DataDog Q2 Earnings Summary

By the numbers, it’s pretty obvious this was a great quarter. But why did the market penalize it so much, and is there some risk we are missing? My guess, is that the market does not like that the growth rate slowed, and that the guidance is lower.

I think there was a bit of a narrative change here in the sense that, when Q1 was reported, DataDog looked bullet proof. Rev growth was as strong as ever, and there was no good reason to believe that covid would hurt their business. But now, we see that covid is indeed a headwind for DataDog. It’s not a huge headwind like it is for the travel or restaurant industries, but it’s not a tailwind, and it certainly is a headwind to some degree. The market received this new data, that DDOG is facing covid headwinds, and it punished the stock.

The long term looks excellent for DataDog, and even if short/medium term headwinds impair rev growth down to 50% (not likely based on what we’re hearing on this call), DDOG would still be an excellent business to own stock of. Keep in mind though, for Q2 they had originally guided to 63% and only landed at 68%. They are guiding to 50% now, so I wouldn’t expect a huge beat from there, although during the conference call they say stuff that is supposed to make us think they will definitely beat the 50% guidance. But you can’t hold them to any of those statements.

Regardless of whether they grow at 50% or 80%, it is a great business that is growing rapidly. I purchased more on Friday after reading Saul’s terrific breakdown. Without further ado, here is my summary:

revenue was $140 million, an increase of 68% year-over-year and above the high end of our guidance range.
• GAAP operating income was $0.7 million; GAAP operating margin was 0.5%.
Non-GAAP operating income was $15.3 million; non-GAAP operating margin was 11%.
• GAAP net income per diluted share was $0.00; non-GAAP net income per diluted share was $0.05.
• Operating cash flow was $24.7 million, with free cash flow of $18.6 million.
Cash, cash equivalents, restricted cash, and marketable securities were $1.5 billion as of June 30, 2020.

“we did experience some impact to the rate of usage growth of our customers related to the microenvironment.”

We ended the quarter with 1,015 customers with ARR of $100,000 or more, which is an increase of 71% from last year.This customer generated about 75% of our ARR.
We have about 12,100 customers, which represent growth of 37% from about 8,800 last year.
We also continue to be capital-efficient with free cash flow of $19 million.
For the 12th consecutive quarter, our dollar-based net retention rate was over 130% as customers increased their usage and adopted our newer products. However, this is a decline from Q1.

Big Explanation for why dbner declined from q1:
First, while existing customers did grow, the rate of growth was below pre-pandemic levels. This was primarily seen from our larger customers with the greater scale in the cloud, who experienced business pressures and sought to 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 spiked 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. Next, some customers, such as delivery and at-home media companies, have continued to see elevated demand and therefore, have continued to meaningfully grow their Datadog usage. 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 detractor.
Lastly, churn was a bit elevated related to the most hard-hit COVID customers but better than expected. Our dollar-based gross retention rate has remained largely unchanged in the low to mid-90s. Performance of our SMB customer base has been robust, including stable dollar-based churn and continued rapid growth year-over-year.
------End of explanation for why DBNER declined from q1 -------

Entering the quarter, as we discussed on the last call, we thought it was possible some customers would seek to renegotiate terms or slow payments, but that did not happen in a material way, pointing to the importance of our solution.

Remaining performance obligations, or RPO, was $287 million, up 53% year-over-year. We did not see a material change in billings durations in Q2. We did see some slight shortening of contract duration year-over-year related to large multiyear contracts closed in the year-ago quarter.

Now turning to billings, which was $160.1 million and up 62% year-over-year, relatively in line with revenue growth.

Gross profit in the quarter was $111.8 million, representing a gross margin of 80%. This compares to a gross margin of 80% also last quarter and 75% in the year-ago period. Year-over-year improvement of gross margin was driven by efficient use in our cloud hosting.

R&D expense was $38.3 million or 27% of revenue, compared to 30% in the year-ago quarter. We have continued to invest significantly in R&D, as Olivier mentioned, including high growth of our engineering headcount. However, the growth of revenue continues to outpace even our substantial investments, and we did have some leverage from T&E and overhead savings related to work-from-home.
Vinegar101: rev growth outpacing investment in r&d is a great sign of scalability of the business.

Sales and marketing expenses were $45.7 million or 33% of revenue, compared to 42% in the year-ago period. Similar to R&D, we continue to make substantial investments, but the pace of revenue growth has outpaced that investment.
Vinegar101: Broken record – business is scaling nicely!

G&A expense was $12.5 million or 9% of revenue, in line with the same ratio a year-ago quarter.

Operating income was $15.3 million or an 11% operating margin, compared to a loss of $5 million and a negative 7% margin in the year-ago period. Beyond the improvement in gross margin and revenues outpacing investments, the reduction in travel and entertainment and facilities overhead contributed to the operating margin.

Non-GAAP net income in the quarter was $17.5 million or $0.05 per share based on 331 million weighted average diluted shares outstanding

Cash flow from operations was $24.7 million in the quarter. After taking into consideration capex and capitalized software, free cash flow was $18.6 million in the quarter for a margin of 13%.

