Investing in the cybersecurity realm is lucrative, as it's an area where most companies are unwilling to cut their budgets due to an economic downturn. Now, this isn't to say they will go out and sign a huge contract, but existing spending should be safe. This makes it an excellent place for investors to look for deals, as the industry is relatively recession-proof.
Among the top cybersecurity investments in my portfolio are CrowdStrike (CRWD 2.03%) and Cloudflare (NET 1.44%). Each tackles a different cybersecurity segment, and both look like great investments. Let's find out why now could be a great time to purchase some shares of these two companies.
1. CrowdStrike
CrowdStrike started with endpoint security, which protects any way a device could access a network (like a phone or cloud workload). For three years running, third-party Gartner named the company a leader in endpoint protection platforms, showing the competency of its offering.
However, that's just one segment of cybersecurity. While CrowdStrike doesn't have a solution for everything, it does have more than 20 modules that customers can add to beef up their cybersecurity strategy. Getting existing customers to expand their subscriptions is key for CrowdStrike, as it provides additional revenue. Fortunately for investors, CrowdStrike has been highly successful in doing this.
| Number of Modules Customers are Using | Percent of Customer Base | YOY Growth |
|---|---|---|
| 5 or More | 62% | 52% |
| 6 or More | 39% | 62% |
| 7 or More | 22% | 75% |
Data source: CrowdStrike. YOY = Year over Year
With over 23,000 customers and $2.56 billion in annual recurring revenue, CrowdStrike also has a broad customer base.
From a profitability standpoint, CrowdStrike doesn't produce generally accepted accounting principles (GAAP) profits but produces an impressive amount of free cash flow (FCF). In the fourth quarter, it converted 33% of revenue into FCF, a margin many companies can only dream of. While the stock trades at an expensive 46 times FCF, I think this valuation is tolerable thanks to the rapid growth rates CrowdStrike is putting up. With Wall Street analysts expecting 34% growth in fiscal year 2024 (ending Jan. 31, 2024) and 29% growth in FY 2025, CrowdStrike still has a lot of potential.
CrowdStrike is my top cybersecurity stock if I must pick only one, but I also think Cloudflare has a lot to offer investors.
2. Cloudflare
Unlike CrowdStrike, Cloudflare is a bit more diversified. Cloudflare's mission is to build a better internet, and it's doing that by hosting websites in its data centers rather than an IT room at its clients' locations.
This approach has many benefits. First, because the data centers are globally distributed among more than 275 cities, anyone navigating to the website will have world-class speeds, as they are physically closer to the host. Second, website hosts don't have to worry about being overwhelmed with visitors, as Cloudflare has the capacity to manage the workload. Finally, anyone who wants to host a website using Cloudflare obtains top-notch cybersecurity, as Cloudflare wants its clients' sites to perform flawlessly.
Its cybersecurity offerings include identity integration, firewall-as-a-service, smart routing, and DDoS (distributed denial of service) protection. With Cloudflare, all of the expensive and time-consuming activities of hosting a website are pawned off, making this an ideal solution for nearly everyone that wants to have a website.
Considering over 162,000 customers utilize Cloudflare and 2,042 spend over $100,000 annually, their solution is quite popular. Like CrowdStrike, it depends on existing customers using the platform more. A metric that measures their success is the dollar-based net retention rate. This number was 122% for Q4, meaning customers spent $122 for every $100 they spent last year.
Cloudflare also isn't profitable but is making strides toward flipping that script. In Q4, expenses only rose 34% compared to revenue growth of 42%. This efficiency increase will help Cloudflare produce non-GAAP profits, which management projects will be $0.16 per share during 2023.
Another consideration for investors is Cloudflare's valuation, which is also quite high.
NET PS Ratio data by YCharts.
With Cloudflare's forward price-to-sales (P/S) ratio of 13.6, nearly matching its lowest trailing P/S ratio of all time, it's a decent indication that the stock should have some upside within the next year because the company is still executing quite well. If you're looking for another cybersecurity stock, Cloudflare makes a great addition alongside CrowdStrike.
