Darktrace (LSE: DARK) shares have fallen recently, reversing their earlier modest recovery. And I can’t help wondering whether growth share investors might be missing a long-term opportunity here.
Darktrace is in the cybersecurity business. The idea is that by using AI and learning techniques, the company’s systems will be able to counter online threats more effectively. The war in Ukraine might have brought the importance of cybersecurity to investors’ minds, I’d have thought.
But Darktrace has seen no benefit. To say its shares have gained 8% during the past 12 months is missing a big part of the picture, as a quick look at the price chart shows:
In September, the price reached a peak of 1,003p, having almost trebled in a few months. Since then, the fall has been equally dramatic. At 363p, as I write, we’re looking at a 64% loss since that high watermark.
Autonomy fallout
An executive from Darktrace was recently named in a court case relating to the sale of Autonomy to Hewlett-Packard in 2011. Chief strategy officer Nicole Eagan was referred to as “part of a clique” in the judge’s ruling. Autonomy founder Mike Lynch has been accused of fraudulently inflating the value of Autonomy prior to the sale. Dr Lynch also played a part in the founding of Darktrace.
But the company was quick to point out: “Neither Darktrace nor its acting executives are the target of any investigation. We see no link between Darktrace and the civil action against Dr Mike Lynch by Hewlett Packard or its subsidiaries“.
So is this a distraction that’s unfairly keeping Darktrace shares depressed?
Valuation
It’s always hard to put a valuation on a company that has yet to turn in a full-year profit. The current year ends in June, so there will be plenty of investors keenly watching for the results.
In a Q3 update, Darktrace told us its customer base has grown 37% on a year-to-year basis. Annualised Recurring Revenue (ARR) climbed too, reaching $105.3m for the first nine months of the year. That’s a 51% increase over the equivalent period the previous year.
For the full year, Darktrace had upped its guidance and now expects year-on-year ARR growth of between 40% and 41.5%.
We might not have any profit-based measures on which to base a valuation. But we’re looking at a price-to-sales ratio (PSR) of around eight for Darktrace shares. That might seem high compared to low-margin blue-chip shares on PSRs of maybe one or two.
But for a technology growth share which should generate much higher margins, I think it looks attractive.
Time to buy?
I suspect the results, when we get them, could drive the Darktrace share price higher. And I don’t think I’m too concerned over that legal case. It doesn’t, after all, directly affect the company. It does add risk, though.
There’s a lot of growth-share risk here, as so much is unknown about future demand. And I do think the 2021 share price peak was a significant over-valuation. But at today’s price, I’m tempted to buy. Perhaps just a small amount.