Datadog, redefining expectations

I feel a bit frustrated and quite excited with Datadog’s earnings. Not because of the result, or because of the market reaction, but because I feel like some of the trends might be being missed. Datadog met my expectations for top line growth, and management comments have given me great confidence that the days of very high growth are still ahead of us.

If you are someone who feels disenchanted by Datadog’s Q3 report, I encourage you to think again.

I have seen a few comments about Datadog’s ‘deceleration’ and I am wondering if it’s me, or seemingly everybody else, who might be looking at this wrong! What deceleration…
Datadog’s underlying growth rate is accelerating here, in my opinion. Let me explain.

Two months ago I posted:

“My worst case Q3 result would be $150m, which would represent +7% sequential increase or +56% year on year, and best case $161m (+15% sequentially, +68% year on year). Anything in this range would beat management guidance.”
https://discussion.fool.com/so-most-of-this-has-already-been-tou…

Datadog have just reported $155m, right bang in the middle of my best and worst case range. In other words, ‘par for the course’.
So the top line revenue growth was, for me, as per (my) expectations.

I had then followed up with a post on the same thread saying:

"We have to consider that Datadog might grow +15% sequentially, which would be a return to its pre-covid growth rate and a big beat (to my mind), but that would ‘only’ be +68% YoY. How would the market perceive that? Equally a flat sequential growth rate of 7% would be in fact maintaining its growth rate but might be construed as deceleration by the market. A few more quarters of simply maintaining its new growth rate and up against a tough Q1 comparative, Datadog would go from a 87% grower to a 31% grower in a year. Or at the ‘best case’ 15% sequential increase each quarter, in Q221 this would ‘only’ be a 62% grower YOY. Datadog has been awarded a high multiple because of its perceived dominance of its market. But how quickly will the market’s perception change if Datadog growth ‘perceptibly’ changes YoY, and what will happen to its multiple then."

Again, the market reaction in after hours, as per expectations. Perhaps the scenario above is now playing out. Datadog’s ‘high’ relative valuation demands a higher level of growth, and underlying trends are overlooked in favour of the headline TTM YoY number. But I think the market might be missing something obvious.

The key here for me is Datadog’s sequential growth, which has in fact been accelerative in Q3. I have been told on a separate platform that sequential growth isn’t a relevant metric to look at here, because it doesn’t take into account contract timings, seasonality etc. I would argue that actually, it’s imperative to look at sequential growth for Datadog’s usage based model, because this tells you what the underlying growth rate of the business is. I also don’t think seasonality is a significant factor for Datadog, and actually if anything looking at prior year trends Q3 would be ‘seasonally’ weaker for Datadog than Q2 for instance. Datadog’s revenue is predictable, as management has often expressed.

Growth rate vs YoY growth

While the TTM (Trailing Twelve Months) YoY revenue growth decelerates, the NTM (Next Twelve Months) growth is accelerating. YoY growth will follow sequential growth eventually. Let me explain:

Revenue Growth


YoY%   QoQ%
Q219 82%    +19%
Q319 88%    +15%
Q419 84%    +19%
Q120 87%    +15%
**Q220 68%    +7%**
**Q320 61%     +11%**

Now let’s compare it to the Enterprise customer (spend >$100k ARR) growth that I called out in my Q2 post, populated to Q3. Can you see the trend here?

    
YoY% QoQ%
Q219 89%    +17%
Q319 93%    +22%
Q419 89%    +18%
Q120 89%    +12%
**Q220 71%    +6%**
**Q320 52$    +9%**

Datadog have just added 1000 new customers in Q3, up from 600 in Q2. The trend of Enterprise customer spend is usage based.

So what is Datadog’s underlying YoY growth rate, forward looking NTM?

+11% QoQ growth is still below the sequential growth of quarters in the prior year (hence the lower TTM YoY %), so the run-rate is not back at full throttle yet. Worst case, if we assume that 11% sequential acceleration was not incremental each period but phased flat through the quarter, annualised this represents a +52% YoY underlying NTM growth rate.

If we can assume it was accelerative each period, as management comments suggest, then we might infer that the +7% sequential rate in Q2 then +11% rate in Q3 will continue to accelerate to +15% in Q4 and so on. A 15% sequential growth rate is +75% YoY, annualised. +19% sequential growth is +101% YoY, annualised. This is why it’s important to understand what the run-rate is month by month, as best as we can.

In a nutshell, Datadog has accelerated it’s forward looking YoY growth rate from 31% in Q1 to 52% in Q2.

Management comments and Usage

Management in the Q2 earnings call, speaking in August:
We saw over the last month a notable improvement in usage growth relative to Q2, driven by broad-based strength across our customer base…. To put it plainly, customers with large cloud deals from AWS, Azure or GCP look for short-term savings. Note that this is not a new motion as we see many enterprises go through these optimization exercises on a regular basis. What was unusual this quarter was to see a large number of companies going through it at the same time.

