Cybersecurity has developed into a necessary expense for nearly all businesses in operation these days. Having a business network inappropriately accessed by outsiders or allowing customers' personal information to be leaked can be very destructive, ruining a company's reputation and resulting in lost business. Fortunately, there are several cybersecurity operations that specialize in protecting different aspects of a business.
These cybersecurity companies can make great investments, in part because they end up being subscription-based and vital to operations today and in the future. Three companies set to benefit from this long-term growth potential are CrowdStrike Holdings (CRWD -0.68%), Okta (OKTA -0.65%), and Zscaler (ZS 0.30%). You also don't have to worry about picking a winner from this trio, as they work together and focus on protecting various portions of a business's network.
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1. CrowdStrike
CrowdStrike protects network endpoints -- like laptops or mobile devices -- with its cloud-based Falcon platform. The software is a more advanced version of the anti-virus software likely installed on personal devices. What makes it more powerful is its threat graph, which utilizes artificial intelligence to analyze data from all its clients collectively and stop breaches before they happen.
This solution has successfully captured large customers (companies with 7,500 or more employees) with an estimated 35% market penetration, including 65 of the Fortune 100 and 15 of the top 20 U.S. banks. In addition, with only 3% penetration in midmarket companies and less than 1% in the public sector and small businesses, CrowdStrike has a vast growth runway.
In CrowdStrike's fiscal year 2022 (ended Jan. 31), the company generated annual recurring revenue (ARR) of $1.73 billion, up 65% year over year. However, management believes it can achieve at least $5 billion in ARR by the end of fiscal 2025 -- a compound annual growth rate of about 42%. As it already has reached a 30% free cash flow (FCF) margin, CrowdStrike will generate at least $1.5 billion in cash every year after fiscal 2025 if it can meet its target.
With confident management, strong cash flows, and a large customer base still to capture, CrowdStrike is my top cybersecurity pick.
2. Okta
Okta's solution focuses on identity management -- ensuring the person accessing the network or account is who they say they are. Through single sign-on or multi-factor authentication, Okta has solutions for businesses to manage internal employee authentication and customer verification. Similar to CrowdStrike, Okta's solutions have rave reviews from giants like T-Mobile US, FedEx, and Major League Baseball.
In 2021, Okta purchased Auth0, a platform that allows user authentication from any platform or coding language. This solution fits with Okta's preexisting product offering but also skewed fiscal year 2022's (ended Jan. 31) financial results. With Auth0, revenue grew 56% year over year to $1.3 billion. Without it, revenue was up 39% to $1.16 billion. As Okta fully integrates Auth0, it expects cross-selling and international opportunities to arise, further driving revenue growth.
Okta's long-term growth projections are not as ambitious as CrowdStrike's, but they are still solid. By fiscal year 2026, it plans to have $4 billion in revenue (a 35% annual growth rate) with a 20% FCF margin.
While Okta isn't growing as rapidly as CrowdStrike, a sustained 35% growth rate will produce fantastic results for shareholders over four years.
3. Zscaler
Zscaler's Zero Trust Exchange allows data flow from networks to access points securely. Whether the data is on a website or in the cloud, Zscaler ensures employees everywhere can access the information they need.
Zscaler reported 63% year-over-year quarterly sales growth to $256 million for its second quarter of fiscal year 2022, which ended Jan. 31. It also achieved a 12% FCF margin, allowing Zscaler to add more cash to its balance sheet. While Zscaler doesn't have any long-term projections, fiscal year 2022 guidance is set at 56% revenue growth.
Zscaler also announced that it had achieved 100% renewable energy usage at its offices and data centers through direct purchases and renewable energy credits. This achievement will undoubtedly boost Zscaler's reputation among its customer base and environmental, social, and governance (ESG)-focused funds, both items increasing the stock's ownership base.
What stock is the best buy?
In the wake of the growth stock sell-off, each company has seen its valuation slashed over the past year.
CRWD PS Ratio data by YCharts
With most valuations returning to pre-pandemic levels, investors don't need to be concerned with overpaying for any of these stocks.
My top cybersecurity pick is CrowdStrike, and it likely will be for many years. With its rapid growth rate, superior FCF margins, and a vast potential customer base left to capture, CrowdStrike outshines Okta and Zscaler. However, spreading out risk by purchasing a cybersecurity stock basket is also a great option. In that case, Okta and Zscaler make a great addition to CrowdStrike if forming a cybersecurity basket.
Industry tailwinds are blowing in cybersecurity's favor; investors should allocate their portfolios accordingly for this decade-long opportunity.
