Episode 35 | CrowdStrike: Navigating Growth and Challenges in Cybersecurity

In Episode 35 of “Market News with Rodney Lake,” Rodney Lake, Director of the GW Investment Institute, provides an in-depth analysis of CrowdStrike, a leading cybersecurity company. With impressive 30% revenue growth, CrowdStrike’s subscription-based model and 75% gross margins position it as a high-growth player in the cybersecurity space. Despite current low net margins, the company is expected to be profitable moving forward with net margins of 20-25% for the full years of 2025-2026. Under the leadership of co-founder and CEO George Kurtz, the company has successfully navigated challenges and demonstrated their ability to recover. While CrowdStrike’s $91 billion market cap and high P/E ratio of 100 raise concerns, its solid balance sheet reflects sound financial management and long-term growth potential.

Transcript

Thank you for joining “Market News with Rodney Lake.” This is a regular program for the GW Investment Institute where we talk about timely market topics. I'm Rodney Lake, the Director of the GW Investment Institute. Let's get started. Welcome back to “Market News with Rodney Lake.” I'm your host, Rodney Lake. Welcome back from the GW School of Business, the George Washington University right here in Duquès Hall in Washington, D.C.

Welcome back to anybody that's been watching the show online or listening on the podcast. Very much appreciated. If you're new, welcome to the show. As you know, many of you know, if you've been watching, if you don't know if it's your first time. We're going to be talking about companies, typically, especially when I'm here, solo and we don't have a guest.

We're talking about companies and we're going to use the GW Investment Institute investment framework. This is what our students do. So this is for entertainment and educational purposes only. Disclaimer to follow at the end as well. But this is how our students evaluate our approximately $10 million that our students manage. These are the endowment funds that are part of the broader endowment at the George Washington University.

And our students do a great job, and they've been doing it for 20 years now. We started with one class. Now we have four classes and, five classes and four funds. But today we're going to be talking about a single company called CrowdStrike, which is one of our holdings, not a huge holding, but I think it's an important holding to talk about, in the context of what's been happening in the markets around cybersecurity, where cybersecurity has been, you know, a focus.

But, you know, the intensity of that focus continues to increase, really, because of what's happening in the markets where this seems to be in more and more important industry. And I want to make sure that we talk about some of the companies we spoke about, Fortinet. Now we're going to be talking about CrowdStrike, one of our other holdings, Fortinet, as a much larger holding in one of the portfolios.

CrowdStrike is a, you know, not a tiny holding, but certainly not a large holding. But I think important for us to review. So if you're not familiar with CrowdStrike, the ticker’s CRWD, what do they do? They do cybersecurity products and services, to stop breaches for companies. And so, and one of the things you probably heard about is all of the airline cancellations associated with an update that happened, through Microsoft.

And so that was a huge problem. And the stocks really sold off. But that stock has really come back now. And so I think if you look at that just as an example of how important this industry is. So even with, I would say, a blunder, in this case, and you know, whose fault it was, you know, somebody would have to go back and really understand exactly what happened.

And making sure any of the blame is assigned properly. But, you know, certainly CrowdStrike played a role in that. There's probably no doubt about that. However, you know, the market reacted. The stock really sold off hard. And if you look at the price chart from that, it just drove down. But it's gained all of that back and more now.

And so it certainly seems like. Well, if you just use that as a data point, that maybe would have sent, potentially other companies out of business or sidelined them. But it doesn't look like it made a lasting impact on CrowdStrike. On the downside, they have come back strong. And they are doing well.

And I think part of that is the demand on cybersecurity, the demand for their products. And, you know, and I think just demand in the industry overall. And again, we talked about Fortinet, which is a larger holding in one of our funds. But today it's about CrowdStrike. So let's talk a little bit about, you know, what do they do? Again, it's cybersecurity.

It's mostly delivered through subscriptions. So that's the vast majority of their revenue. And the breakdown for internationally is the US is about two thirds and internationally is about one third. And so, that's important to think about. And when you talk about okay, well what's the revenue for this company. We'll get into revenue and market cap. And again we're using the GW Investment Institute framework as we've talked about business management, price valuation and balance sheet.