The story appears to be holding up now for Datadog. The company’s usage was impacted through these ‘optimisation’ exercises in Q2, and has recovered through Q3.

In the Q3 earnings call, Oliver Pomel CEO:
Throughout the quarter, usage growth of existing customers was robust, which was a return to more normalized levels after slower usage expansion in Q2. To be more specific, the pace of usage growth in Q3 was broadly in line with pre-COVID historical levels. As a result, we feel comfortable that some of the rationalized cloud usage from our larger customer that we’ve seen in Q2 was transitory, as many of those customers have now returned to steady growth from multiple consecutive months.

David Obstler, CFO
After some pressure seen in Q2 driven by optimization efforts from larger customers that scale in the cloud, Q3 was characterized by a decisive return to more normalized growth from our existing customers.The trend was broad based and sustained throughout the quarter. This provides us with confidence that what we experienced in Q2 was a transitory optimization effort that were related to the challenging macro environment. Recall that we have a ratable SaaS model, therefore while Q3 usage growth was back to pre-COVID levels, the pressure experienced in Q2 can still be seen in our year-over-year comparisons for a number of quarters.… Usage growth was strong as companies are prioritizing cloud migration and digital transformation more than ever and we continue to execute at a high level.

This is ALL we need to know about Datadog’s usage growth!!! Q2 was a usage blip due to these optimisations and during Q3 the usage PACE OF GROWTH is returning to pre-pandemic levels
(we can infer 16-19% sequentially). THIS is why sequential growth is important here. Management is telling everybody exactly how it is!

Looking into Q4

Azure and Google Cloud

Analyst:
In terms of the timing of the ramp of the partnerships not only for Azure, but also what you announced with Google as well. How should we think of the timing of that flowing into revenue?

Olivier Pomel — Chief Executive Officer and Co-Founder
It’s not going to be immediate, all right. So the Azure one is just in preview right now. It’s not completely live yet. The GCP partnership involves a number of new technical things need to happen, but also some new go-to-market motions we’re putting in place. So there’s not going to be an immediate impact, but we see that as being potentially meaningful contributed in the mid to long term.

So without the new revenue contribution from Google Cloud or Azure in the near term, what might Datadog’s growth look like in Q4?

Datadog revenue beat vs management guidance:

Q319 +13%!!!
Q419 +12%!!!
Q120 +11%!!!
Q220 +4%
Q320 +8%

Going into Q4, Datadog have just guided for +6% sequential growth. If we assume Datadog will beat this guidance by its average beat of 10% (now its pace of growth is back to pre-pandemic levels), Datadog might be expected to hit $179m in Q4. This would represent +16% sequential growth, or an underlying NTM growth rate of +81%. In two quarters Datadog’s NTM growth rate will have gone from 31% to 81% (!!), while it’s TTM growth rate decelerates from 68% to 58% over the same period (due to Q2’s potential one-off usage blip). I don’t think this is an unrealistic expectation at all.

In this scenario, the market might only be looking at 58% YoY growth (TTM) in Q4 from its 61% growth this quarter, and assume continued deceleration. Silly market! In this scenario, I would then likely add significantly to my position while the underlying NTM trend develops.

It strikes me, for anyone selling shares now, that they are selling because of Datadog’s Q2 report, not their Q3 report. Or did anyone really believe a return to >68% YoY growth was likely in Q3. Datadog was growing from a lower usage run rate because of Q2, it was always likely to decelerate YoY TTM. That’s not a very good tell for its underlying growth rate, in my opinion.

The story is in tact. What we can surmise from Datadog’s Q3 report is that it is accelerating at an underlying forward looking YoY revenue growth of 52%, with good prospects to accelerate this further in coming quarters, perhaps to a NTM growth rate of 75% or above.

The question is now, how much patience will the market reward the company until it’s TTM YoY growth rate catches up with the underlying trend. Is the haircut after hours now redefining expectations for Datadog’s NTM growth. Isn’t the market supposed to be forward looking, not backwards looking? Perhaps we will find out in the coming quarters. I have no intention of missing out, while the market plays catch-up.

I have kept Datadog a smaller position while I expect this catch-up to play out. I fully intend to make this a significant position if the trend plays out in Q4 as expected.


(I had written the following example then decided it was too obvious. But if anyone is interested, how I look at a usage based model):

When looking at a usage based model, it seems important to understand what the usage run-rate is. I like to conceptualise a usage based model like so:

Imagine you have an average customer who uses 100 Terabytes (TB) of data per month on average in Q4 of the prior year. Due to Covid impact, in month/period 1 (P1) of the new financial year this drops to 75TB. In P2, this drops to 70TB of data usage. In P3 the Covid impact is recovering, and the usage is back up to 75TB. In the earnings call, management announces that the usage blip was a one time impact and is recovering towards the end of the quarter.

