Israel is the world's second largest cybersecurity market after the United States. Much of the industry's growth has been fueled by Israel's need to counter cyberattacks from rival nations, which led to the creation of the Israel Defense Forces' (IDF) 8200 elite cyber intelligence unit.
Many of Israel's top cybersecurity experts cut their teeth in Unit 8200. Some of those experts subsequently founded major cybersecurity companies that have reshaped the industry.
Check Point Software
Check Point Software (NASDAQ:CHKP) was founded by three former members of the IDF: Gil Shwed, Shlomo Kramer, and Marius Nacht. Shwed and Kramer were former members of Unit 8200, while Nacht was a veteran of the IDF's elite Talpiot military science division.
Check Point rose to prominence by upgrading traditional enterprise firewalls with "stateful inspection" tools that track the operating state of all network connections. It also expanded its ecosystem via the acquisitions of smaller companies like Zone Alarm, NFR Security, Protect Data, Nokia's Security Appliance Business, Liquid Machines, Dynasec, and Lacoon Mobile Security.
Today, Check Point serves over 100,000 businesses and millions of users worldwide, and is the top firewall and UTM (unified threat management) appliance vendor in the world according to IDC. Check Point is still posting slow but steady growth, too: analysts expect its revenue and earnings to respectively grow 7% and 11% this year.
Check Point's protégées
Check Point was the starting point for two other big cybersecurity companies. Shlomo Kramer co-founded security company Imperva (NASDAQ:IMPV) in 2002, and left Check Point the following year. Former Check Point engineer Nir Zuk co-founded Palo Alto Networks (NYSE:PANW), a provider of next-gen firewalls, in 2005.
Imperva and Palo Alto are both based in Silicon Valley, but they still have offices in Israel. Israel-based cybersecurity companies like Check Point generally dole out lower stock bonuses than their Silicon Valley counterparts. This usually makes it easier to generate a "real" GAAP profit instead of a non-GAAP one that excludes stock-based compensation expenses. That's why Palo Alto and Imperva are only profitable on a non-GAAP basis, while Check Point is profitable by both GAAP and non-GAAP measures.
Another top Israeli cybersecurity company is CyberArk (NASDAQ:CYBR), founded in 1999 by Alon Cohen, who served in the IDF's Mamran central computing unit, and tech entrepreneur Udi Mokady. Instead of competing against heavyweights like Check Point and Palo Alto in countering external threats, CyberArk focused on internal threats from corporate spies and careless or disgruntled employees.
By doing so, CyberArk became a market leader in the niche PAM (privileged account management) market, which could grow at a compound annual growth rate of 32.7% between 2016 and 2021 according to Research and Markets.
CyberArk now serves thousands of businesses worldwide, including over half of the Fortune 100 and more than a quarter of the Global 2000. Analysts expect its revenue to grow 19% this year, but for its earnings -- weighed down by marketing and R&D investments -- to drop 13%. Nonetheless, CyberArk remains profitable by both GAAP and non-GAAP metrics.
Check Point was reportedly interested in acquiring CyberArk in early 2016, but those talks eventually fizzled out. However, CyberArk remains a lucrative takeover target for any company that wants to establish a market leading position in the PAM market.
The key takeaways
The cybersecurity market will likely grow for decades to come, fueled by a surge of data breaches and increasingly complex cyberattacks worldwide. However, picking the right stocks in this market is often tough due to their high valuations and weak profit growth.
Therefore investors in this market should take a closer look at Israeli cybersecurity companies like Check Point and CyberArk that lead their respective markets while generating solid profits.
Leo Sun 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 CyberArk Software and Palo Alto Networks. The Motley Fool has a disclosure policy.