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Darktrace shares: ahead of results next week, here’s why I’m still staying away

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Darktrace (LSE:DARK) is a cyber-security company that has offices in both the UK and US. It was listed on the UK stock market earlier this year, after slashing the IPO price last minute. Since then, Darktrace shares have moved higher, with the share price actually doubling in the past three months. I’ve been put off by the company since the IPO and, even with the sharp rally, have concerns. Here’s why.

Growth evident but still making losses

Darktrace shares are currently waiting for full-year results to be released next week. In my opinion, I expect the business to show a loss. As my colleague James McCrombie flagged last month, Darktrace has lost money in the past three years of operations. These losses have been reducing, but ultimately a loss is a loss.

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The last update that was released to the market in early July did comment on revenue growth. Full-year revenue is expected at $278m, an annual growth rate of 40%. This growth is largely supported by the increase in customers, with a 42% increase being flagged in the update.

This is good news, and so should support Darktrace breaking into profit in coming years. Yet as a traditional investor, I prefer to buying stocks that are already generating profits. Assessing a fair value for the share price is easier when I can use metrics such as the price-to-earnings ratio. 

At the moment, Darktrace shares are shooting higher, based on what future earnings could look like. This isn’t something new, and is a trait associated with tech stocks that can take years to become profitable. For me, it’s difficult to justify investing in a stock that has rallied 100% in three months without the finances to back up such a rally!

Are Darktrace shares competing in the big league?

One argument I see a lot is that Darktrace shares could rally further as the company gets a larger market share. The cyber security market is lucrative, and expected to grow further in years to come. Yet what I think some investors aren’t correctly pricing is the large players that already have a strong footing in the market. A recent report that listed the major players in the market had IBM, Cisco, and Dell in the top five.

These companies are well established and have the budget to deepen the presence in this space. From my point of view, I could see Darktrace being bought out by a larger player. However, I don’t see Darktrace growing to such a size and a market share to really get anywhere close to the larger firms.

I’m not completely against thinking that we could see further growth in Darktrace shares. I think the company could break even in coming years and offer a return to investors. However, from my point of view I don’t quite buy into the hype around the company or the share price. I’ll read the report due out next week with interest to see if anything changes my opinion. But for now, I won’t be investing in Darktrace shares.

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jonathansmith1 and The Motley Fool UK have no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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