Datadog may report a poor ER based on AWS and Azure results

Investment Analysis Clubs Saul’s Investing Discussions
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Today, Amazon just posted probably the worst earning report in the recent several years. Besides the commerce business experiencing headwinds, AWS revenue only grew 4% sequentially and 27% YoY (28% if adjusted for consistent currency). Azure’s growth trend was better but was also slowing down, based on Microsoft’s recent earning report.

Because Datadog’s main business is to provide infrastructure monitoring and Datadog’s revenue model is based on usage, Datadog’s revenue should has strong positive correlation to the assumption data on the public clouds (AWS, Azure, GCP etc).

I’m guessing that Datadog’s Q3 earning will also show the same slowdown trend. And since Datadog’s sequential revenue growth rate in the last two quarters were only about 11% (way less than its growth rate in last year), the potential slowdown of Q3 may result in an even worse YoY number.

I think the ER next week is going to be tough for Datadog. Curious about you guys’ thoughts.

Luffy

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At the risk of Saul chastising me for looking at the trees instead of the forest, I took a look at the AWS/DDOG correlation:
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It appears Datadog’s sequential growth rate has been (very roughly speaking) around twice AWS’s. Usually. But look how much that can vary! In Q1 2020 DDOG’s was almost 6x that of AWS. The following quarter AWS and DDOG’s rates were almost the same. In Q1 2022 (just 2 quarters ago) Datadog’s was 3x that of AWS. So who the heck knows what it will be next week? But maybe more importantly, who knows what is priced in? Datadog’s stock has been beaten down more than that of pretty much any other company we discuss here. Is the market expecting 6% sequential growth? What if they do 8%?

Now before Saul can say it, let me: those are trees. What matters is not whether Datadog grows 4% or 6% or 8% or 10% in the toughest environment we have seen since 2008, but what the future holds! I still believe that future is super bright, and that nothing about that has changed. The stock’s vicissitudes belie the business performance. That’s nothing new. We just have to look to the forest, always. If there’s a problem with Datadog specifically rather than just the environment in which we find ourselves, it could be a sell. And whatever number Datadog puts up next week, if you believe they will be growing sequentially at just ~5% or so going forward, then it’s a sell, at least in my eyes, because that’s not close to hypergrowth. But personally, as of now I believe they will do much, much better than that in future quarters. Maybe this quarter too.

Just like with Amazon today, the market can be insane. For a company like Amazon to be down as much as 20% after hours because they grew fast at enormous scale but not quite as fast as hoped, or because they are having temporarily lower EPS, or whatever the reason…this is the market following the trees. Long term, it seems rather obvious: Does anybody think Amazon is a company losing its way? That the business is deteriorating?

Likewise I think Datadog is just getting stronger and stronger. If the market gives me an opportunity, I like to take it.

Bear

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To add to what Bear wrote, please remember an additional fact:

Although AWS is a very important part of Amazon, most of Amazon is still retail sales, and retail sales fall in a downturn of the economy…duh! Datadog doesn’t have any retail sales.

Saul

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As capital becomes expensive, companies that are cash flow positive will thrive.
DDOG is cash flow positive which is very comforting.

I have used DDOG for my company. They have the best products. Customers will not and cannot turn off the service. It helps them save and optimize costs.

I expect growth the slow down for next 4 quarters and want management to be prudent with finances. Many startups in their space will fold. In 2024 they will be a loaded spring. Hang on.

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While I agree looking at one quarters sequential growth rate could be considered ‘the trees,’ I wanted to highlight this quote again from Oliver Pomel on last quarters earnings call when asked about Q3 & Q4 guidnace.

I should say that this is – if you’re thinking of what happened during COVID, this is not a sharp pullback as we have seen at that time… In July, we did see an improvement on those trends, but we still remain conservative in our outlook for the short term because of the noisiness of the data we’re seeing there, it’s – there’s a few more valuations, a bit more noise. And all of that is underpinned by some macro uncertainty. So we want to derisk that a little bit and give it more careful.

Personally, I take this to mean that we should not expect sequential revenue growth to drop as low as it did in the most impacted COVID quarter, which was 6.7%. Of course, things could have changed since he provided that commentary in back in August or I could be completely misinterpreting this comment altogether.

I agree Datadog has been beaten down well worse than most other high quality growth stocks. It is the only stock in my portfolio that isn’t at least 25% above their 52-week low. It feels like the market is expecting something close to the 4% QoQ growth that Amazon just reported, however, I would be shocked to see QoQ growth come in below 7% based off the commentary on the call and the guidance provided.

Regardless, this is likely getting too caught up in the details but thought it was worth pointing out. We will find out next week.

Rex
Long DDOG

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Bear,

I took your numbers and looked at it a bit differently, and it seems to me that there is a potential correlation between AWS sequential results and DDOG sequential results.

