“There are all kinds of assumptions included in that which I don’t make, including whether I will still be in it it five years (normally I exit when the story has changed). However if I can make 50% in the first year (already have 31% in a month and a half), and 40% in the second year, and exit half way through the third year (typical pattern for me) at up another 20% compounded, I’ll be very happy (that put’s me at two and a half times what I started with in two and a half years).” - Saul
My last comment here, since Saul asked.
His above comment was what I was trying to get out of him in the first place.
That is the closest I have seen to him laying out some sort of price appreciation/expectation plan that gets him from his cost basis of X to his eventual exit of Y.
It also is realistic in that it doesn’t pretend to be a stock for the next generation, or even 10 years, let alone even 5 years. It is a 36-month plan.
I have said all along that I believe ZM, CRWD, or DDOG and others of the 40+ P/S group, may very well produce good returns in the short-term, but there was just no way I could see them being a good CAGR for multiple years from now.
Growth stocks can generally appreciate in two ways…at least this is how I think about it:
- their stock price reflects their growth rate (whether it is rev, profit, fcf, gm%, etc…)
- they have multiple expansion
I also believe, thinking about CRM, NOW, or other SaaS predecessors, that this rule rings true:
- P/S ratio will have to decline over time, as law of numbers kicks in, growth trends down, etc…
My issue with something like DDOG is that I don’t see a ton of #2 in their future, as they already have a world-beating multiple. The market already has recognized their growth and said “wow…that really is something…here is a P/S double that of companies ‘only’ growing 50% y/y!”
Which means I don’t see any kind of under-the-radar or masked-growth factors at play where suddenly the market decides this sucker is undervalued and allots even more multiple expansion.
The good news, in short-term, is that the growth rate is so far above 50%, that the multiple can contract, and you can still have a stock price appreciation of 30-40% or more fairly easily, if the company keeps executing and growth doesn’t drop too rapidly (which would likely result in a sharp multiple correction).
So the original question was why do I like ESTC over DDOG, given DDOG’s superior metrics.
It goes back to the above criteria and formula.
I see ESTC still growing at 50%+, with oppty for growth to hold steady and/or re-accelerate with their somewhat-masked cloud business (their Atlas, so to speak, to use an MDB analogy).
So if I look at their multiple, which traditionally very high at 19 or so, compared to most “tech” companies, we have all understood for a while the reasons that cloud/saas companies are getting higher multiples; asset-light, high-GM%, high-growth rates (typically 40-50%+).
In comparison to many other software hyper-growth companies, I am comfortable with ESTC P/S as compared to peers. Again, not “cheap” but not an outlier either. So I do not expect multiple expansion, but I don’t need it either, to make a great market-beating return.
I will model that ESTC can continue growth in neighborhood of 50% for next 12-18-24 months possibly. As Saul often states, if the story changes to the extent I know longer find it favorable, then I exit. But we just saw ESTC kept down by a protracted and confusing stock lockup period, which ended June 10th finally. Momentum is a real thing, and stock kept trending down until June 26th, and then rocketed from about 70 to $100 by July 26th. That was the peak of the year for many of our stocks so far, and ESTC faded down. They had a good ER, but it occurred as most growth stocks were getting pummeled in a rotation. They, along with ZS, have later ERs than most…so I haven’t soured on them because not a whole lot has changed from their previous 2 ERs thru their upcoming ER. I haven’t seen a date yet, but I assume about end of this month. ESTC, like MDB and DDOG, tends to be a developer-led, bottom-up sales cycle. Much different than whale-catching like ANET or even NOW or ZS. I view DDOG’s success as a positive for ESTC, but again I will let the ER dictate how I feel about it in a couple weeks.
Assuming a decent ER and a future I am happy with, my view is that ESTC will continue that 50% growth for a while, will be able to continue to shrink their multiple, and STILL potentially net me 40% stock appreciation gains along the way.
Their current forecast is $412m or so for FY. Their calendar is wacky, so they just did their Q1, and have 3 Q’s to go, with typical beat-n-raises assumed (by me) to get them to $450m (my projection). That would be what they announce next June (their Q4 ER). So about 6 months away.
If they grow 50% y/y in next FY, they would show up in June of 2021 with about $675m in rev.
That is 18 months from now. Current P/S is 19. I want to model a lower P/S in 18 months, and ignoring dilution for the sake of simple P/S math, I show:
- a 12 P/S in June 2021 would be $8.1b (about 37% appreciation over 18 months)
- a 15 P/S in June 2021 would be $10.1b (about 71% appreciation over 18 months)
Scenario 1 isn’t bad, if not world-shattering or anything.
Scenario 2 would make me very happy.
We have seen stocks go from darlings like TWLO and ZS to dramatically reduced P/S ratios once the story changed a bit. And the story didn’t change a ton, imo…
So - you don’t need to agree with my reasoning anymore than I have to agree with yours.
But basically I find a margin of error or safety or whatever you want to call it, that ESTC can appreciate to a certain degree without P/S contracting too badly, whereas I could see DDOG contracting REGARDLESS of how well they continue to execute, as their P/S reflects that expectations are extremely built-in already. I will not be shocked if they manage to bring short-term (6-9-12 month) gains if the market doesn’t slap their P/S in half, simply because their growth rate is so high.
I just find ESTC to be the safer investment bet.
My last comment is that I really do view your style as a momentum play of sorts…ride a growth stock until story (in the metrics) changes and assume the market will keep rewarding the stock price with appreciation until the story changes. Then exit and move on.
For now, I am happy with TTD and ESTC and AYX and a couple of their friends vs holding CRWD ZM and DDOG. But that is just me. You do you, as it obviously works very well.
all the best,
Dreamer
