The market will be closely watching this high-stakes earnings report.
Shares of Datadog (DDOG -5.17%) have struggled to find a direction in recent months, down about 5% since the start of the year. While this cloud-monitoring leader continues to generate profitable growth, a high bar of expectations and a lofty valuation premium have kept the market looking for a bit more meat on the bones.
These themes will likely be a focus for the company’s upcoming second-quarter earnings report set to be released on Aug. 8. Should investors buy shares of Datadog now or leave this stock sitting at the kennel? Let’s discuss what to expect from the report.
A secular-growth tailwind
Datadog is benefiting as organizations shift their operations to the cloud and adopt a digital-first strategy. The company’s platform helps businesses monitor and secure their IT infrastructure and application stack with real-time analytics. The emergence of next-generation technologies including artificial intelligence (AI) has added to the complexity organizations are facing and which the Datadog platform works to simplify.
The trends have been impressive. Since 2019, Datadog has delivered a 49% compound average annual growth rate (CAGR), reaching about 28,000 current customers. For the last reported Q1, revenue increased by 27% year over year with an even stronger momentum in earnings per share (EPS) of $0.44, more than double the $0.23 result in the prior-year quarter.
Increasing platform usage as customers add features has been a growth driver. In Q1, 3,340 accounts generated annual recurring revenue (ARR) of $100,000 or more, up 15% from last year. Separately, 47% of customers are now using four or more Datadog products, up from 43% a year ago. The company is also finding success as new products are becoming more meaningful contributors to the business over time.
These dynamics are helping to diversify the company’s earnings profile and support a positive, long-term outlook. The market will want to see a continuation of these tailwinds.
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What to expect from Datadog’s Q2 earnings
The headline numbers from Datadog have been strong but also highlight a normalization of the business compared to a hypergrowth phase in recent years. According to the average of Wall Street estimates, the company is forecast to post 23% year-over-year revenue growth for Q2, which stands in contrast to the exceptional 74% growth rate achieved in Q2 2022.
This gradual slowdown helps explain the stock-price volatility over the period as expectations have been reset. Shares of Datadog are still down more than 30% from their all-time high in late 2021.
The other challenge facing Datadog is managing its renewed focus on profitability against the investing requirements to maintain its innovative edge, particularly in the research and development of AI features. A consensus EPS estimate of $0.37 for Q2 is nearly flat from the $0.36 result in the prior-year quarter.
The trend in margins and free cash flow alongside metrics like the ARR will be key monitoring points into the second half of the year. Overall, how management describes current conditions will set the tone for market sentiment toward the stock going forward.
Room for caution
There’s a lot to like about Datadog as a unique and critical cloud-based platform organizations increasingly depend on. I believe the company is well-positioned to grow and consolidate its market share in what is likely still the early stage of a significant global-expansion opportunity.
That being said, the stock’s current valuation trading at approximately 19 times sales and 69 times its 2024 consensus EPS as a forward price-to-earnings (P/E) ratio warrants some caution. Ultimately, Datadog’s expensive premium keeps it in a speculative corner of the market and adds to the risks in a scenario where results begin to disappoint.
The prudent move today is to take a wait-and-see approach with the stock. On the upside, I’d be willing to turn more bullish following a better-than-expected Q2 earnings report with signs that growth is reaccelerating.
Dan Victor has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Datadog. The Motley Fool has a disclosure policy.