Datadog (NASDAQ:DDOG) has emerged from the pandemic as one of the most well-suited businesses for this environment and managed to maintain strong growth despite the challenges. Q1 results were surprisingly robust, and the stock has appreciated 50% since then. High-quality products offering, improving customer funnel, and accelerated digitalization trends are three solid reasons to believe this company has a bright future ahead.
What The Company Does
Datadog provides a series of products which give companies extensive visibility over their cloud and network infrastructure status. Dashboards and visualization tools allow engineers to monitor and build their infrastructure with ease and speed. These tools provide several important benefits to companies. For example, engineers can predict traffic spikes and prevent servers downtime, manage and improve performance, ensure that new servers are running smoothly compared to peers, reduce risk during cloud migration and much more. Generally speaking, Datadog allows companies to quickly isolate and address issues in systems that are getting more and more complex.
Figure 1 – APM Product overview – Source: Datadog
1) A Great Product
Datadog has rapidly expanded its product offering from infrastructure metrics to a much broader portfolio. It now offers a series of products, such as APM for monitoring, troubleshooting, and optimization of applications performance, LOGS for automatic collection and easy navigation of logs from all services, applications, and platforms, and Synthetics for detection and alert of users’ issues.
The quality of the product offering appears to be excellent. Many large companies have posted very positive reviews, and this is confirmed by the high retention rate numbers as well as the significant cross-selling and up-selling rates. At Q1, Datadog dollar-based net retention rate was above 130%, driven by customers increased usage and adoption of new products. Moreover, the number of customers using two or more products increased from 32% to 63% YoY, and 5% since last quarter. Datadog’s product quality and robustness are also highlighted by the growing number of customers with ARR above $100,000, which is has increased 89% from last year to 960 customers.
An interesting recent addition the product offering is the Security Monitor product. The accelerated shift to a digital world has increased companies’ focus on cybersecurity, and the nature of this product is well suited to capture on this trend.
Figure 2 – Dashboard Example – Source: Datadog
2) Costumers Trends
Customers growth is significant and it has accelerated over the last year. Datadog added almost 1000 customers in the last quarter, and at the end of the quarter, it could count about 11500 customers, representing a YoY growth of 40.2%.
The company announced Datadog Partner Network in January. The network has the aim of increasing business between partners members, especially cloud services, and ultimately benefit Datadog due to increasing usage of the platform. In this sense, I see this move as similar to the seller ecosystem of Shopify (NYSE:SHOP), which has been extremely successful for customer satisfaction and retention. For Datadog it is too early to tell if this strategy could have a meaningful impact on revenue.
3) Digitalisation Trends Promise A Bright Future
Datadog has been certainly benefited from the accelerated shift to a digital society brought about by the Covid-19 pandemic. The vast majority of businesses are realizing the importance of an online presence, and the increased migration to cloud services will go hand in hand with Datadog’s business growth.
In Q1, revenue was up 87% YoY to $131 million, with gross profit totalling $104 million. Therefore, the gross margin remains very high at 80%. Cash flow from operations has increased significantly in the last two quarters (figure 1), but so have operating expenses, up 66% YoY.
Figure 3 – Data Source: Seeking Alpha, Figure created by Author
However, the increase in expenses is mainly driven by increasing R&D expenses from $23 million in Q1 19 to $41 million in Q1 20, which shows that the company committed to growth and expansion. So far, Datadog has shown to be able to rapidly innovate, and this innovation has successfully translated in increased customer acquisition and additional revenue through both cross-selling and up-selling.
Competition Is Not Quite There Yet
Datadog has a broad range of competitors in the monitoring and analytics market. In infrastructure monitoring, Datadog is competing against giants such as Microsoft (NASDAQ:MSFT) and IBM (NYSE:IBM). The APM product competition instead includes Cisco Systems (NASDAQ:CSCO) and New Relic (NYSE:NEWR), while for the LOGS product the main competitors are Splunk (NASDAQ:SPLK) and Elastic (NYSE:ESTC).
This is not a winner-takes-all market. However, what gives Datadog a hedge over competitors is the ability to provide a unified platform combining functionalities from numerous traditional product categories, and with extremely high customers satisfaction. Currently, Datadog could have one of the best (if not the best) platforms on the market, and the exponential growth that the cloud market is experiencing should foster Datadog’s growth for the years to come.
Conclusion & Takeaway
Datadog has demonstrated its resilience achieving growth despite the challenging environment, and the stock has had an impressive run-up in the last couple of months. The company has developed a strong product offering and showed great ability in cross-selling and up-selling to existing and new customers. Despite growing expenses, margins and revenue growth remain high, and the company has shown in the past to be able to put the R&D capital to good use. I rate DDOG a buy below the $100 mark.
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Disclosure: I am/we are long DDOG. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I am not a financial advisor. All articles are my opinion – they are not suggestions to buy or sell any securities. Perform your own due diligence and consult a financial professional before investing or trading.