Whether we should be worried about Darktrace (LON: DARK) is an interesting question in itself. As we’ve noted before about DARK there’s some market concern over the aggressiveness of revenue recognition at the cybersecurity expert. All are agreed that the basic model, the use of AI to monitor networks for security breaches, has a sense to it, a value. There’s just some market uncertainty about whether the financial results are reported in a markedly aggressive manner or not.
There is, now, a slightly different concern. Which is that the sector – cybersecurity – might not be quite the growth sector previously assumed. This is one of those things that is always a problem. If one company in a sector reports bad results is that the result of the one company? Or of the sector? Then, if another company in the same sector reports much the same problem, is that happenstance, coincidence or something that’s affecting much to most of the sector? There’s no right answer here but it is one of those things that has to be considered.
NCC and Shearwater are only indications for Darktrace, not proof
So, what is the effect upon Darktrace of the NCC and Shearwater problems? Both companies can be considered to be in largely the same sector – that cybersecurity – and both are reporting much the same problem. NCC has said that they’re having terrible difficulty in closing sales. Everyone agrees that security is very important, they’re delighted to discuss how this might be increased. But actually prying the order – and thus their money – out of the hot, sticky, little hands of the Finance Director is proving very difficult indeed. Sales, profits are going to be down according to the trading statement, so the share price drops 40% at one point.
Shearwater, another company doing security for those cybers, also had a trading update. Which detailed much the same set of problems. Yes, right industry, lots of customer interest, but actual spending decisions being delayed, revenues would be etc. and a 40% share price fall.
So what will the Darktrace numbers be?
Which gives us our thing to think about concerning Darktrace. Currently DARK is in a closed period. That is, they’re likely to give us a trading update in the next couple of weeks – therefore they’re not going to say anything until they make that announcement. But clearly whether this is a sectoral problem or a – two – company specific one matters.
There is no obviously correct answer at this point. For in any sector there will be those companies which increase business, margins, profits, just as there will be those that lose all three. Simply because that’s what markets do. Some have better products than others and therefore they gain the business. It’s rather the point of having the system at all. So, it’s entirely possible that the pro0blems at NCC and Shearwater specific.
Is it sectoral or specific?
On the other hand it’s possible that the sectoral problem affects all. Say, all bank stocks are looking pretty weak right around now. Obviously, some are still doing great, others are teetering on the edge. There’re definitely differences in individual performance even as we recognise that there are sectoral commonalities.
On the actual day of the twin revelations Darktrace dropped 2.75% (and it was worse at times during that trading day). So, the market opinion so far is that this is company specific, not sectoral – otherwise there would have been something akin to those twin 40% drops. But here’s the conundrum that faces us – is that actually true?
Are we here looking at a couple of companies in a sector not doing well? Or are we looking at an entire sector having difficulty in prising money out of the cold dead hands of finance directors? This could go either way and one useful line of investigation would be to look at other cybersecurity companies and see how they’re doing. Each extra piece of evidence is only one extra piece of evidence though – nothing will be truly definitive until we see Darktrace’s own trading update in that fullness of time.
Investing through the fog of ignorance
It’s also going to be something of a binary outcome. Continually accelerating sales – sales in the sense of actually closing the deals – would show that either Darktrace is avoiding the sectoral problem or that it isn’t, in fact a sectoral problem. This would involve a bounce in DARK shares. Or, of course, the results could show that same reluctance to spend among the customer base and therefore we might well see a significant weakening of that price.
As always in investing and trading we’re in something of a fog of ignorance, we just have to do the best we can with the scanty evidence available to us.