Meganet has won a $4 million tender to supply the U.S. Department of Labor with information encryption and digital signatures for its 18,000 employees.Meganet, an Israeli-U.S. data security company, has developed an encryption technology that appears to be unbreakable, enabling governments and corporations, to keep their data safely out of the hands of competitors, thieves and saboteurs.

Among the clients that believe in their ability to protect sensitive information is the U.S. government

Data security is one of the key concerns for governments and corporate users today as hacking becomes increasingly prevalent. In 2000, an FBI survey showed that 90 percent of participating companies had their computer systems vandalized by rivals, hackers, or even disgruntled employees. In January 2000, hackers stole 250,000 credit card numbers from an online CD store. They tried to blackmail the store. When it refused to pay, the hackers published 10,000 card numbers on the Internet.

Meganet Corporation’s founder, Saul Backal, claims that its solution can put an end to these problems. Meganet offers a patented non-linear data mapping technology, called VME (Virtual Matrix Encryption), that creates exceptionally random cipher text and combines it with a one million-bit key, which is unheard of in today’s data security markets. Competing solutions offer a maximum of 256 bits.

“There is nothing stronger in existence,” says 38-year-old Backal, a dual Israeli-U.S. citizen who was a tank commander in the IDF in the Lebanon war. “All other encryption methods have been compromised in the last five to six years.”

Using this VME technology, Meganet has developed a range of secure solutions, end user software programs, and developer tools for applications. These solutions can be used to provide protection for personal computers, the Internet, e-commerce, financial institutes, satellite communications, cellular phones and cable.

The privately-held company has 21 different products in all categories of the data security market. Its flagship product is the VME Office 2002 suite, a suite of 10 different products that offers a single solution for all data security needs within an organisation.

Meganet has already gained the attention of the U.S. Government. In February last year it won a $4 million tender to supply the U.S. Department of Labor with information encryption and digital signatures, for its 18,000 employees. The tender was later increased to $7m., and is expected to be worth a total of $20m. by the end of this year.

Meganet, which has five offices around the world, is now involved in new deals with two other U.S. government departments. The details of these deals have not yet been published, but in 2002 Meganet saw $32m. in sales, most of which came from the U.S. Government or the US Air Force. Already this year, the company, which has a burn rate of just $1m. a year, has sold a further $35m. in products, mostly to the same customers.

While Meganet, which is headquartered in Los Angeles with R&D in Tel Aviv, is now clearly doing well, the road to success has not been smooth. Backal stumbled onto the mathematical algorithm behind VMS when he was working as an engineer in the field of Wide Area Networking. He worked on the technology for 11 years, and in 1997 applied for a patent and set up Meganet with an investment of $750,000 of his own money. Initially the industry refused to take him seriously. “Most of the encryption community called our product snake oil,” says Backal. “Everyone competed to throw stones at us and didn’t bother trying to understand the product.”

For two years the market ignored Meganet. “Ironically this was the best thing that happened to us,” admits Backal. “Noone looked at us seriously so we had a chance to take a new breakthrough technology to the market and fine-tune it,” says Backal.

In an attempt to prove VME’s strength, Meganet began offering prizes such as a Ferrari or $1m. to anyone who could break into a VME-protected file. So far, two million people have attempted to crack the code, but none have managed.

In November 1999, Meganet launched the company at the Comdex computer show in LA, California, hoping to attract corporate users. The company packed its 1,000 sq. ft booth with attractions, including a $1m. giveaway of Meganet software. Meganet proved a runaway success, and in the wake of the show it raised $5m. at a valuation of $50 to $60m. from new investors, most of them small, private investors. To date, the company has raised $10m., none of which comes from VCs.

In February 2000, the National Security Agency (NSA) unexpectedly announced that it would not grant Meganet an export license. In the industry, the controversial decision was widely recognised as an admission that the NSA did not want Meganet to export its technology abroad because it could not break the code. This merely added to the company’s growing reputation for security. Meganet hired a political attorney from Washington DC and the battle was finally concluded in November that year when Meganet was given an export license that excluded terrorist countries.

By December 2000, however, Meganet was in trouble. The company may have gained industry recognition, but it did not have sales. Nor could it raise money as the stock market had begun to crash.

Backal cut staff from 44 to nine, and reduced expenditure dramatically, cutting the company’s $300,000 a month burn rate substantially. The company also changed direction and decided to target government agencies instead of corporate businesses.

Throughout 2001 Meganet focused on building this new business, ensuring that its products were compliant with US Government requirements. The devastating terrorist attacks on September 11 acted as a further catalyst for the company, and by the end of the year Meganet had become a US government contractor.

Today, Meganet is rapidly becoming a significant US government vendor. Though it remains a small company, with just 25 employees, it won three out of four tenders released by the US government in this sector last year, beating giants like Verisign, RSA, Network Associates, Computer Associates, and IBM, to become sole-contractor on the projects.

Meganet now receives acquisition offers, and proposals for strategic alliances, but so far has declined them all. “Our position in the US government market is going to be humungous,” predicts Backal. “The government will publish data security deals worth $450m. in the years to come, and we intend to grab as much of them as possible. We are already one of the top four companies in the market as of 2002 and intend to become the market leader.”