I believe Confluent presents a really strong investment opportunity. Their fourth quarter earnings had Confluent Cloud growing at 102% and operating margin improved 20 percentage points year over year.
Overall revenue grew just 41%, because their legacy platform for on premise solutions grew 17% and accounts for 52% of business. This legacy platform has a high NRR but isn’t expected to grow as much. I’ll explain later a bit more why this is unconcerning and why the focus should be on the Confluent Cloud side of the business.
The full year numbers came in strong as well, +51% yoy revenue growth to 586M. Confluent Cloud grew 124% to 211M with “substantially improved unit economics”.
The market cap for Confluent is only 6.85B, but they have 1.93B in cash on their balance sheet giving them about 28.2% of their market cap as cash. Price/sales ratio is 11.74x making it attractive on a valuation basis.
The most interesting part about this company is the number of extremely large customers that are growing. There are a number of 10M+ revenue customers and they expect to have a 20M+ revenue customers soon. This is a consumption based model similar to Snowflake where more data streamed equates to higher revenue. Here’s a passage from their earnings call on these large customers:
We also had a record quarter of customers with $1 million or more in ARR, adding 20 customers during the quarter, an all-time high, bringing the total to 133 customers, up 51%. And we ended FY '22 more than doubling our $5 million-plus ARR customers from a year ago, including a growing number of $10 million plus ARR customers.
Recently Confluent cut 8% of their workforce which they say pulls their target of getting to adjusted operating margin of breakeven by 12 months.
Circling back to what Confluent does, they are a data streaming platform for enterprise Kafka. Kafka is an open source tool for different applications to send data back and forth to each other. The business model is similar to MongoDB where it’s an enterprise version of open source software.
In practical terms it takes more work and resources for a company to manage Kafka which is more difficult then it is to just use Confluent which is a fully managed solution. Confluent is a vastly better solution to the point where it’s a poor business decision to self manage Kafka, and the Confluent solution shows a large ROI immediately.
Enterprise level of Kafka is really only needed by larger companies though and this is something to keep in mind. This is why they only have 4,530 customers and 100k+ customers make up 85% of revenue. The reason for this being smaller companies will usually have their engineers connecting to the same databases to access data and not need to stream it to other locations and apps as much. However, at larger organizations the need becomes much greater to share or stream data across business lines and different software architectures.
Their legacy business, Confluent Platform, is only growing at 17% of revenue. This offering is not as needed as much now that many companies are moving to Cloud solutions. It’s an on premise solution for streaming data out of and into company data centers. This has the advantage of not needing to migrate data to the cloud right away which is a challenging process, instead the data can be streamed to another location.
Most of the Confluent Platform customers are also Confluent Cloud customers. They call these customers “hybrid” who use both services and this is the fastest growing segment of the business and shows the value Confluent provides.
Recently Confluent acquired this company called Flink which does stream processing as Confluent estimates the TAM for this product could be as large as Confluent Cloud.
One other interesting piece from their earnings call is they mention that Q4 deals got pushed to 2023. This could mean that Q1 has an earnings surprise upwards and I’ll be looking to confirm this in their upcoming report.
Here’s what they said on the call: We saw less urgency by customers to sign deals in the last couple weeks than we typically would see in a calendar Q4 primarily in our enterprise business as some customers evaluated macro and opted to delay their purchases to FY23.
For another excellent opinion on this company Software Stack Investing had a write up Confluent as well: [Looping Back on Confluent (CFLT) - Software Stack Investing](https://Software Stack Investing Confluent Article)
One really well thought out point from SSI is that Confluent maintained their guidance in the face of macro uncertainty while most other consumption based SaaS companies lowered. Confluent was one of the first ones reporting in the season, so the market gave them a tepid response to their earnings call. If they had reported later and held guidance they likely would have seen a rally in the price.
