Datadog (DDOG) is still off slightly from all-time highs, but the stock nonetheless continues to trade at rich valuations amidst a broader valuation reset across the tech sector. The reasons for the rich multiple aren’t hard to understand: sustained elevated growth rates, high free cash flow generation, and a relatable growth story. Yet the most interesting thing here might not be about the stock itself, but instead about the rest of the tech sector. DDOG looks buyable even at these rich valuations, and that holds important implications for other tech stocks which have not yet traded up to comparable multiples.
DDOG Stock Price
After releasing earnings on February 10th, DDOG shot up double-digits as the results completely smashed expectations.
The stock has since pulled back a bit to trade at around $159 per share.
DDOG reported revenue growth of 84% to $326.2 million. The company had previously guided to $292 million (65% growth) and Wall Street was expecting $291 million. DDOG has a solid track record of materially beating consensus estimates.
The fact that consensus estimates had fallen so much to “only” match management guidance is an indication of the bearish sentiment currently prevailing in the tech sector. DDOG also generated $7.2 million of GAAP net income, a seeming rarity among high-growth tech stocks nowadays. DDOG increased its free cash flow generation to $106.7 million in the quarter.
For the next year, DDOG guided for $1.53 billion in revenue, an impressive guide considering that it represents 49% growth after a blockbuster year. DDOG did guide for non-GAAP operating margin to decline to 11.8%, down from 16% this year. The margin compression should not concern investors because it reflects increased investment in growth. DDOG is already producing free cash flow, so the company can make such investments without risking overall financial wellbeing. I note that full year 2022 guidance may prove conservative, as it implies that sequential growth drops to the 8% to 10% range after hovering in the 15+% range this past year.
What is Datadog?
DDOG is yet another company helping customers manage their data. We can see how the Datadog product looks like below – clearly this is used by IT departments:
Datadog is capable of handling all the various and complex software deployments in today’s environment.
As companies produce more and more data from all sorts of applications, architectures, and formats, DDOG helps its customers harness that data.
DDOG’s signature product is Watchdog, which alerts customers of anomalies or failures in their technological workflows.
DDOG also helps customers decide which data to index and which data to just store. This is important because intelligent indexing makes it easier to analyze the data later.
In a world where the future is anything but certain, DDOG offers an investment thesis which looks quite certain: data will only continue to grow, and companies will increasingly flock to companies like DDOG to make best use of it.
Is DDOG Stock A Buy, Sell, or Hold?
The only thing surprising about DDOG’s valuation is that it is this rich amidst a tech crash. DDOG is trading at 32x forward sales, a blistering multiple considering that revenue growth is expected to decelerate to 37% the following year.
Even then, the stock looks like it may be able to justify the valuation. I assume that DDOG can achieve 40% net margins over the long term. If we adjust the 2027 revenue growth estimate from the outlandish 83.6% to 25%, then DDOG might earn $9.4 billion in revenue by 2029. Using a price to earnings growth ratio (‘PEG ratio’) of 1.5x and a 20% exit growth rate, DDOG might trade at 12x sales in 2029, representing a stock price of $530 or annual returns of 16%. That should prove to be plenty to outpace the market, and it wasn’t so long ago that most tech stocks were being valued in a similar way. Nowadays, judging by the slew of post-earnings double-digit stock price declines, it seems like tech investors are looking for any reason to sell. On a growth adjusted basis, DDOG is one of the most richly valued stocks in my coverage universe, and reflects the vast upside potential available across the broader tech sector. I can not recommend buying DDOG in the current environment considering the high volatility and better buying opportunities elsewhere, but acknowledge that the stock may very well beat the market substantially over the long term.