Computer security company McAfee may join Wall Street this week. And the McAfee IPO could be massive for potential investors.
According to Barron’s, the company has “plans to price its deal on Oct. 21 and begin trading the next day, Thursday, Oct. 22.” In turn, McAfee could raise more than $800 million with the move, where they will trade on the Nasdaq under the ticker “MCFE.”
Under private ownership, McAfee’s growth had stalled. The company is expected to price at just $9.5 billion, representing a 2.3% annual rate of return since Intel (NASDAQ:INTC) took it private in 2011 for $7.68 billion. It’s now a fraction of the size of rival cybersecurity firm Crowdstrike (NASDAQ:CRWD).
However, that could change overnight with the McAfee IPO.
As McAfee emerges as a public company, its entirely new management team could reinvigorate the firm’s growth. It would have to change a lot, from its business model to its hiring practices. But get that right, and the 33-year-old firm might one day become the next CrowdStrike.
That said, here’s the story of why investors should pay attention.
MCFE Stock: A Loaded Spring
Turnaround growth companies need three things: 1) a fast-growing market, 2) a talented management team, and 3) a catalyst to get things moving. Get all three right, and you end up with investments like Microsoft (NASDAQ:MSFT) in 2014 when CEO Satya Nadella remade the stodgy company into a cloud service behemoth. Or Apple (NASDAQ:AAPL) in 1997 when CEO Steve Jobs took back the reins of a near-bankrupt computer maker.
These are the 1,000% returning investments that market commentators unhelpfully say, “see how much insight I had back then?”
But I get it. You want to know about today, and not the winning investments from ten years ago. So, while success is never inevitable, here’s why McAfee looks positioned as the next 1,000% winner if it plays its cards right.
A Quick History of McAfee
McAfee wasn’t always a slow-growing company. Founded in 1989 by computer engineer John McAfee, the company was the first to distribute antivirus software via a network, rather than shrink-wrapped boxes of instruction manuals and floppy disks.
By the time Mr. McAfee retired in 1993/94 after suffering a mild heart attack, his company had raised $42 million in an IPO and commanded about two-thirds of the market for antivirus software. It would continue to grow under CEO Bill Larson, culminating in its massive $1.3 billion acquisition of Network General in 1997.
After its 2011 sale to Intel, however, the entrepreneurial spirit disappeared almost overnight.
Slowdown at Intel
Right now, it’s easy to think of McAfee as a vendor of terrible software that slows down computers. And you wouldn’t be alone. Under Intel’s ownership, the company became far more focused on hitting sales numbers than moving into the fast-growing world of cybersecurity.
“The Intel acquisition made no sense at all, although all of the executives involved spun a story of how Intel would somehow embed security into its chips,” reflected cybersecurity analyst Richard Stiennon for Forbes.
The company now generates its entire operating income from consumer-facing products, a segment that analysts expect that industry to shrink 1.1% through 2026. But a newly IPO’ed McAfee could potentially change the calculus.
A Fast-Growing Cybersecurity Industry
Speaking of the industry, Crowdstrike nearly doubled its revenues in 2019. Analysts expect another 70% increase through 2021 as enterprise customers adapt their cybersecurity abilities to the work-from-home trend.
That said, a newly listed McAfee will have some catching up to do. Enterprise solutions grew just 6.7% in 2019 and generated a $151 million loss. And whether the company can do this will depend on its new management team.
A New Management Team
While the heady days of John McAfee and Bill Larson are long behind it, McAfee has a new management team that could potentially turn the company around.
In February 2020, CEO Peter Leav joined from BMC Software, a company he sold to private equity firm KKR for $8.5 billion in 2018. The longest-serving member of his executive team joined in 2018, and the longest-serving director since 2017. In other words, it’s a clean slate.
But should you bet on the team?
Conservative investors might want to take a “wait-and-see” approach. Firstly, Mr. Leav’s background is not in high-growth software companies. Secondly, the company (post-IPO) will still hold onto considerable debts — a relic from its private-equity days. That could limit its ability to reinvest into faster-growth avenues. Finally, changing culture is hard. Companies can take multiple years to turn around, even with the best managers at the helm.
So, while other CEOs have often changed stripes, investors should take a keen look at the speed of McAfee’s enterprise segment growth.
What’s McAfee Worth?
Analysts expect McAfee to IPO with a $9.5 billion valuation, pricing between $19 and $22 per share. But depending on McAfee’s growth, that number could change drastically.
If the company decides to dawdle in the shrinking antivirus market, its growth might stall at 3%. That’s assuming the company can steal market share from rival Symantec, which was acquired by semiconductor maker Broadcom in 2019 (the antivirus industry has a strong sense of irony). If McAfee earns 25% EBITDA margins, the company would be worth just $10.7 billion enterprise value, according to a 2-stage DCF model. That comes to a $7 billion expected market cap, or $16.20 per share.
On the other hand, if McAfee can rebrand itself as a cybersecurity firm, its growth could skyrocket. Revenue that accelerates 25% by 2023 (and earning a 35% EBITDA margin) will propel the company to a $43.2 billion enterprise value, or $91 per share. That’s a substantial 310% upside from the expected price.
And if the company can turn into the next Crowdstrike, then it’s off to the races. Shares of Crowdstrike trade at an astonishing 46 times sales (what happens when you’re in the right industry at the right time). Taking the same multiple to McAfee gives the legacy antivirus maker a $121 billion market capitalization, about the same as high-growth Shopify (NYSE:SHOP).
What Should Investors Do With the McAfee IPO?
In the end, the success of the McAfee IPO depends on the business it chooses to pursue. If it stays in the comfortable (but shrinking) antivirus software industry, the company will eventually get pushed out by Microsoft’s built-in products. But if it switches to the faster-growing cybersecurity route, then investors could well see the next $100-billion company in the making.
“I try to invest in businesses that are so wonderful that an idiot can run them. Because sooner or later, one will,” Warren Buffett once quipped. Hopefully, McAfee’s management takes that message to heart.
On the date of publication, Tom Yeung did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Tom Yeung, CFA, is a registered investment advisor on a mission to bring simplicity to the world of investing.