Therefore in Q1, your customer has used a total of 220TB of data, down 27% from Q4 exit rate. However, your usage run rate has actually increased back up +7% in the final month of the quarter, but all the market cares about is the 27% total decline, and the decline in YoY revenue growth that comes with it. The market sells off.

Fast forward to Q2 of this example, and your usage is working up from Q1 exit rate of 80TB. In P4 your usage is back at the prior year exit rate of 100TB, in P5 the acceleration continues to 125TB, in P6 150TB of data. Your Q2 total usage of 375TB is +70% up from your Q1 usage and +25% up on your Q4 total rate, and YoY revenue growth is now accelerating again. Management had told the market that the usage was recovering in the previous earnings call, but the market was so focused on the YoY revenue growth that they ignored this. The market is playing catch-up on the usage based model.

206 Likes

Great post. I came to a similar conclusion a slightly different way but am not quite as aggressive on next quarter’s growth. To your point, management pointed out it wasn’t seeing a return to pre-COVID overall growth rates but to pre-COVID pace of growth rates. In addition to revenue growth, I track the raw YoY dollar difference. For most companies total revenue growth shrinks due to the law of large numbers, but good companies usually see a steady rise in raw dollar increases all the way through. Here’s DDOG including Q4 and FY estimates:


Revenue							% YoY					
	Q1	Q2	Q3	Q4	YR			Q1	Q2	Q3	Q4	YR
2017	$18.40	$21.91	$26.74	$33.71	$100.76		2017					
2018	$39.72	$45.68	$51.07	$61.61	$198.08		2018	115.8%	108.5%	91.0%	82.8%	96.6%
2019	$70.05	$83.22	$95.86	$113.64	$362.78		2019	76.4%	82.2%	87.7%	84.5%	83.2%
2020	$131.25	$140.01	$154.68	$174.00	$590.00		2020	87.4%	68.2%	61.3%	53.1%	62.6%
												
Raw YoY Increase							% YoY					
	Q1	Q2	Q3	Q4	YR			Q1	Q2	Q3	Q4	YR
2017							2017					
2018	$21.31	$23.77	$24.33	$27.90	$97.32		2018					
2019	$30.34	$37.54	$44.79	$52.03	$164.70		2019	42.3%	57.9%	84.1%	86.5%	69.2%
2020	$61.20	**$56.79**	$58.81	$60.36	$227.22		2020	101.7%	51.3%	31.3%	16.0%	38.0%

As you can see, a pretty smooth sequential progression in raw dollars dipped in Q2 and has started to pick back up. I’d expect some pressure on comps through Q1 at least due to the reset since the raw amounts are still below Q1.

I also try to gauge next quarter’s revenues using the history of beats:


	Est	Act	+/-	%	Seq	%
3Q19		$95.86			$12.64	15.2%
4Q19	$103.00	$113.64	$10.64	10.3%	$17.78	18.5%
1Q20	$119.00	$131.25	$12.25	10.3%	$17.60	15.5%
2Q20	$136.00	$140.01	$4.01	3.0%	$8.76	6.7%
3Q20	$145.00	$154.68	$9.68	6.7%	$14.66	10.5%
4Q20	$164.00	$174.00	$10.00	6.1%	$19.33	12.5%

I’m using $174 as my placeholder rather than your $179 mostly because I have a hard time seeing a $24M sequential bump given the history. That same process had me at $153 (+60%) this quarter, which wasn’t too far off. I can’t see them returning to 10% beats right away in this environment. I’d rather be pleasantly surprised than expect that kind of beat.

So what’s it all mean? Well, it probably means DDOG sees a multiple reset. Given its solid profits and cash flows, I could see it keeping a premium like say TTD. However, it probably doesn’t run with the ZM’s or SNOW’s of the world anymore. Datadog is still a 50% grower making a profit, so that’s worth something to the market. It’s just not worth as much as the 70% grower everyone hoped DDOG would be.

75 Likes

“I’m using $174 as my placeholder rather than your $179 mostly because I have a hard time seeing a $24M sequential bump given the history. That same process had me at $153 (+60%) this quarter, which wasn’t too far off. I can’t see them returning to 10% beats right away in this environment. I’d rather be pleasantly surprised than expect that kind of beat.”

Thanks SN. Agree with your conclusions. $179m wouldn’t necessarily be my ‘placeholder’ either, perhaps more the top end of my expectation to demonstrate my point. Let’s say $175m as the mid range, that’s still +65% NTM YoY growth, up from +31% in Q2 and Q3 of +52%.

Agree the market is undergoing a multiple reset, which has seemed inevitable since Q2. If the market was purely efficient, maybe it should have reset in Q2 rather than now.

