Wall Street ran away from the tech sector in 2022. The Nasdaq Composite is down over 24% in the past year as inventors worry about the increasing cost of debt and a slowing economy. Software specialists were hit hard, especially if they are at the point in their development where they are still trying to generate sustainable growth and profitability.
The cybersecurity niche offers some attractive counterpoints to that bearish outlook. Demand for digital security is steadily rising and could expand for many more years as more business and entertainment moves into the cloud.
With that prospect in mind, let's look at two well-positioned companies in the cybersecurity space. Read on for some good reasons to like Microsoft (MSFT 0.37%) and Palo Alto Networks (PANW 0.11%) here in early 2023.
1. Microsoft
While parts of its massive software empire are under demand pressure, Microsoft's cloud services division is still expanding at a solid clip. Cloud revenue jumped 31% in the most recent quarter after adjusting for currency exchange shifts. That surge was the key factor keeping overall sales rising at 16% through late October.
Executives didn't hesitate to call out its cybersecurity platform as a major growth driver. "Security continues to be a top priority for every organization," CEO Satya Nadella said in a recent conference call with investors.
A Microsoft investment doesn't carry nearly the same risk that you'd get with a pure cybersecurity specialist thanks to its diversity and huge sales footprint. That factor might make it the right choice if you prize stability over potentially faster earnings growth.
2. Palo Alto Networks
For investors seeking focused exposure to the industry, consider Palo Alto Networks. The cybersecurity provider is seeing fantastic growth lately, with its 25% first-quarter sales boost exceeding management's optimistic forecast from three months prior. The company raised its fiscal-year outlook in mid-November, which sets it apart from many of its tech peers.
The most exciting aspect of a Palo Alto Networks investment is the likelihood of expanding profit margins. The company notched several consecutive quarters of net profitability, and management is determined to extend that positive momentum into the foreseeable future. "We will continue to balance growth with profitability and cash generation," chief financial officer Dipak Golechha told investors in late 2022.
The company is on track to establish a new record on net income margin, but there are some key differences between this period and prior margin expansions. Palo Alto Networks has a much bigger sales base, a wider platform of services, and more recurring income. These factors all point to sustained annual profitability that might extend well beyond the 2023 fiscal year.
Valuation considerations
Both cybersecurity stocks are valued at a premium. Microsoft shares are trading for nearly 8.7 times annual sales while Palo Alto Networks is valued at 7.5 times sales. Both of these valuations have come down over the last year, though, with the general pessimism around tech and software stocks.
As a result, investors can accumulate a position in these growing businesses at discounted prices. There's no telling when Wall Street will start loving tech stocks again. But patient investors can look past that temporary pressure as they focus on the bright outlook for the cybersecurity sector.