We're tackling the business right now. So what's the, you know, what's the revenue look like for this company? So if you look at 10/31/2024, they're at 3.7 billion, in revenue, that's up 30%. So these are good growth numbers. And we're going to get to valuation. And then let's talk about what's the market cap for this company?

And so when we talk about what's the size of the company? This is not a tiny company that not you know, we're not talking about Nvidia or Apple or Microsoft here, but this is not a small company. $91 billion market cap, as of early March here. And so, you know, again, not tiny company, but, has been growing a lot.

And we'll get to valuation right now, which is, where some people think, well, you know, maybe this is a challenge, to think about, on should you hold or sell or, certainly on the acquisition side. So we talked about the business. So cybersecurity is an excellent business to be in overall. They had this sort of very challenging situation that they came back from, if you look at the business growing at 30%.

So let's talk about their delivering things through subscription for the most part, 3.7 billion in revenue, most of that through subscriptions. Two thirds of that in the US approximately. So you're looking at, you know, you can probably guess if you've been following the show, that this company likely has high gross margins and it does 75%. When you're delivering things through subscription model, you're going to tend and it's software based.

It's going to tend to have high gross margins because, you know, the cost of production is low, right? It's it's software. And you deliver it, over the internet. And so you have high gross margin, 75%, projected to actually go up next year. So now we're looking at net margins. And this is where it gets very different.

You got net margins. And again, this is a younger business. Of just 4.4%. Now they're projected to get into the 20s for 2025, this year, and 2026. And so, you certainly see the business losing money. And then just start to, to break even and making money now and then projected to grow those net margins.

And again, they've had high gross margins, but they've had low net margins and they've been trying to grow the company. They've certainly been investing in this business and trying to get this business to be profitable. And if you look at the CapEx that they've been putting in the business, this past year, you're talking, 200, $200 million, and free cash flow of 1.1 billion.

So you would have to, you know, say in general, this is a good business. It just turned profitable for the most part. So you wouldn't call this a cash machine at the at the moment, or it hasn't been rather. But you still have high growth rates. You have high gross margins, which is a good start. You're starting to get positive net margins and you're projecting, you know, 20% net margins moving into the future.

So on the score of this, if you give 1 to 10, 10 being the best, you're thinking this is probably more like a 6 or 7 right now. Again, the high gross margins you would tip you thinking, well, maybe that's closer to an 8 or 9. However, when you look at the net margins where they are in the path of their growth over time, okay, not, you know, not where we would like them to be, certainly not where Nvidia is or Visa or Apple or Microsoft.

But they're growing and they're certainly starting to turn the corner there. And you're thinking, you know, 20% plus gross margins moving forward, which is fantastic. So that's the business. And I think we may come back to the business a little bit. But let's now move on to the M, which is the management team. And let's really talk about them.

So we have George Kurtz, who's co-president, CEO, co-founder. So this is a founder-led business. So it's early days, in the business, and this person still owns some of the company, but not a not, you know, not a huge slug of the business, you know, let's say two and a half, 3%. So still, significant ownership, but not something where you're thinking, okay, 15, 20, 25%, 40% in the case, when you think about Oracle and Larry Ellison and we talked about Fortinet between the two co-founders, you had about 15%.

So this is this is a much lower number than them. So it doesn't necessarily mean that's a bad thing. But certainly, you know, our interests can still be aligned. This is a significant stake in a large company. It is a big company. But again, not where Fortinet is, not where Oracle is, certainly not where Berkshire Hathaway is.

But again, not necessarily by itself a terrible thing. But that's the owner. That's the management team and the ownership. Now, look, as we talked about at the opening, they had a very challenging time with this update, canceled all these flights. Was an upgrade, through Microsoft from CrowdStrike. And it was basically a disaster.

But again, they the market really reacted strongly to that. It's sold off hard, when that happened, and has come back and is even higher than it was before that. And so this is, something that tells you something about the management team, you know, their way to fight through this obviously, is, you know, they found a path through, and maybe they could have done it better or worse.

But certainly they found a path through that, I think, if you look at examples like that where we have these very challenging situations, that says something about the management team, can they navigate these very difficult circumstances and they have. And again, the backdrop on the whole, on the business side is that you have these tailwinds in this business.