For me key is the forward growth rate going into 2021, when Azure & Google Cloud partnerships should only accelerate it further. If the accelerative trend continues through Q4 and Q1 21, it seems just a matter of time until DDOG is the 70% of grower everyone hoped for, even more perhaps. 2 more quarters of accelerative trend then the softer TTM YoY comparatives start and the market starts to catch on. It certainly doesn’t feel to me like the denouement of Datadog’s high growth stage, the signs are to the contrary. A ‘delay’ perhaps.

Selling out now or in Q4 because of deceleration of its TTM YoY growth rate is selling out because of Q2 usage blip, while the underlying growth rate accelerates. It may likely reset again in Q4 due to its TTM YoY comparative (so I won’t be adding ahead of that), and if the trends are still right then I will then pile food on my plate.

For now I will simply hold my position (7% - small for me) and see how Q4 plays out. I haven’t maintained as big a position so far as some, so my decision will perhaps be different to others who aren’t prepared to wait for this thesis to play out with so much of their portfolio.

We also mustn’t rule out the counter thesis, that these ‘optimisation exercises’ turn out to be not quite so ‘one-off’ as expected. That would be my biggest concern, which could impact the underlying growth rate. However, management’s conviction in the Q3 earnings call in labelling this impact as ‘transitory’ multiple times reassures me of that concern somewhat. Their comments in Q2 earnings call proved accurate, I can maintain some level of trust in them.

I am more optimistic about DDOG’s prospects today than I was yesterday. The market is being slow with DDOG, in my opinion, I think we can be quicker. Isn’t that how we beat the market? :slight_smile:

50 Likes

I think of this quote as being the key quote from the conference call to understand what’s going on.

However, while Q3 usage growth was back to pre-COVID levels, the slowdown experienced in Q2 will still be seen in our year-over-year comparisons for a number of quarters.

In other words, they say they are growing as fast as before, but that, because of the slowdown in Q2, they are working off a lower base than they would have been for yoy comparisons, until they get four quarters under their belt. They sounded VERY positive.

Saul

78 Likes

to add to what Saul said, in Q&A there was a specific question about growth:

question:

Hi, thank you for taking the questions and congrats on the Q3 results. David, maybe just to start with you. I think the message I heard off the script was a pretty emphatic view from your guidance perspective that the cloud rushing that you saw certainly improved and then became less of an issue.

Expansion trends look like they’ve gotten back to pre-COVID levels. If you could just bridge for us, the slower revenue growth sort of in the low 60s versus the 80s, but at the same time I think you mentioned or I think Olivier mentioned, a record new ARR quarter.

And if I look at kind of the RPO based bookings, it seems like there’s an acceleration there. If you could sort of just help us understand how those three metrics sort of tied together and give us a sense of whether the business is truly rebounding versus what seems like slower revenue growth?

answer:

David Obstler

Yes. We had, as we mentioned, organic growth is a very strong contributor and that rebounded particularly in the larger customers to more historical trends. And we continue to have new sales in line. It’s a combination of the two that contributed to the record ARR growth. And so, those are the main factors. The organic is always the majority of the growth in a quarter complemented by the new business.

Olivier Pomel

And just to complement on that, this is Olivier. If you compare it to last year, so one thing to remember is we have a ratable SaaS model. So the growth we did forego in Q2 is going to be with us in the year-to-year comparison a little bit. Last year at the same time we had an acceleration also, which makes it for a tougher compare.

And it’s going to – the increases in ARR only show up in revenue when they’re actually incurred in the usage. So it depends on when we added those in the quarter and also put the flexibility of ARR was in Q2. So basically this is how you bridge the record ARR with the revenue as it [indiscernible].

4 Likes

Agreed Saul. Just listened to the call.

It was almost comical how many times they mentioned growth being back where it was at pre-COVID levels. I counted 9 times!

  1. After some of the rationalized cloud usage we saw in Q2, we’ve seen a clear return to normalized usage growth.

  2. Usage trends were robust and returned to more normalized growth after the pressure than we saw in Q2.

  3. After some pressure seen in Q2 driven by optimization efforts from larger customers at scale in the cloud, Q3 was characterized by a decisive return to more normalized growth from our existing customers.

  4. Throughout the quarter, we saw usage growth that was more in line with pre-pandemic historical levels. The trend was broad-based and sustained throughout the quarter. This provides us with confidence that what we experienced in Q2 was a transitory optimization effort that were related to the challenging macro environment.

  5. Recall that we have a ratable SaaS model. Therefore, while Q3 usage growth was back to pre-COVID levels, the pressure experienced in Q2 can still be seen in our year-over-year comparisons for a number of quarters

  6. While we saw usage growth in Q3 that was consistent with pre-pandemic historical levels, the pandemic is still ongoing and uncertainty remains. Therefore, we are being prudent by factoring into our guidance usage growth trends below what we have seen in Q3 and conservative new business assumptions as well as continued strong investment in R&D and sales and marketing

  7. And what we saw in Q3 was a sort of return to normalcy in those, meaning the larger customers continue to now, after that optimization, grow in pre-pandemic rates

  8. And just to restate some of what David said on the growth, we’re very happy with the growth we’ve seen in Q3. It really showed a reversion to normal for the month-to-month growth.

