The importance of information security continues to grow and the stakes are higher than ever. Who could have imagined the world’s cybersecurity landscape as it stands today? Anonymous has declared cyber war on ISIS. Another hacker group, AnonSec, just claimed to have so thoroughly breached NASA that it was nearly able to crash one of NASA’s two Global Hawk drones into the Pacific Ocean.
Last year marked another record year of investment in cybersecurity companies, as well as purchases of cybersecurity products and services. According to CB Insights, the level of investment in security companies in 2015 crested $3.8 billion. That number is up about 36% from the $2.8 billion invested in security companies during 2014. Since 2011, the level of investment in cybersecurity startups has increased about 235%. Furthermore, the investment growth rate has been increasing.
Market research firm Gartner indicated in 2015 that worldwide spending on cybersecurity would increase from about $77 billion in 2015 to $101 billion in 2018. Given the increasing cost of security breaches, the increasing stakes of breaches and the resulting increase in spending on cybersecurity, there is at least five years of continuing investment growth in the cybersecurity industry and ten years is quite probable.
Investors and acquirers must make fast, informed choices in evolving niches.
Aside from the cash injections by investors, there is also significant consolidation occurring. Established companies are eager to acquire new technology before the competition does. As a new niche market in the security industry emerges, the fledgling companies are often snapped up by larger players. During 2015, one such niche was that of Cloud Access Security Brokers (CASBs). The companies in this space provide additional security capabilities for cloud-based services so that companies can better enforce their own specific security policies. 2015 saw the acquisition of notable players Adallom (by Microsoft) and Elastica (by Blue Coat). Cisco also announced in 2015 that it was expanding its offerings to provide CASB capabilities by partnering with both Elastica and Skyhigh Networks. CASB is particularly attractive to small- and medium-sized businesses. This market segment typically doesn’t have the resources to build internal security teams, nor to deploy and manage high-touch in-house technologies. The SMB segment looks to receive its security services via the cloud.
So far, the consolidation is continuing with FireEye leading the charge. FireEye announced in January that it is acquiring threat intelligence firm iSIGHT Partners for $200 million and followed that with an announcement in February that it will also acquire Invotas. Invotas provides technology aimed at automating security decisions and actions, which is a nascent niche evolving in the industry — one worth paying attention to.
Evolving niches within the cybersecurity industry are where new investment gems are discovered. Prices are being driven higher; extra care needs to be taken when investing in cybersecurity companies. Nascent sub-sectors, like CASB and automation, can be particularly difficult to evaluate due to the lack of information about the companies that operate in these areas. This is an especially challenging problem because key players can be quickly snapped up with no warning. At TrueBit, we’ve built our business on the ability to quickly identify and evaluate emerging sub-sectors, including which companies are ripe for acquisition. We pay special attention to the players in these arenas. We also evaluate deals that we weren’t involved in. We ask and answer questions, like “What is the right revenue multiplier for companies in this sub-sector?” and “Did FireEye get a deal on iSIGHT at $200 million?” There is also much to know about the companies doing the acquiring. What’s the inside story? Are they thriving or are their employees staging a mass exodus? Do they themselves make a good acquisition target? If so, by who? What do their acquisitions mean to the industry; how do they change the landscape?
Acquisitions are being made that will benefit or harm the deal participants, their customers and the industry.
Acquisitions have already begun to shape the security landscape — some for better and some for worse. One of our goals at TrueBit is to guide clients toward deals that provide a material improvement in the products and services offered to the organizations that need to rely on them for defense. When buyers of security products and services benefit from worthwhile consolidation, the providers of those products and services benefit — as do their investors — creating a positive feedback loop. The converse is true; deals that don’t make sense create a negative feedback loop that can doom otherwise good security companies.
As an example, the acquisition of companies by FireEye is likely to have poor results. FireEye has clearly been struggling in areas such as talent retention and customer support since the acquisition of Mandiant. These struggles have allowed competitors to catch up to FireEye and reduce the size of its moat — which is likely why FireEye is on an acquiring spree. FireEye customers are seeing significant discounting with little negotiation due to the existence of competitors with compelling offerings, which will hurt its margins. By themselves, both FireEye and Mandiant were solid companies with top shelf offerings in their respective practice areas. With the parent company struggling as a result of past M&A activity, additional acquisitions will likely compound the problem and hurt the acquired businesses — and their customers.
It makes sense for M&A participants to partner with someone who can accurately assess the synergies resulting from a potential deal. TrueBit is the only company that specializes exclusively in market and technical due diligence of cybersecurity companies. We’ve worked on some of the highest profile deals in the industry and have found that a strong technical due diligence review can materially shape key deal dynamics. For example, a client equipped with our technical due diligence assessment and their own financial and legal due diligence was able to make a purchase of a high profile cybersecurity company at what we viewed as a 20% discount.