2 “WannaCry Plays” That Are Crying to Break Out

Cyber security stocks have been soaring in recent days, as the crippling WannaCry malware attack underscores the vulnerability of the world’s data. Investor enthusiasm has mostly boosted the technology titans, but it would be shrewder to buy shares of smaller, lesser-known companies. This issue, I examine two small-cap cyber security players on the verge of breaking out.

First, for insights into this week’s front-page news about WannaCry, I turn to Winston Churchill. As prime minister of Britain during World War II, Churchill contributed more than any single person to the defeat of fascist tyranny.

Churchill, the hero of the British Empire, once said: “The empires of the future are the empires of the mind.” He was predicting that in the future, the powerful would not be those who controlled land; it would be those who controlled information. Which brings me to WannaCry, the weaponized computer code that has infected more than 230,000 computers in 150 countries, bringing powerful nations to their knees.

Spy vs. Spy…

Today’s tit-for-tat and sometimes self-defeating cyber war reminds me of the “Spy vs. Spy” cartoons that I used to read as a kid in Mad magazine. Intelligence officials surmise that the WannaCry ransomware came from North Korea, a bizarre totalitarian state that would be cartoonishly funny if the stakes weren’t so high.

WannaCry targeted Microsoft Windows operating systems and encrypted documents, images, music and other files. In return for a key that unlocked the data, WannaCry demanded ransom payments in the crypto-currency bitcoin.

The attack started on Friday, May 12 and rapidly infected the mission-critical IT systems of hospitals, banks, airlines, and a host of public and private entities around the world. According to the international police agency Europol, the WannaCry attack was unprecedented in scope. We’re not talking about a bunch of leaked emails that embarrassed a few indiscreet politicians. Lives were placed in danger, as surgeries were canceled, planes grounded and utilities shut down.

Security experts suspect that WannaCry was cobbled together from stolen NSA hacking tools, which are being retrofitted by hackers and sold on the so-called “dark web” for criminal use.

Global cyber espionage continues to rage around the planet, engulfing political parties and national leaders of all types. U.S. spy agencies have accused Russian President Vladimir Putin (an ex-KGB colonel) of digital meddling in American politics, claiming that cyber surrogates working for the Russian autocrat have hacked Democratic Party databases, spread fake news, and flooded social media with “bots.” Corporations also are falling victim to industrial spying, as cyber thieves hack into their most precious informational assets.

According to the Breach Level Index, a global data base that tracks data breaches, more than 1.4 billion records were lost or stolen in 2016, a year-over-year jump of 86%. Research firm Markets and Markets forecasts that the cyber security market will generate revenue of $202 billion in 2021 compared to $122.45 billion in 2016, for a compound annual growth rate of 10.6%.

Not surprisingly, the field of cyber security is rife with investment opportunities, with Silicon Valley giants such as Cisco Systems (NSDQ: CSCO) and Oracle (NYSE: ORCL) dominating the landscape. These mega-cap tech stocks are solid investments but the problem is, they’re a bit pricey now as the stock market hovers at lofty valuations. For market-beating growth, an alternate strategy is to invest in often ignored players with diverse client bases, breakthrough technology, reasonable valuations, and strong balance sheets.

That description fits my two picks: ManTech International (NSDQ: MANT) and FireEye (NSDQ: FEYE). Let’s take a closer look.

Hunting the cyber spooks…

With a market cap of $1.5 billion, ManTech creates and markets cyber security products for national security agencies in the U.S. and internationally.

ManTech provides hardware as well as software to support technology infrastructures, such as data centers, cloud services, and e-mail or desktop computing. The company is based in the heart of the country’s national security hub in Fairfax, Virginia.

ManTech’s specialty is cyber warfare and cyber defense security, particularly in identifying and countering external cyber-attacks. The company’s client list is broad and extends beyond the defense and spy establishments, which provides a cushion against falling demand in any one area.

ManTech boasts lucrative contracts with the CIA, FBI and NSA; the Departments of Defense, State, Homeland Security, Energy, Justice, Veterans Affairs, and Health and Human Services; the space community; and other government agencies.

ManTech in February was awarded a $20 million contract to provide IT support to the Department of Veterans Affairs Office of Information & Technology, to enhance the provision of veterans’ health care. Also in February, ManTech was awarded a contract potentially worth $152 million by the U.S. Army to provide worldwide systems field and software support for the Army’s intelligence systems.

ManTech’s earnings in the most recent quarter surprised on the upside by 11.4%. MANT’s trailing 12-month price-to-sales ratio (P/S) is 0.92, a bargain compared to the average trailing P/S of 5.6 for its industry. The stock’s trailing price-to-earnings ratio (P/E) is 25.6, considerably lower than the industry average of 78.6. And in an industry riddled with indebted companies, ManTech’s total debt-to-equity ratio of zero is exceptional.

Playing Pac-Man…

FireEye provides cyber security solutions for public and private sector organizations, including network and email security products.

The company’s well-known brands include FireEye Security Orchestrator, FireEye Helix, and FireEye iSIGHT Intelligence.

With a market cap of $2.8 billion and based in the heart of Silicon Valley, FireEye is closer in size to the mid-cap range but should nonetheless outperform its larger brethren. This year, small- to mid-cap companies (especially those in the tech sector) are expected to prosper. Aside from its innovative and increasingly popular products, FireEye offers another enticement: the whisper on Wall Street is that cash-rich behemoths such as Cisco or IBM (NYSE: IBM) are angling to buy-out the company.

The likelihood of a FireEye buyout would grow if President Trump fulfills his promise to change the tax code in a way that makes it advantageous for tech companies to repatriate their enormous cash hoards from overseas. Tech companies would put that cash to good use, by playing Pac-Man and gobbling up smaller, entrepreneurial companies. A FireEye acquisition would probably reward its shareholders with a windfall.

The consensus of analysts is that FEYE’s year-over-year earnings growth will reach 70% this year, which matches my own calculations. And yet FireEye’s P/S is comparatively reasonable at 3.7 (the P/E is unavailable).

It’s also a good sign that institutions own 62.8% of FEYE’s stock. Not only is this ownership a vote of confidence from seasoned analysts, but once institutional investors establish large positions in a stock, their next motive is to find ways to drive up its value.

If you want to leverage the growing anxiety over global cyber attacks, buy these smaller cyber security stocks now, before the next well-publicized digital assault pushes their prices higher.

Got any questions or comments? Drop me a line: — John Persinos

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