  9. I mean if you look at the monthly growth in ARR, any of the months in Q3, compared to Q4 or Q1, they would have fit right there. So I think it’s not – we’re very happy with what we’ve seen. At the same time, we’re still very careful of that because we don’t – given the macro backdrop, we’re still not quite sure what can happen toward the end of Q4.

9 times!! They said growth returned to pre-COVID levels a whopping 9 times! If we don’t see a fairly big beat next quarter, then I think we’ll know something is off. I mean management can’t spell it out this clearly and then be totally off. If they are I think that’s more a reflection of their character than the business. I think the CEO is very understated so I would be extremely surprised by this. He’s even said before that he likes to underpromise and overdeliver. I really don’t think he’s very promotional at all.

-Fish

39 Likes

Yes, they clearly spelled out that next quarter revenues should show a significant beat.

Questioned at the end on the “underlying assumption for some softness in usage in your 4Q guide, half pretty much into the quarter. It doesn’t sound like there has been any unusual usage softness in that 1.5 months, correct me if I’m wrong. So aren’t you just being a little bit too conservative here? I mean what is it the scenario that truly worries you with so little time left in the quarter?”

David Obstler
"Yes. I think just overall we’ve tended to be conservative in our guidance to incorporate usage growth rates that are lower than what we have seen and new logo accumulation that’s lower.

And I think we said last time, that given that velocity and the fact that we’re in the pandemic and we can’t predict what might happen around the world,
we wanted to continue to roll that conservatism forward.

So it’s really that at the core of the guidance, rather than anything that in particular
that we’ve seen that’s different than what we said on the call today."

3 Likes

I think that what they are saying is that because of Q2 dropping the baseline, you can’t look at yoy revenue growth for this quarter, Q4 or next Q1, but should look at sequential revenue growth. Then in Q2, yoy revenue growth should return to normal. But that’s just the way I interpret it.

Saul

24 Likes

In other words, they say they are growing as fast as before, but that, because of the slowdown in Q2, they are working off a lower base than they would have been for yoy comparisons, until they get four quarters under their belt. They sounded VERY positive.

Having listened to the conference call I came away with some different impressions. Yes they certainly sounded positive but rev was up 61% compared to + 87.4 in Q2 . Business has slowed but at the same time Pomiel says growth has returned to normal and is robust. I take that to refer to 61% growth.

New customers are up 37.9% vs 49% in Q2. That is a drop in growth not an increase. Billings are up 39% compared to 55% in Q2. RPO up 50% vs 82% in Q2. Adj gross profit +79% vs 105%.Other key metrics are comparable quarter to quarter.

So business has returned to ‘normal’ but key metrics are down.Then Obstler guides Q4 rev up 43%, full year revenue +62% with similar growth parameters for the following quarters.

So I am led to conclude that business is good and that that may result in ongoing 60% growth or less as compared to prior growth of 80% or more.

One point. I read the admonition to be aware of a lower base for comparison purposes as pertaining to future comparison between prior robust growth and current growth which is handicapped by lower Q2 numbers. If so that is still in the future . In Q3 we have a “return to normal growth patterns” and ‘strong’ performance. Even so rates of growth show declines.

I don’t see how that is consistent with the original growth thesis for DDOG which places it in or close to the same category as ZM or CRWD.

cheers

arnie

12 Likes

This is ALL we need to know about Datadog’s usage growth!!! Q2 was a usage blip due to these optimisations and during Q3 the usage PACE OF GROWTH is returning to pre-pandemic levels
(we can infer 16-19% sequentially). THIS is why sequential growth is important here. Management is telling everybody exactly how it is!

After listening to the earnings call I came to a somewhat different conclusion than you concerning DDOG likely future growth. Nevertheless I also found myself agreeing with your post point by point. However, I think the above quote highlights the issues.

It is certainly true that Y/Y growth will track that of Q/Q or month over month. And it is true that business at DDOG is strong and has returned to normal levels. I don’t think this implies prior levels of sequential growth at the +19%…

Evidently 11% sequential growth represents normality in Q3. I don’t think I want to make forecasts based on 15% to 19% sequential growth assumptions. I certainly would not guess at 19%. So that means something less than a 75% annual growth rate and my conclusion based on the guidance was that we could see growth at the +60% level if all goes well. I think that defines a change in the story. An 80+% growth story has become a 60-% story. Still a great story but different.

cheers

arnie

2 Likes

This was an incredibly informative report on DDOG - Thank You! I am new to investing and this board (4 months). I am so thankful for those on the board like yourself that take the time to explain WHY the market responds to information and more importantly, WHAT to look for in great companies and financial reports. After looking at DDOGs earnings report I was expecting a big bump, instead just the opposite happened. I immediately questioned everything I had learned the previous few months. Your report re-affirmed many of the things I learned and filled in some extremely important blind spots. As a high school teacher and coach, I love your style of preparation and appreciate your work.

