As the Darktrace share price slumps, should I buy now?

Rupert Hargreaves explains why he thinks the recent fall in the Darktrace share price presents an opportunity for long-term investors.

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After tripling in value between its IPO and 23 September, the Darktrace (LSE: DARK) share price has slumped in the past few days. 

Shares in the cybersecurity business have declined a staggering 15% since the 23rd. The stock could continue to decline from current levels, although investors should never use past performance to guide future potential. 

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Despite this risk, I’ve been wondering if I should take advantage of the recent declines to snap up some shares in this leading cyber security enterprise. 

Darktrace share price declines

Before buying a stock that’s seen a significant decline, I always want to understand why the shares have performed poorly. 

It seems to me as if the company was underpriced when it first came to market. Initial expectations pegged Darktrace’s valuation at £3.6bn. But when it came to the IPO, the City was only willing to give the business a value of £1.7bn. 

So it seems likely that some of the stock’s recent performance can be attributed to the market playing catch-up. Since then, the group’s issued a robust set of results and benefited from investors’ growing demand for technology stocks. 

For its fiscal year ending June, revenues expanded 41%, although its operating loss rose 55% to $39m (£28m). 

City analysts expect the company’s revenue growth to continue. They totalled £200m for its 2021 financial year, and are expected to expand to around £450m by 2024, according to projections. 

Unfortunately, losses are expected to continue too. Analysts believe the company will need to spend increasingly large amounts of cash on research and development and marketing to drive growth. 

I think this is one of the reasons why the Darktrace share price has performed so poorly recently. Growth stocks have been under pressure in the past few days as investors have become increasingly concerned about the outlook for the global economy.

As a loss-making growth share, Darktrace hasn’t been able to escape the carnage. 

High valuation

To some extent, these concerns are justified. The stock’s currently trading at a price-to-sales (P/S) ratio in the mid-20s. As long as the company continues to grow, this multiple could be sustainable. However, if growth starts to slow, the market may not be so forgiving. 

The cybersecurity industry is also incredibly competitive. Darktrace needs to invest heavily to stay on top. And if it doesn’t, it could fall behind. This is probably the most considerable risk and challenge the enterprise faces right now. 

Still, considering all of the above, I think the stock’s an attractive investment as a speculative growth play. Cybersecurity is a booming industry, and Darktrace has already proven its product has a considerable market opportunity.

While some investors might be concerned about the group’s current valuation, I’m willing to look past this headwind and focus on its long-term potential. That’s why I’d buy the stock today. 

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Rupert Hargreaves has no position in any of the shares mentioned. The Motley Fool UK has 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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