On Forward Guidance
As discussed, we did see some lower growth in usage from our existing customers in Q2 due to the overall slowing of the economy.
As Olivier noted, however, in July, we experienced an improvement in usage trends relative to Q2 that were closer to our pre-pandemic historical levels. However, it is too soon to know if this will prove to be sustainable. And given the lack of clarity of economic trends, we are assuming usage growth of existing customers below pre-COVID growth rates. Additionally, while we have not yet seen a material impact to our new sales, we think it is prudent to expect some impact in the second half given the macro backdrop.

Beginning with the third quarter, we expect revenues to be in the range of $143 million to $145 million, which represents a year-over-year growth of 50% at the midpoint.
Non-GAAP operating income is expected to be in the range of a loss of $1 million to an income of $1 million.
Non-GAAP net income per share is expected to be breakeven to $0.01 per share based on approximately 333 million weighted average diluted shares outstanding

Now for the full-year 2020, revenue is expected to be in the range of $566 million to $572 million, which represents a 57% year-over-year growth at the midpoint.

Non-GAAP operating income is expected to be in the range of $28 million to $34 million, and non-GAAP net income per share is expected to be in the range of $0.11 to $0.13 per share based on approximately 332 million weighted average fully diluted shares.
First, when evaluating our quarterly growth rates, it is important to consider the accelerated growth rates in the second half of 2019, creating more challenging comps. Next, while we’ve seen continued improvement in our gross margins, we are running toward the top end of our long-term target.

Key Quotes
As of the end of Q2, 68% of customers are using two or more products, which is up 40% a year ago. We had another quarter in which approximately 75% of new logos landed with two more products, and I would add that over 15% of our customers are now using four or more products, while we had zero last year

covid 19 impact
while execution was strong, the macro environment did have some impact on our top line results and in particular on growth of existing customers. Our customers continue to grow usage of our platform in Q2, but the rate of this growth was below the trends we saw before pandemic. This dynamic was primarily seen in our larger customers who already have sizable cloud environments. Given macro uncertainty, we saw these customers look to conserve cash where they still could and therefore optimize the consumption of cloud infrastructure.
On the flip side, smaller customers and large enterprises that are earlier in their cloud journey continue to see stronger growth. 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.

We saw over the last month a notable improvement in usage growth relative to Q2, driven by broad-based strength across our customer base.
It is however too soon to know if this growth will sustain given the macro environment. As a result and while we are encouraged by this trend, we remain prudently conservative in our outlook for the remainder of the year,
Vinegar101: Sounds like good management.

As a reminder, we have both a subscription and usage-based revenue model, and the growth of our revenue is related to the growth of our customers’ cloud footprint and data volume

Analyst Question: “your log product, when you launched it, you had a pretty disruptive pricing strategy, where you’re charging a very low price for ingestion, and you’re letting the customers pay just for the logs that they actually want to index.And now we’re seeing other players in this space give away entire aspects of their platform for free and creating free tier. So I guess the question is, how do you see your pricing model evolving, if at all, in time?”
Vinegar101: The analyst infers that DataDog could be losing business to a competitor (Elastic?) giving away a log product for free. Perhaps this is where some of DDOG’s revenue went and why they are guiding lower than usual (in addition to covid 19 impact). In this macro environment we’re in where spend is scruitinized and everyone wants to save money, maybe products with big free tiers such as Elastic are getting a slight competive edge. Oliver’s answer was sort of “we’re confident. We’re differentiated. It will probably evolve. Yada yada ”.

David Obstler (CFO) on churn in the quarter: We had very stable gross churn, dollar-based gross churn. And it’s very similar to what we have discussed in the last call that all of the metrics, in gross, are in the 90s, with enterprise tending to be toward the upper part of that range and SMB toward the lower, but all of them strong and in the 90s.

Analyst: So in terms of the macro impact and the slowing of usage of existing customers, is there any evidence that you’ve seen of some of those customers slowing the usage of your tools but supplementing it with maybe the cloud platform tools or something else? Or they’re just slowing the usage and that’s it?

Oliver: No. I think what we’ve seen mostly is they’re slowing the usage of the cloud infrastructure that’s directly related to how we recognize new revenue. So that’s what we saw. To put it in other terms, they’ve used less Amazon instances or containers or less Azure instances and containers.
And that would end up moving the needle for us. And I should say this is something that we’re used to seeing in the other way. We used to see – like the way we sell it, we sell to customers, and they’re still early in their cloud transition, and we grow with them as they grow. What happened this quarter is that their growth slowed overall during the quarter. It still grew, and they’re still going to grow. And what we said in the call is in July and also toward the end of June, we saw some acceleration of the growth again, but we want to remain prudent.

Analyst: I just wanted to ask, can you help us understand a little bit more the relative size or recent attach rates of your APM and log management solution, both of which, I think you mentioned last quarter, were growing faster than the overall business? Has that remained the case in this recent quarter?