Thanks Again,

Terry

5 Likes

but rev was up 61% compared to + 87.4 in Q2

Hi drag,
You are looking at the wrong quarter. That’s Q1, not Q2. In Q2 rev was up 68% not 87%, and new customers were up 37%, not 49% etc, etc etc. You may need to rethink your hypothesis.
Saul

15 Likes

Evidently 11% sequential growth represents normality in Q3. I don’t think I want to make forecasts based on 15% to 19% sequential growth assumptions. I certainly would not guess at 19%…
I think that defines a change in the story. An 80+% growth story has become a 60-% story.

Hi Draj,

You may have identified here what might be, in my opinion, the crux of Datadog’s thesis over the next 12 months - the pace of its growth. The change of Datadog from a 80% to 60% growth story already happened from Q1 to Q2, not now; the story now is of Datadog’s growth going forwards.

What is the pace of Datadog’s growth and do we have any clues?

Well, I don’t necessarily agree with the assumption that ‘11% sequential growth represents normality’. That would assume the pace of growth did not accelerate in quarter, but immediately recovered from its Q2 exit rate in July and maintained a constant pace of growth through the quarter, or that there is no further upside to that pace. This seems unlikely to me, particularly given Datadog’s past growth rates.

In a way, data usage can be represented by a car for me (apologies in advance for the bad analogy). Datadog had been flying at 100 miles per hour (mph) since IPO, only to hit an unseen speed bump in the form of ‘optimisation exercises’ and it stalled, now trundling along at 50mph. To get back to 100mph, it first needs to get to 75mph then 90mph. So while Datadog might now be going at growth rates ‘more in line with pre-pandemic levels’ this 1. may not yet be at full throttle and 2. in quarter there may have been acceleration to the pace of growth itself.

I think instead what represents ‘normality’ or ‘pre pandemic levels’ to me for Datadog’s pace of growth, rather than its Q3 sequential growth where it is reaccelerating from a lower usage run rate of customers hit by a pandemic, is the pace of growth of all 5 of Datadog’s quarters since IPO and before the pandemic - which is 14-19% (+69-101% annualised), with a mean of 16% QoQ (+81% annualised). You’ll also note that its Q3-Q4 growth last year was +19%, as a direct comparative.

When I set my revenue forecast for my own company, I need to give management a ‘best case’, ‘worst case’ and ‘most likely’ view. If I were to set my own expectations for Datadog’s Q4 growth, I would use $171m or +11% QoQ growth as my ‘worst case’ (based on the information available) and $179m or +16% QoQ growth as my ‘best case’. My ‘most likely’ would be somewhere in between, so $175m which would represent +13% QoQ growth or +65% NTM growth annualised. This is the same high level approach I used for Q3 which turned out pretty accurate, but maybe that was just fluke. This is clearly a narrow range, and all sorts of variables could see Datadog finish outside it. Although, in truth, the sense of positivity from management in the earnings call would make me lean to the higher end of this range, if anything.

I’m not saying Datadog WILL necessarily reaccelerate it’s growth to 15-19% next quarter, which really would be back to pre-pandemic levels, nor am I professing to be a psychic. But I wouldn’t rule it out either. I am simply setting expectations for my own story, based on my interpretation of the available information, and the key for me is the accelerative trend. As long as DDOG continues to accelerate QoQ, the story is in tact for me. Something to keep an eye out for in Q4.

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Hi Guys,
Thanks for all the useful information provided on this Earnings Call. I am a newbie, so really learning how to dissect these earning reports. I definitely see the argument being made here how management has repeatedly talked about returning back to “Pre-Covid” Levels. Yet the guidance was quite conservative. This was also asked by one of the Analysts and I had a question regarding the response that David gave -

Analyst: “underlying assumption for some softness in usage in your 4Q guide, half pretty much into the quarter. It doesn’t sound like there has been any unusual usage softness in that 1.5 months, correct me if I’m wrong. So aren’t you just being a little bit too conservative here? I mean what is it the scenario that truly worries you with so little time left in the quarter?”

David Obstler
"Yes. I think just overall we’ve tended to be conservative in our guidance to incorporate usage growth rates that are lower than what we have seen and new logo accumulation that’s lower.