Please keep in mind that I am an engineer, not a statistician, so my terminology in this may not be 100% accurate, but here’s what I see. Just looking at the dataset as provided, the correlation coefficient between AWS sequential growth and DDOG sequential growth is 0.59 (correlation coefficient is what it sounds like- a way to see how two datasets are correlated. It ranges from -1 to 1, with -1 being a strong negative correlation, 0 being no correlation, and 1 being a strong positive correlation- the datasets go in the same direction if positive, in opposite directions if negative). A correlation of 0.59 is decent, but not necessarily that strong.

However, if you look a little closer at the data, you may see the relationship between AWS and DDOG results look a bit strange in Q1 2020. Using a standard test for outliers (1.5 times the interquartile range), we can see that the difference between DDOG and AWS results is an outlier in Q1 2020 (DDOG - AWS = difference). This makes sense both visually looking at a plot of the data as well as thinking back to that timeframe - covid had a varying effect on many companies when it appeared.

If you agree Q1 2020 is an outlier and remove the data, the correlation coefficient increases tremendously, to 0.89. I would consider this to be a strong correlation (as always, correlation isn’t causation, but we’re not necessarily looking for why, just what may happen). I would suggest based on this that there is a correlation between AWS and DDOG sequential results.

Another way that I enjoy looking at statistics is simply visually. As humans we’re very good at seeing patterns (often when they aren’t even there), and statistics is essentially a mathematical way of confirming (or refuting) the patterns we see in data. A simple scatter plot shows the evident correlation (shown here with the outlier removed).

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If you perform a simple linear curve fit on the data, you get an r-squared value of 0.65 (r-squared is a measure of how close your actual data is to a line drawn through the data. It ranges from 0 to 1, with 1 indicating the data fits very close to the line, and 0 meaning the data does not fit at all to the theoretical line). A value of 0.65 is decent- again supporting a relationship between AWS and DDOG. Ultimately, the linear curve fit is valuable because we can use it to predict DDOGs sequential results based off its historical relationship with AWS sequential results.

If this relationship holds true, we could expect DDOG to report sequential growth of 8.4% this quarter.

As an aside, there’s definitely further you can go with this sort of analysis, such as looking at confidence intervals, etc., but I’m afraid I’ve already strayed fairly far from the purpose of this board. Hopefully some folks found this interesting.

Thanks,
Mdm

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My DDOG preview. Posted to Twitter but wanted to put here for those not on Twitter. https://twitter.com/FinallyFoolin/status/1587158456993193984

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DDOG reports before the bell on Thursday.
Guidance last Q was very cautious. It’ll be interesting if it really was ‘overly’ cautious or there really is a bigger-ish slowdown happening. My model shows average beat bringing YoY to 67%. The aQoQ comes in at 50%. This means Q4 Guidance plus beat likely to be mid-50% range. Quite a drop-off from 82% YoY in the Q1 2022 quarter. For this reason, I have lowered my allocation over the past month.

Its not all doom & gloom though…
Look at that CASH generation! Margins dipped a bit last Q so lets see if that continues down or recovers. APM was up to 250M ARR, good and amazing for only 5 years in. New products and innovations all over the place. Not much talk on last call about Security.

Hopefully more insight on that progress. Q1 they said Infra Monitoring was .75B ARR (62% overall ARR). Would like to see that each Q. Hopefully that number goes down due to other products (APM) growing faster and being more significant!!

Will they purchase another company with their cashpile?
Last Q, Annual guidance upped LESS THAN the beat from that Q. Is this a setting uber low expectations and blowing them away? I hope I’m kicking myself for lowering my allocation.

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Hey FinallyFoolin,
This new format does you justice. Well done on your graphs. They look amazing thank you.

Andy

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Below is what Olivier Pomel said on the Q3 call when comparing customer optimization with hyperscaler customer spend versus DDOG customer spend"

When you compare us to the hyperscalers, the – we are seeing some expenses they’re seeing when – and by the way, I should say, it is always hard to do – to draw a direct comparison between the numbers of the hyperscalers and ours. Their numbers include a bunch other things beyond infrastructure. And we’re also not just in public cloud. We also might serve quite a bit of a private environment as well. But we’re seeing some of what they’re seeing in terms of optimization. We’re a little bit less sensitive to it because we tend to – because of what we do, we tend to skew towards more critical environment than everything that might be in the hyperscaler. And overall, all of our products meaningfully outperformed the growth of the hyperscalers.

Blockquote

So it turned out that during Q3 DDOG fared better than the hyperscalers in terms of impact from customer optimization.

GauchoRico

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Valuation is reasonable. Market cap of $22B, PE forward of 78.
Products are very sticky, margins are high.
SBC as mentioned is a problem. This is a disease with all hi-tech.

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Hi Gaucho,
That’s the quote from Oliver Pomell that I liked best (CAPS and bolding are mine).
Saul

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