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A connection with a man accused of a multibillion-dollar fraud is not what any business wants, especially when it is just starting life as a quoted company. You can’t choose your investors, however, so Darktrace must make the best of the presence of Mike Lynch, the founder of scandal-hit Autonomy, on its shareholder register.
It doesn’t seem to have done the share price much harm so far: since its listing at 250p in April has almost tripled to 728p at Friday’s close.
Anyone tempted to buy now in the hope of further gains needs to ask two questions: does Lynch’s continuing connection – he and his wife own about 15pc of the shares – pose any risks to Darktrace, and can the company’s products hold their own in a competitive and fast-evolving cybersecurity market dominated by deep-pocketed American rivals?
Questor sought the views of Walter Price of Allianz Global Investors, who has many decades of experience as a technology investor based in Silicon Valley and holds several cybersecurity stocks in the funds he runs. One, CrowdStrike, has made a gain of about 350pc for readers since we tipped it on the strength of Price’s belief in the stock in January last year.
Price is clear about the limits of Lynch’s connection with Darktrace. “Its security software uses artificial intelligence to look for anomalies in behaviour that may indicate a ‘malware’ attack and Mike Lynch used the same type of technology at Autonomy,” he says. But he has seen no sign of that company’s dubious business practices at Darktrace.
“Autonomy cooked the books because its products were hard to sell,” Price adds. “This is also true of Darktrace’s products to some extent but I’ve seen no indication that it has resorted to accounting trickery in response – there is not the issue with receivables or deferred revenues that were yellow flags at Autonomy. If I heard even rumours to that effect I would sell my Darktrace shares.”
He adds: “I trust the people who are running the company. They weren’t at Autonomy; they come from the security industry or from other technology companies. I met them a couple of times when Darktrace was still a private business and I found them impressive.”
A spokesman for Darktrace says Lynch’s only involvement now is as an investor and he has no role in its management. He denies any wrongdoing in relation to Autonomy.
What of Darktrace’s products?
Price says the underlying technology used in its software is “sound”. “The reputation of the AI-enabled anomaly-detection technique Lynch developed at Autonomy has not soured,” he says. “This technology works – it is used in the detection of credit card fraud, for example.
“Where Darktrace stands out from rivals is that its software analyses users as opposed to devices and gives customers a ‘map’ or visualisation of their networks. I have heard customers say they like this – they like the easy user interface.
“Other companies say they do anomaly detection better but they will find it hard to displace Darktrace because that affinity for the way its products work is ‘sticky’.”
The opportunity is huge: traditional antivirus techniques that seek to recognise known threats no longer work because new types of attack appear constantly, while an acute shortage of IT security professionals means that companies want to automate the security function as much as possible.
Darktrace’s problem, Price says, is that its software can require customisation to each client’s needs, which makes the sales process longer and harder than he would like.
“It needs to improve the way it sells,” he says. “I think it’s possible – it will learn to categorise customers and use the experience gained from selling to similar ones in the past to streamline the system. The company is still evolving and I am waiting to see how it turns out. This is why I don’t own more of it.”
We can see Darktrace’s potential but also the obstacles it must overcome before it can fully be realised. We’ll adopt Price’s cautious approach and advise readers to take just a small punt on the stock at this stage.
Questor says: speculative buy
Ticker: DARK
Share price at close: 728p
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