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Within the past couple of months, Facebook, Microsoft and Apple, each have reported some type of user account or network breach. This has placed quite a bit of attention on enterprise security companies such as Fortinet (NASDAQ: FTNT ) to raise its defenses. And I don't think it's coincidence that the stock has risen as much as 35% during that span.
While Fortinet has also benefited from an excellent fourth-quarter earnings report, these shares have now reached expensive territory -- at least when compared with Check Point (NASDAQ: CHKP ) . Not to say that the stock can't go higher, but the added premium has to come from somewhere. Can Fortinet deliver? And given the increased popularity in smaller players such as Palo Alto Networks (NYSE: PANW ) and Sourcefire, it's also worth asking whether Fortinet's momentum can negotiate with current value.
Is being better enough?
The security services industry has become congested. Everyone's looking to get in position for the growing demand of threat prevention. The good news, though, is that there are plenty of knucklehead hackers out there who will keep the industry booming for quite some time, which is a good thing for investors, in a manner of speaking.
However, though, while the pie might get bigger, it only means that the competition will want bigger pieces. Investors will demand it. But it won't be easy. Market share will be based on what CIOs think is the best solution for their network. To that end, Fortinet is getting high praise over rivals such as Check Point and Dell's SonicWall.
A recent intrusion prevention system, or IPS, test-performed by Network World, which used a security test tool called Mu Dynamics, concluded that Fortinet had the highest catch rate among its peers. Those performing the test said: "In most products, we saw less than two percentage points of difference between the two sets, meaning that there's very little tuning of the IPS possible. Fortinet's FortiGate was the exception, showing a 10% to 25% difference in attacks blocked, offering the network manager more tools to match the IPS to their network."
That's great news for Fortinet, which just also landed a significant contract with Eurosport, the No. 1 pan-European TV sport network, which said it will deploy FortiGate to protect employees across 17 countries in Europe, the Middle East, and Asia. While this announcement is new, there was also an extensive study by Eurosport's IT department before Fortinet won the contract, which revealed that FortiGate's performance levels were three times higher than Check Point. That's all well and good. But what does all of this really mean for investors?
OK, then, how about in execution?
When you get these sorts of raving reviews, one should expect the reverence to manifest itself in the quarterly reports. Here, too, Fortinet is kicking tail. Recently, the company beat both top- and bottom-line estimates as revenue surged 25% year over year. This is while Check Point posted just 3% revenue growth.
Profitability was also strong, up 21% year over year and beating Street estimates by $0.02. While Check Point is indeed the market leader, the company posted only 9% growth in net income. It's hard to not see that Fortinet is gaining market share at Check Point's expense. And if Fortinet's guidance was any indication, management believes that market share growth will continue.
The company expected full-year revenue to arrive in the range of $625 million to $635 million -- ahead of Street forecasts of $618.9 million. This includes first-quarter revenue projections of $141 million, which would represent 20% growth year over year. Conversely, Check Point disappointed analysts with a first-quarter revenue range of $355 million to $387 million, which implies 13% growth. While that's not a bad number, it doesn't signal outperformance, either -- especially in a sector where relative performance is closely monitored.
Sleeping with one eye open
The stock is far from cheap. But there's still a lot to like here. Customers love Fortinet's technology, and the company is growing revenue at a 20% rate. Plus, with cloud platforms not yet fully understood, companies are feeling insecure about sending their "Big Data" into cyberspace, which means that the market should expand. Management fully expects that Fortinet will expand along with it.
The competition, however, has no plans to be steamrolled. And I believe Check Point is one good acquisition away from being truly exciting. In that regard, Palo Alto may be Check Point's perfect defense against Fortinet. In the meantime, though, Fortinet's long-term revenue growth has shown no meaningful signs of slowing down, and neither has cash flow. Besides, with a strong management team keeping watch, investors can sleep a little bit better.
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