And the management team made a blunder. They navigated through that blunder, and they're on their way back. So they seem to have mended the fences there. And it looks like, you know, powering ahead. So I think we like founder-led businesses that the Investment Institute generally speaking, not a huge ownership slug in the business here from, Mr. Kurtz, but significant, substantial, 2.5%.

As an example there, or for example there. We'd love to see more, of course, than that, but certainly not something where we're going to say, oh, this is a disaster or anything. And this person seems like they're trying to get out of the way. Not not the case at all. Again, recent example, navigating through a very challenging situation, with this update that did not work properly.

And canceled all these flights, very public, very much scorned stock, sold off hard, navigated their way back through that. Again, the backdrop of having this industry tailwind where cybersecurity gets more important every day. You know, people are not going to say, well, we need less cybersecurity. At least not in the short term. It seems like the direction is one way right now, increased demand for products and services associated with the cybersecurity industry.

As everything becomes more digitized over time. And so their products in high demand navigated through that founder, co-founder of the business. And so we like that. Not a huge stake. So I think on the management side, you can probably give them somewhere in the neighborhood of, you know, 6 or 7 right now. Time will tell where they go from here.

I think it's important to note where they are in the cycle. Just recently turning profitable, for the company, in the life of the company and projecting, you know, 20% plus margins next year and into this year, for the full year and then into 26, you know, 20, maybe close to 25% net margins. That's fantastic. So that would be great.

When you start with the 75% gross margins, obviously that's a good business. And again, they're selling things through subscriptions for the most part. And that is a fantastic business that's going to continue to have high gross margins. They're going to have to continue to invest in the business. But if you can get that net margin higher, I think that's going to be great for shareholders like us and other shareholders that are owners in the business.

But again, they seem to have turned that corner. And that's also the kudos to the management team to navigating through that, getting them towards profitability and trying to turn the corner again. As shareholders obviously want we want companies and management teams to invest in the business to grow the business. But we don't want to be unprofitable forever either.

We want to at some point, they turn the corner. And you think big companies like Amazon, who did that for years and years and certainly have have turned the corner there. And CrowdStrike is doing that right now. And so I think those are good things. We talked about Spotify, who recently did the same kind of turn there, and Daniel Ek, the management team here and here you have George Kurtz at CrowdStrike making the same sort of move, for this and again, not a tiny company, $90 billion market cap.

And so I think that's again puts the management team in the 6 or 7, right now. So let's move on, to the valuation. And we'll obviously we interlace all these comments. These things are all interrelated. The business, the management, the price valuation, the balance sheet. It's hard to really disaggregate them completely. But for the sake of trying to understand the company, trying to get through the framework, and it be useful, you know, you really try to extract these things and think about them individually and then put them together as well.

So we overuse, which is, you know, what we do here, is the PE ratio and here because they've turned profitable. It is more useful at this point. But you're looking at almost 100 times, you know, forward PE that's a, that's a big number. And for some people that's really challenging, to get their head around of like, should we really be paying that much? if you overpay for something

It is a big challenge. And if you look at a company like we talked about Fortinet, you're talking about something that's close to half of that, for the for the PE. So, you know, Palo Alto Networks would be another company out there, has even higher PE. So it's certainly there's a high demand in this and people are willing to pay up, for these earnings for these companies that are growing and for some of the premier players, CrowdStrike being in there, you know, a hundred times now, if you overpay for anything very challenging to make your money back over time, and when you're paying 100 times,

you really have to expect that the earnings are going to grow to, to re rate up from here, to go from 100 to 125 times to 150 times. That's not an easy thesis to make. But what you can say, okay, we're going to trade at 100 times, which means they're going to have to grow earnings. Now they're growing revenue, as I mentioned, 30%.

So that's going to that, that itself, can propel them forward. And they're probably gonna have to do it, even more than that. And if they can maintain those super high gross margins, it's certainly possible to maintain a higher PE. But you're probably going to have some compression, meaning that the PE is going to come in. People are going to re rate it down as the growth slows down.

So you have to think about, okay, well what's this company going to be worth in five years? Well, if they continue to grow it at 30%, certainly you're talking about a double just in a in a few years here. And so in revenue, and again, they maintain a high gross margin. They increase that net margin. You're talking about a lot more earnings.

