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The Darktrace share price plunges 55%! Should I buy the stock today?

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The Darktrace (LSE: DARK) share price has plunged 55% since the end of September. Despite this performance, shares in the cybersecurity company have added 34% since its IPO in April. 

However, while the stock has added value since its IPO, the recent decline is notable. It suggests the market has lost confidence in the business and its ability to hit growth targets. 

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The thing is, I think this is a mistake. As such, rather than avoiding the business, I have been looking at the stock to see if it could be worth adding to my portfolio

Darktrace share price outlook

When I have covered the cyber security company in the past, I have always tried to highlight its long-term potential. The cybersecurity industry is vast and growing at a double-digit annual rate. As the world becomes more and more digitally-focused and interconnected, I think it is unlikely this trend will end anytime soon. 

Darktrace’s unique offering helps it stand out in what is quite a crowded sector. The company uses artificial intelligence to identify threats and shut them down before they can cause too much damage. 

Its impressive roster of clients suggests the technology is not just a vanity project. It works, and clients are willing to pay for it. 

According to the group’s latest trading update, the number of customers using its services increased nearly 40% during the six months to the end of December. This supported a 50%+ increase in revenue. 

Further, annualised recurring revenue churn, which indicates how many customers are moving away from the service every year, fell from 7.6% in the first half of 2021 to 6.9% for the last six months of the year. 

These figures show clients are not only drawn to the enterprise, but when they arrive, they are staying.  In my opinion, there is no better indicator of a company’s quality than customer retention. 

Company valuation

Placing a value on the Darktrace share price is a little tricky because the company is not yet profitable. It could be some time before it moves into the black, as it is spending heavily on growth initiatives. 

I think this is the right decision. Sooner or later, the group can dial back on growth but, for the time being, it seems fitting that the business should be spending heavily to establish itself. 

If it does not spend enough, customers may start moving elsewhere. In the worst-case scenario, without spending on research and development, its software may not be able to stand up to sophisticated cyber attacks. This could have a terminal impact on the group’s reputation.

The stock is trading at a price-to-sales (P/S) multiple (a better indication of value when businesses are unprofitable) of 14.3. The international peer group average multiple is around 60. 

These numbers suggest the stock is undervalued. As such, and considering the company’s growth prospects, I would be happy to add the shares to my portfolio today.

I think the Darktrace share price has tremendous potential and looks undervalued. 

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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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