Darktrace fills the cyber security void

The threat of regular cyber-attacks on major organisations has moved need for heightened cyber-security front and centre in the past few years. Cambridge-based cyber-security specialist Darktrace (DARK) is one of a new generation of software companies that have arisen to head off the evolving threat posed by ransom-ware hackers operating out of Eastern Europe and the Far East. The results were the first proper chance investors have had to appraise the company after it raised $237m (£171m) in an initial public offering in May and, judging by the heavy buying activity, initial impressions of its operating performance were broadly favourable.

Darktrace’s basic pitch is that the perimeter defence model has not proved to be particularly effective against determined hackers. It claims that its technology, based on machine learning, will allow an organisation’s security systems to independently “learn” how to deal with potential threats and to generate a response based on that the outcome of that learning process. Any comparisons with Skynet are entirely coincidental. The high level of R&D spending required to develop its products was clear in these results, with over $22m of spending on plant and equipment alone, plus a 50 per cent increase in its R&D headcount. Overall, that pushed total R&D spending up by 140 per cent to $28.8m.

While the company’s basic product offering is straightforward, the business side of software development and sales tends to generate exceptionally complex accounts, and Darktrace is no exception to this rule. For example, Darktrace forward sells its products and services in contract bundles where sales might be realised over two or three years. It is paid upfront for these goods and services prior to delivery, so it must capitalise these revenues as deferred revenue on the balance sheet ($187m in these results) rather than as straightforward receivables. When services fall due, the contract is deemed fulfilled and the deferred revenue is moved to the income statement. For example – around $96m of revenue was recognised in this way in these results – how and when revenue is recognised is ultimately up to the discretion of the management.

Valuing Darktrace is going to be difficult, though it is obvious it is in a high-risk/high-growth phase in its business life. House broker Jefferies Securities is forecasting a loss before tax of $46.4m for 2022, giving a statutory loss per share of 7ȼ a share. We’d advise keeping an eye on the cash flow statement to see if inflows start to match top-line revenue growth in future results. Hold.