They're coming back to the company. So they're really growing earnings. If you have some multiple compression, you can definitely still see that it's going to have to be rated much higher than a typical, PE for an S&P 500 company, which you're talking now about 21 times forward. And so you're going there's a lot of room between 100 and 21, for that compression to happen.

But, you know, you have to think it, at least at this point, with those high gross margins and increasing net margins, that it's going to be at a premium, even moving forward to the S&P 500. Now, where that is, when it starts to settle in in a few years, if it's not growing, quite as quickly, but still is doing well and is able to maintain those high gross margins and increase those net margins, well, it can still trade at 30, 35, 40 times.

But, you know, that's something as an analyst, we, we need to think about for for the students at the GW Investment Institute, that's something that we want them to think about. And if you're, you know, playing along at home and you're evaluating companies, that's something that you need to think about as a business person, as an investor, thinking about what's the right, you know, target margin that I or target PE, that I can put on this given where their margins are on the gross on the net projected out, for a few years.

But right now it looks a little bit expensive. But, you know, we have to decide what we're going to do from here. Is it a position we add to when you have pullbacks in the market? We're in early March here. We're having a market pullback right now. Is it time to add positions like this. If you think it's a high quality business with a good tailwind and with a good management team and the valuation comes down, that's that's when you either high grade your portfolio.

If you don't have new cash or you add to this position if you have cash. Not saying we should do that. Certainly not investment advice here, but that's the thought process. You got to think about those things. When it's time, to either reallocate capital or to allocate new capital. Do these things deserve, you know, additional or is it time

You know, it's been a good run, we should trim? Again, that's the work that we have to do as analysts, as business people to try to understand that. All right. So now let's move on to the balance sheet and then we'll pull everything together. So if we talk about the balance sheet, as I mentioned, you know, $90 billion market cap, cash and cash equivalents on the balance sheet, 4.2 billion and 790 billion in cash or debt, rather.

So let's call it eight. So you're talking three over 3 billion, in net cash, 3.2 billion just around it, or 3.3 billion in net cash. So this is not something we're super concerned about. And they they're generating free cash flow of 1.1 billion right now. So then as balance sheets go again 3.2 3.3 billion in net cash as of 103/1/2024.

So we're not, like, super concerned, at all about this. And you're generating free cash flow of 1.1 billion. So that's more than the total debt and certainly have net cash to pay that. So really, really not a concern. And so you're going to give this, you know, on the, on the balance sheets, a pretty quick analysis for this.

We're talking sort of eight and nine, for the balance sheet. Not something that we're concerned about. Now one of the things that we try to incorporate, we've done this before, before we give the sort of final score for the balance sheet, that sort of a as is today, or last reported what has happened over time?

Now, this is where we might say, well, might we might think the balance sheet just a little bit, even though they have net cash because since 2021 the the or we actually the reverse excuse me we might increase the score. It's hard to go up from a nine. But maybe it's a nine and a half or even a ten, because if you look at what has management doing, and this is where the management and balance sheet are very much connected, because management runs the balance sheet.

If you look at the cash over time from that period 2021, to now or last reported in 2024, in October, you're talking, about 2 billion in cash, and now you're at 2.2 billion in cash. And so they they've increased that over time. So you've more than doubled the cash on the balance sheet, and the debt has effectively stayed at the same level.

And so if you look at okay, well how responsible has management been with the balance sheet? You could say that they've been very responsible. They have really, been conservative. And again at the Investment Institute, that's the world we like. We like to sleep really well at night. And be sure that as equity holders, you know, we're not worried about the company not being able to pay its debt and go into bankruptcy.

Remember, the biggest risk for any company is going out of business. Bankruptcy, right? You don't live to fight another day. We want to net cash on the balance sheet that helps us sleep at night during downturns, that helps us pick up market share that strength through the cycle. And so if you look at how this management team has performed over time, and we've talked about other companies in the same way, what's the last few years look like?