And I think we said last time, that given that velocity and the fact that we’re in the pandemic and we can’t predict what might happen around the world"

I guess to some degree, conservatism can be factored in for the lower guidance, but does this “Lower” usage and “Lower” new logos accumulation bother anyone? Or should this be interpreted same as the Car Analogy (great analogy by the way Athinkingfool) where the management is essentially seeing things returning back to “Pre-Covid” levels (aka light at the end of the tunnel aka accelerating/improving), but not there yet. Hence David opted for the conservative, yet realistic expectations for Q4?
So Just looking for some light on this as to how I should interpret this statement made by the CFO. If things were turning back to their Pre-Covid levels, i would have expected a bit more optimism in that statement.
Thanks
iCAAN

I guess to some degree, conservatism can be factored in for the lower guidance, but does this “Lower” usage and “Lower” new logos accumulation bother anyone?

Hi iCAAN,

Good question. Using the car analogy (which I’m about to overkill), where between 50-100mph is Datadog at the moment.

If we take the +16% (81% annualised) average Datadog QoQ growth as the ‘100mph’, and the Q2 speed bump of +7% (31% annualised) sequential growth as the 50mph, Datadog’s Q3 of +11% (52% annualised) QoQ growth is somewhere in between, perhaps let’s say 75mph for now (as +11% is in between the +7% prior quarter and +15% prior year Q3). This gives us a baseline view.

Lower usage

“Usage trends were robust and returned to more normalized growth after the pressure that we saw in Q2.”

I wouldn’t like to assume that Datadog isn’t having any adverse effects on its usage growth from the pandemic whatsoever, or else it’d be safe to assume +19% growth next quarter (in line with prior year). It’s not out the water yet. Management has already offered us some reassurance over the ‘optimisation exercises’ but if we dig deeper into the Q2 and Q3 earnings call we can maybe get some detail over what this lower usage might look like that’s still impacting Datadog:

Optimisation exercises

Q2 earnings call:

David Obstler — Chief Financial Officer
"Macro factors pressured usage increases. To add some detail. First, while existing customers did grow, the rate of growth was below pre-pandemic levels. This was primarily seen from our larger customers with a greater scale in the cloud, who experienced business pressures and softer save in the near-term by slowing down their consumption. Additionally, one dynamic, which we discussed as a possibility on our Q1 call is that we did see the normalization of some spike usage from Q1. In March, we had a number of customers such as streaming media vendors, scale rapidly in the face of COVID. Over the following months, some of these customers were able to optimize usage and save on cloud spending amid budget pressures and normalization of business activities."

Q3 earnings call:

"As a result, we feel comfortable that some of the rationalized cloud usage from our larger customers that we’ve seen in Q2 was transitory as many of those customers have now returned to steady growth for multiple consecutive months. Strength was also broad-based across customers of different sizes and within different industries. In addition to that, new logo generation continued to be robust with customers’ additions in line with pre-COVID levels, and churn remains consistent with historical rates. Taking all of this into account, total ARR at the end of the quarter was a new record for the company, making this a very successful quarter.

While further optimization may happen periodically as we’ve talked about previously, we feel confident that cloud migration is very much intact and perhaps even strengthening longer term. Recall that we have a ratable SaaS model. Therefore, while Q3 usage growth was back to pre-COVID levels, the pressure experienced in Q2 can still be seen in our year-over-year comparisons for a number of quarters. Our powerful land-and-expand model continues to be driven by both usage growth of existing products as well as the cross-selling to our newer solutions.

And what we saw in Q3 was a sort of return to normalcy in those, meaning the larger customers continue to now, after that optimization, grow in pre-pandemic rates. And we also saw that the COVID impacted – the impact the medicine was taken, and they also continue to be stable to slightly up. So essentially, it was across enterprise, mid-market, and SMB, and it was across also the large customer, the small customer that exhibited similar types of organic growth, which is what we’ve seen over the long period in the company but saw a different effect in Q2"

Other COVID impact

Q2 earnings call:
"Lastly, we saw some of our COVID impacted customers reduce usage. As a reminder, these customers such as those in hospitality and travel contribute less than 10% of our ARR and therefore, they were a mild track detractor."

It seems likely to me that Datadog may still being seeing some reduced usage of its COVID impacted verticals, ie less than 10% of its ARR. There is also likely to still be some lingering pressure on optimising cloud spend too, even if usage is now ‘more normalised’, in my opinion. This is clearly a risk due to the continuing pandemic environment and something to look out for, although management appear confident the impact was ‘transitory’. This risk is why I have set my ‘best case’ Q4 expectation at +16% rather than +19%, for example.

New logo

"We have about 13,100 customers, up from about 9,500 last year, which means we’ve added about 1,000 customers in the quarter, meaningfully more than the 600 that are in Q2.
Next, our platform strategy continues to resonate and win in the market. As of the end of Q3, 71% of customers are using two or more products, which is up from 50% last year. Approximately 20% of customers are using four or more products, which is up from only 7% a year ago. We had another quarter in which approximately 75% of new logos landed with two or more products."

