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Is FireEye Worth the Investment Risk? An In-Depth Analysis


The network security company has seasoned executives and forward-thinking technology -- but mismanagement and out-of-control growth could bring it all down.

I've been examining FireEye (NASDAQ:FEYE) lately to assess its value as an investment. Here are some of the observations I've made so far:

The Good

  • Truly nexgen technology and approach to cybersecurity: The ability to protect networks against zero-day threats (e.g., malware that hasn't yet been cataloged in a database) is a forward leap from standard firewall/antivirus systems; some good tools for in-depth tracking of malware penetration and infections.
  • Management: Both CEO David DeWalt and CFO Michael Sheridan have darn good track records. DeWalt first built up Documentum and then McAfee, and when he sold them to EMC (NYSE:EMC) and Intel (NASDAQ:INTC), respectively, he hit home runs for shareholders. Sheridan was the CFO of SonicWALL before it was sold to Dell; then he became the CFO of Facebook.
  • A hypergrowth story within a total addressable market like few others.
The Bad

  • Management: As good as the CEO and CFO have been in the past, so far they've been a complete train wreck for FireEye shareholders, and perhaps the company. The degree of hubris that emanates from their conference calls, the astounding mismanagement (at least from the shareholders' standpoint) of the stock price, the hosing they gave to those who bought into the secondary two months ago at $82/share, and the acquisition of Mandiant for almost $1 billion -- more than $700 million of which was in the "goodwill" category, which will inevitably result in a massive write-off -- makes one think these guys have completely gone off the deep end.
  • There's hypergrowth and then there's out-of-control growth. I don't care if management is made up of superheroes -- when a company grows its employee base some 20% per quarter, the risk of losing control of your income statement increases exponentially. The footprints of that are beginning to show here.
  • After the nPulse acquisition and the ramp in operating expenses, FireEye's current cash on hand is barely enough to get them to EBITDA (earnings before interest, taxes, depreciation, and amortization) positive sometime in 2017. This means they'll need to do another secondary -- or more likely a convertible -- debt deal.  At the current stock price, it would be another pretty chunky piece of dilution.
  • From a customer standpoint, cybersecurity expenses don't help grow one's business. They're a necessary evil to minimize potential damages. Through that lens, there's an embedded heightened sensitivity to the prices of cybersecurity services. For FEYE's management to categorically state that no one can compete with them is plain BS. If a Palo Alto Networks (NYSE:PANW) or an Imperva (NYSE:IMPV), for example, can get close to FEYE's level of offerings and give it out to clients for cheaper or free, you can bet FEYE's business and/or pricing will be impacted.
  • In the near term, 95 million shares are "unlocked" for trading next Wednesday.
The Questions

  • Valuation: As a practical matter, there isn't one. Just read through sell-side reports and look at the mental contortions of the analysts trying to devise new DCF (discounted cash flow) models to achieve some kind of 12-month price target that's not below the current price. Some go as far as using discount and terminal growth rates "special" to FEYE. In other words, if they were to use the same kind of assumptions they use for 99.9% of all other stocks, they would come up with a current value for the shares that they couldn't print. 
  • Attempting to justify 20 times, 15 times, 10 times, or even five times sales three years out -- especially for a company whose management has been wildly unpredictable on how it intends to get to positive cash flow -- is a fool's errand. Before you start throwing darts at my name, I am NOT suggesting there's no value to this stock. At some point, it's very likely that FEYE will grow into a beast of a company and justify a premium valuation for itself. But in my humble opinion, paying up for that now is tantamount to paying for hopes and dreams.
  • So where would I close my eyes, hold my nose, and buy the stock? $16.50 -- four times 2015 sales. Why? Honestly, it's as good a guess as any as to how low the stock needs to go before there's a marginal cushion of safety provided by its IP and takeout value.
  • Will it get to $16.50? Daily DeMark Indicators (see below; those unfamiliar with DeMark analysis can check out this brief primer here) have worked like a dream on FEYE's chart, and there's little there to suggest that the slide is over at this point. The weekly chart is printing a Perfected TD Buy Setup this Friday, but below TDST Level Down (i.e., support). Before arguing that the stock is at a bottom around current prices, one would want to see two things at the very least: first, a bullish "Price Flip," and second, that the break of TDST Level Down doesn't become qualified.

Until then, the risk/reward doesn't seem to be there.

Twitter: @FZucchi

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