Investors are often drawn to high-growth darlings, or companies that excel in one specific niche. Within the cybersecurity industry, Wall Street darlings include companies such as CrowdStrike Holdings, Inc. (CRWD) and Okta, Inc (OKTA), which offer solutions in endpoint security and identity management, respectively. But these companies don’t address the entire spectrum of potential security threats, and customers typically end up with multiple disparate security applications that are not coordinated, providing attackers with ample opportunity to exploit weaknesses.
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Fortinet, Inc. (FTNT) addresses the above concerns with Fortinet Security Fabric, a broad platform that covers the entire digital attack surface, including clouds, endpoints, users, and third-party app integration. The platform operating system is FortiOS. In Q4’20, the company released version 7.0, with 300 new features including zero trust access, a feature that serves as a replacement for VPN.
In addition to software and services, Fortinet also sells FortiGate security appliances as part of the overall platform strategy. The appliances provide Next Generation Firewall (NGFW), which filter network traffic to protect from internal and external threats. They are powered by the company’s custom SPU NP7 network processor, an ASIC that provides an advantage in terms of speed and cost of implementation. Fortinet is also making a push into the secure software-defined wide-area networking (SD-WAN) market.
Financial Performance
Fortinet’s broad cybersecurity platform has driven strong results in 2020 amidst the pandemic, as the company had annual revenue growth of 20%, with it reaching $2.6 billion in sales for 2020.
In addition to strong revenue growth, the company was also quite profitable, with net income growth of 24.1% year-over-year in Q4 and free cash flow margin of 35%. The bottom-line performance gives the company a strong balance sheet, with cash and cash equivalents of $1.8 billion.
Management guided for year-over-year revenue growth of 18% for both 2021and Q1’21. Historically, the company has provided conservative guidance and it typically beats on revenue by 2%-3%, so it is reasonably safe to assume revenue growth will be in the 20+% range.
Recent Events
Fortinet recently announced a registered public offering of $1.0 billion senior notes, $500.0 million due in 2026 and $500.0 million due in 2031. Between existing cash and the planned cash raise, Fortinet will have ample capital for new strategic investments and acquisitions that will keep the company at the leading edge of cybersecurity.
It appears that the first strategic investment has already occurred with this week’s announcement that Fortinet will make a $75 million investment in Linksys, a company that provides router connectivity solutions. This move is intended to address the security challenges involved with home networks that are now part of the work-from-home phenomenon.
Competition
There are four dominant players in the network security industry: Cisco (CSCO), Palo Alto Networks (PANW), Check Point (CHKP), and of course Fortinet. Check Point has a phenomenal free cash flow margin of 55%, but it has anemic revenue growth of 4%. Only Fortinet and Palo Alto Networks appear to be capturing market share. Both companies have similar financial metrics, with annual revenue growth of approximately 20% and free cash flow margin above 30%, making both exceptional investment opportunities.
That being said, it appears that the market is pricing Fortinet stock somewhat higher than Palo Alto Networks, based on Fortinet’s elevated price/sales ratio of 10.7 versus Palo Alto Networks’ 8.3, potentially making Palo Alto Networks the more attractive investment.
Wall Street’s Take
From Wall Street analysts, Fortinet earns a Moderate Buy consensus rating, based on 12 Buys, 9 Holds, and 1 Sell. Additionally, the average analyst price target of $181.80 puts the upside potential at 7%. (See Fortinet stock analysis on TipRanks)
Summary And Conclusions
Fortinet is a company that is not as sexy as some of its cybersecurity peers such as CrowdStrike and Okta. But Fortinet fulfills a corporate need for comprehensive protection from cyber-attacks, which is demonstrated by consistent 20+% revenue growth over the years. This company is not only growing fast, but also has a strong free cash flow margin of 35%.
Palo Alto Networks is the only competitor that can match its financial metrics. While Fortinet appears to be an attractive investment, it is a little overvalued at present with a price/sales ratio of 10.7.
Disclosure: On the date of publication, Steve Auger did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Disclaimer: The information contained herein is for informational purposes only. Nothing in this article should be taken as a solicitation to purchase or sell securities.
