for the year.
With a solid earnings record and total revenues, RSA’s valuation of 7.3x TTM revenues seems especially attractive. One area of concern: Year-over-year quarterly revenue growth has been stuck around 30% since Q1.
Security management and firewall software provider AXENT has an even lower revenue multiple: 4x TTM sales of $135 million. But AXNT, whose shares are down 12% YTD, is barely profitable – 2 cents per share in the most recent quarter. And sales have stagnated, with revenues from last year’s Q4 actually topping those from each quarter in 2000.
WatchGuard Technologies, which offers network security software and services on an outsourced subscription basis, t
urned its first profit (50 cents per share) in Q3. With only $47 million in revenue and a market cap of $791 million, the company is in the second tier of security companies. Thus, its valuation of 17x TTM revenues isn’t compelling. For the year, WGRD is just about where it started, having gained less than 1% through Wednesday.
Finally, Internet Security Systems recently completed its seventh straight profitable quarter (11 cents per share). The Atlanta-based company, up about 8% this year, has the second-highest market cap ($3.3 billion) of all ‘Net security vendors, with a valuation of 19x TTM revenues of $172 million.
With robust revenue growth and increasing earnings, ISSX looms as an emerging ‘Net security powerhouse. I would look for a slightly better entry point than the current $76.94 per share, but given the volatile market of late, who knows, ISSX might be trading below $60 by week’s end.