So we can see that Datadog increased new logo in Q3 by +38% YoY. This is up from +37% in Q2 but down still from +40% in Q1. However, in terms of net customer adds: Q1: 1000, Q2: 600, Q3: 1000.

In other words, Datadog’s new logo is back to pre-pandemic levels, but is yet to push on from that. Again, we see a reacceleration, which is good. Even better for me is the shift in mix of customers using more products, due to active cross-selling, and that 75% of new logos are landed with 2+ products . The mix of customers using four or more products at 20% is UP from Q2 (15%). Also in Q3, 71% of customers are using 2+ products, UP from 63% in Q1.

These are positive trends. It is suggesting to me that 1. Datadog is effective with its cross-selling and 2. Its proposition is valued by customers, who take more and more products on board once signed.

What does new logo actually contribute to revenue though?

Well we know that Datadog’s Enterprise customers (ARR of $100,000 or more) drives 75% of its revenue, which is consistent with prior quarters. So the top 8% of Datadog’s customers drives 75% of its revenue.
However, what new logo represents to me is ‘pipeline’. In other words, how many customers there are in the pipeline that you can continue to cross-sell products to, increase their data usage, and which ultimately might be converted to ‘Enterprise’ customers.

The market seems to be selling off now because Datadog hit the speed bump and went from 100mph to 50mph in the first place, in Q2. Datadog now has its foot on the gas and is accelerating somewhat, but is not yet out the water. Investing in Datadog is not without risk. Whether it becomes stuck in third gear at 75mph or accelerates on, is something we might get a better idea about in Q4. The trends in Q3 look positive to me.

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ATF

Thank for elaborating your thoughts on the pace of growth.

Quite convincing and very helpful.

cheers

arnie

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I completely agree with AThinkingFool, Saul and others about viewing YoY and/vs QoQ (“sequential growth”). I started a similar thread during the call and just posted a correction and a few potential scenarios based on replies there: https://discussion.fool.com/thanks-for-catching-the-ttm-growth-i…

I wanted to call attention particularly to how YoY is less reliable (as management stated) because QoQ would have to grow at an unreasonable rate to justify consistent YoY growth (the “tough comps” effect). When YoY and QoQ rates are viewed together it is easy to see why it makes no sense to expect YoY to be as high this, or next, quarter.

They essentially said that customer usage is returnING to pre-covid levels. Meaning customers are on the way to using stuff as much as before the pandemic. This clearly doesn’t mean the business as a whole has returned to pre-covid performance though. I think that is a fair distinction to make to manage expectations here. Based on the numbers, they have NOT completely returned to pre-covid levels of growth for the whole business, but they ARE trending that way: organic growth & expansion + sales continuing to ramp up to push on it + partnerships potentially paying off in a couple quarters. I feel my expectations are conservative as I really only want to see that QoQ number come in better than it just did. (11%. See my link above for more.)

Currently DDOG is one of 7 holdings and is #6 at 11.8% of my portfolio. I feel it is now my #1 place for new money, taking in to account personal portfolio allocations and conviction levels and such. As I am fully invested, I will be adding if something else happens to provide me with some funds. I definitely won’t be selling unless some news I haven’t considered pops up.

Anecdotally, I am starting to think the market is coming to the same realization. By the end of the day the decline in the price wasn’t down very extreme at all: $93 down to $80 and finishing at $87; nearing $89 now, the next day…meh, noise…That is as far as I will go with these tea leaves. I do find it comforting on some level to see great performance and no price movement. It builds a better foundation for future growth to be rewarded. We’ll see that price move up again eventually. This is why I (we?) mostly ignore price movements day-to-day. Long term I bet we don’t even notice this week’s “action”. I didn’t bring up price for these reasons, but rather because I have been wondering how the market will treat YoY vs QoQ over the next year. I’m starting to worry less and less about this. The market is fickle, but not stupid. Maybe that is too negative. Perhaps, “the market is good at weighing things in the end” is a better to say it.

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I agree that Q3 was a lot better than Q2. Q3oQ2 rev growth was +11% which is less than the 14-19% QOQ growth rates that they had been getting pre-covid. So, business is on an accelerating trajectory but not yet at the level of pre-covid.
One thing to also consider is that as the company gets larger due to the law of large numbers we might not see the same sequential QoQ growth rates that they had been seeing earlier. To maintain a sequential 16% QoQ growth rate they have to keep adding more and more customers and at some point we have to see a decrease in the QoQ rate. Total customer addition this Q (1000) was better than last Q but at the same level as Q120 and Q419 which may portend slowing sequential QoQ grth rates unless they accelerate customer adds substantially going forward. So, if the new normal for QoQ rev growth is going to +13% that would imply a YoY growth of 57%. Coming to think of it management threw out the mid 50s growth rate quite a bit - billings, deferred rev, RPO (all proforma of course). Q4 should give us one more point to compare.

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