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As the Darktrace share price crashes, should I buy?

Businessman looking at a red arrow crashing through the floor
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In contrast to some other UK tech post-IPO periods, such as THG and Deliveroo, Darktrace (LSE: DARK) has seen a great deal of success. Indeed, the Darktrace share price has managed to rise over 140% since its IPO. During this period, the  firm has also seen excellent revenue growth. But yesterday, amid a broker note giving it a sell rating, the Darktrace share price dropped around 16%. It’s now priced at under 800p. So, should I be buying this stock on the dip, or is there further to fall?

What caused such a big fall?

In most cases, a broker note doesn’t have too much of an impact. But yesterday, Peel Hunt gave a rather damning verdict, stating that the Darktrace share price has a downside of 50%. Clearly, this rattled investors, because at one point the stock was down as much as 27%. It did manage to recover some losses before the end of the day though.

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It must be noted that a broker note doesn’t actually change the prospects of a company. It’s just an opinion. Even so, there were worrying signs for Darktrace. For example, according to the broker, some experts consider that the product is a “gimmick”. As this is how the firm generates its revenues, and is the basis of its valuation, this is not a good sign.

The broker also corroborated its sell rating with concerns over intensifying competition and the firm’s limited research and development spending. As such, it may seem hard to justify the company’s £6bn market capitalisation, and therefore, it’s clear to see why the Darktrace share price was punished so severely.

Was the pullback overdone?

Whenever a stock falls back so much, I always ask whether it’s a market overreaction. There are signs that this could be the case here. In fact, in the recent full-year trading update, the company was able to lift revenues by 41.3% to $281m. The customer base also grew by 45%. This gives me hope that Darktrace’s product, which is a “fundamentally different approach” to cyber defence, isn’t just a gimmick.

The outlook for 2022 also looks strong, with revenue growth expected to be between 35% and 37%. This demonstrates the potential of the tech company.

Unfortunately, the company is still losing money, and this does make it slightly harder to give it a fair valuation. In fact, in the full-year trading update, it reported a loss of $150m. The current route to profitability is also uncertain. Consequently, the pullback in the Darktrace share price may not necessarily have been overdone, and it may have just pulled the stock back to reality.

Where next for the Darktrace share price?

After its mighty fall yesterday, Darktrace certainly trades on a fairer valuation. Combined with the company’s strong growth prospects, there is, therefore, some hope that it will be able to rise further. I’m going to sit on the sidelines during this period of volatility however, until I feel that the firm 100% deserves its high valuation.

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Stuart Blair has no position in any of the shares mentioned. The Motley Fool UK has recommended Deliveroo Holdings Plc. 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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