Olivier Pomel Yeah. So they’re both in hyper growth. So the picture hasn’t changed a lot since the last time we talked. The infrastructure, iPhone would still be a great public company.
Logs and APM are still in hyper growth and are growing much faster than data overall at the scale. And the other products that are smaller and earlier are also growing extremely fast right now. So, overall, we’re fairly happy with those.

David Obstler CFO–And the attach rates and their contribution to net retention has been very similar to the trends that we’ve talked about last time. So we continue to have an increasing number of customers using the platform. And what they’re spending on the additional components of the platform continues to grow in hyper growth.

Analyst: So you mentioned about like the slowing usage in the public cloud.I mean like the one benefit we have is that we see Azure and Amazon and AWS then report numbers before you. And so in a way, you were always seen as a little bit of a derivative of those. And if I look at AWS growth slowdown, Azure slowdown, I’m just wondering, like you almost seem not directly in terms of the growth numbers, but in terms of directionally related. Is that something that you’re paying attention to as well? Because it seems like there seems to be a correlation here.

Oliver: Well, there’s definitely a correlation. I mean we don’t call it exactly with them, right, because they have different product portfolios. And some of these tie to what we do today, the kind of the products we already have for our customers to consume

Oliver, on monthly performance in Q2: The first few weeks of April were very good growth in new logos. New logos remain for the rest of the quarter, but what we saw is toward the end of April and then the full month of May, we had much lower growth.
And then things recovered, or started recovering in June. So growth was going up in June and is recovering further in July. So these are the trends we’ve seen. Now this is what we saw in the past quarter.
It was a lot noisier than what we’re used to. Like we’re used to having very consistent numbers month-over-month. We can’t really tell whether in the near term we’ll see some return to the previous normal or if we’ll still see some oscillation as the state of the economy and other things prove of the same motion in our customers.

Analyst: David, I know you don’t guide to billings, but I believe, looking through my notes, next quarter, you have some difficult comps with pretty significant contracts that paid up last 3Q. Any color on that would be super helpful. Thank you.
Sorry. Any issues for 3Q with difficult comps than the year before?

David Obstler – Chief Financial Officer: Yeah. Nothing that we’re pointing out on this call. So nothing that we wanted to point out.

Analyst: Your growth in RPO on a year-over-year basis did decelerate quite a bit this quarter.
I think you said that your annual contract billing has remained strong and that you were coming up against some longer-duration contracts from a year ago. And I know you don’t break out current RPO. Just wondering if you have any commentary on duration-adjusted RPO growth or just how we should be thinking about that.

David Obstler – Chief Financial Officer
Yeah. You’re exactly right. The RPO, the current RPO, is similar growth to the billings, much closer to the revenues in the 60s. The difference there is the timing of some multiyear contracts in the second quarter of last year.
So the billing period you see didn’t change. The contract duration came down slightly just because those contracts are being consumed. And that’s the reason why if we had a current RPO, it would be much more aligned with the billings and the revenue.


I did a very simple model of revenue growth of 60% in 2020, 50% in 2021 and 40% in 2022. This gives me 2022 EOY revenue of $1.2B.

Current quarter FCF was 13% of revenue, if we assume they scale well and FCF is 20%, 2022 FCF = ~$250M.

At current market cap of $21B (22.5B minus cash), that’s a 2022 EOY p/fcf of 84 for a business growing at 40% at that time. This is assuming the stock price doesn’t go up from where it’s today.

Do you think my assumptions are too conservative and DDOG will grow at a much higher rate? or will they be able to get a >20% fcf? Just curious to see how you model the growth in the next few years.


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I will be honest with you and tell you that really, I’m not sure. Part of what makes hypergrowth stocks so volatile is that truly, no can know what revenues will look like even a couple quarters from now, let alone what they may be in 2022. Case in point is alteryx this year - no one saw that coming.

I think in healthy macroenvironments, there is the tendency for hypergrowth stocks to slowly decline over time to just normal growth stocks due to the law of large numbers. Good examples of this include SalesForce, Shopify before covid, and Twilio in general. But again, no one can tell you how quickly hypergrowth will slow down - these companies are all quite different from one another.

The people who would know best about what DDOG’s growth rate in 2022 would be the finance department within DataDog, and I don’t think DDOG guides that far out. Teladoc is the only company I know of that has provided ball park guidance for next year, which it says will be in a range of 30%-40%, but I’m getting somewhat off topic.

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Yes, I agree no one can accurately predict growth rates for hyper growth stocks. The only value of this analysis is to see what growth rates are needed to justify a P/S > 50 and if those rates are within the realm of possibility.

They’re guiding to ~60% growth in 2020, so it’s going to be harder for them to grow significantly higher than that.

Assuming 70% growth rate for the next 3 years, gives 2022 EOY revenue at $1.8B. If FCF is 20%, then 2022 FCF is $350M. With today’s market cap, that’s a p/(2022)fcf of 60.

The other variable is their fcf as % of revenue accelerates significantly. I have no idea what a right number would be (if their fcf is 13% now, maybe not more than 25% in 3 years?)…