What have they done with the balance sheet? Have they been responsible with the balance sheet? And here we can say certainly they have been they've doubled the amount of cash. They've kept the debt about the same. And so their net cash has risen over time. And if you look at what's the free cash flow done over that time period, you're talking about 300 billion, approximately in 2021

And now you're talking about 1.1 billion. So you're really talking about four plus x. They're on the free cash flow, a double, in the cash on the balance sheet and then net cash, jumping up, from there without the debt really changing. And so that would be responsible management. And so you kind of possibly even give them nine and a half and maybe even this is a ten for the balance sheet on the management.

And so let's, let's now pull it all back together. So we talk about the business overall. This is a cybersecurity company. We mentioned Fortinet, smaller is not a small position but certainly not a big position in the portfolio. Not yet. They have done well. Really good tailwinds in the business right now. Cybersecurity in high demand. If you talk about, most of this is subscription revenue, and you look at, you know, how is the business done?

Over time, they are growing. Revenue is growing at 30% projected to grow, close to 30% again and 20% after that, for 2026. So doing very well. Not really that concerned about what's happening there. 75%, gross margins here when you talk about okay, well, it's the quality of the business here. 75% gross margins recently turned profitable.

So you're talking about single digit net margins, for last year, but projecting for this year, 2025 end of 24 and about 24, in 26. So very much turning the corner. So good business, good tailwinds in the industry. And and again demonstrated, by this steep sell off, demand has come back strong for their products and services, and it doesn't seem that have impacted them, even though they had this blunder and now connected to the management.

So on the business kind of 7 or 8, right now, again, you would like to see them be even a bit more profitable. On the, on the management side, again, we have a recent example which is useful to talk about how has, you know, George Kurtz and company, who's the, co president, CEO, and co-founder, how have they done?

Well, when you have this really stark example of a big sell off because of a very public blunder, it gives you a sense of, okay, there is a crisis. How is this management team a specific crisis to them? Not a market crisis, a specific crisis to them, to the company, and idiosyncratic risk, if you like, to the company.

How did they manage that? They manage that fairly well. Maybe they could have done better, of course. But they managed your way through this. And now the market has appreciated, the merits, the fundamentals of the company have come back. And again, you had a really steep sell off, and people concerned about, you know, what's the future of the company, or is this a is this a lasting impact?

It hasn't been. And so I think that, again, says something about the first the industry, the business, and says something about the management. But I would say, you know, we'd like to have to have them a bigger stake being a co-founder, 2.5% not as high as we would like. And so, probably give them a, you know, let's say a 6 or 7 there. Valuation 100 times forward PE. Again, S&P forward is not is well below that.

And this is a higher quality company than that. But you probably can expect some margin margin compression. And we'll see. So probably give this a six there. And on the balance sheet again, you're kind of giving it a ten. So depending on exactly how you score all those, you know, 20 you we weight them 25% each, you're probably talking about a company that's in solidly in the six and a half, seven.

You know, and again, depending on how we settle on all the different scores, but let's say let's call it a seven for right now for the company, but maybe a seven and a half, depending on on how we tweaked all the scores there. So seven is good, not nine, but it’s excellent. And some of the things again, that we're a challenge our analysts to think about is, you know, the future for the industry looks great.

The specific business looks like they're doing well turning profitable. The management team solidly in place. We love the fact the founder-led teams, for the most part, not all the time, but many times. Good news there. Valuation, something that we have to monitor and watch. And on the balance sheet, super clean net cash growing the balance sheet strength over time.

All good. From that respect. And so as we, you know, wrap it up here. Good outlook for the company again about a seven. Good look in the management team industry. Very strong. Something about the valuation we have to really pay attention to. It is is how high it is relative to its peers and relative to the market.

We'll keep an eye on that. And our analysts will do that. Thanks for watching this show. See you back the next time on “Market News with Rodney Lake.

Disclaimer the content shared in the GW Investment Institute Podcast is for informational and educational purposes only, and should not be considered investment advice. The opinions expressed in this podcast are those of the host and guest, and do not necessarily reflect the views of the GW Investment Institute or the George Washington University. Listeners should not act upon the information provided without seeking professional advice from a qualified financial advisor. Investing involves risks including the loss of principal. The GW Investment Institute, the George Washington University, and the podcast hosts do not assume any responsibility for any investment decisions made based on the content of this podcast. Always conduct your own research and consult with a financial advisor before making any investment decisions.