Datadog, Inc. (DDOG) Earnings Call Transcript & Summary

Hello. Welcome, everyone, to the Fourth Annual Wells Fargo TMT Summit 2020. Very excited to kick off the track sessions of day 1 now with Datadog. Obviously, a very exciting company. I'm very excited to have David join us today.

Thanks for having us. We appreciate it.

Great. Well, Dave, just to get things kickstarted here. We're now 10 months into COVID-19, if you can believe it, 10-plus months actually. And we believe CIOs have been forced to reevaluate their strategies whereby no cloud is officially a no-go going forward, at least that's the one liner that we've been using. Can you talk about what this common shift towards digital, towards the cloud means for Datadog? And do you see that the pandemic is really entrenching the market leaders here?

Yes. Well, first of all, this has been a trend that's been going on and we've been experiencing for a number of years, the move to either fully to the cloud or hybrid has already been -- it's been propelling our growth. We land with cloud adoption, greenfield and follow that. And we believe that COVID, although there were some disruptions in the movements because of the pandemic, we believe it only will accelerate and has demonstrated the value of having a cloud strategy. And we agree with you that coming out of this, longer term, we think this will accelerate. In terms of the leaders, et cetera, stepping back a second, we're really following cloud migration. We're really going after greenfield opportunities, which are new migrations to the cloud. We're not really competing with the legacy solutions and observability that have been there. So essentially, we've been in that position of being a leader, having a platform and it's one of the major buying reasons for our clients for some time. We believe we're very early in that adoption/migration, again, greenfield and COVID will only serve long-term to accelerate it.

Great. Maybe if you could provide some sort of details on maybe how would you characterize the size and/or the durations of the deals that you're seeing today versus a year ago? And similarly, what are you hearing regarding project timing and prioritization?

Yes. Yes. We've had -- and I think we talked about this on our earnings call. We've had very little change. We essentially land, generally land, not with the full take and expand with clients. That motion really has -- we usually land with infrastructure as the first need. That really hasn't changed for us, and the nature of sort of the greenfield adoptions hasn't changed. We go for 1-year contracts for the most part. Our contracts tend to be either take-or-pay with on-demand or drawdown, which means you can use any of our products in a certain quantity. And our contracts have tended to be a little under a year, that really hasn't changed in COVID. We had thought that we would see some changes in billing duration as clients push back. We said on the earnings call that we saw some small effect in a few clients, but really haven't seen that much change in duration of contract; in billing duration; or in payments, collections, DSOs in COVID, which we're very pleased with.

Great. Now let's talk a little bit about just the go-to-market and the customer journey that you just mentioned. Obviously, you often land with infrastructure first. But wonder if you can take us through the expand side because, obviously, Datadog has a much broader product portfolio. Even with -- when I first met you all several years ago, you think APM, logs, et cetera. Maybe take us through that customer journey.

Yes. Good question, and that's right. Over the last 3 or 4 years, we really have expanded our observability suite to a platform. We still tend to land right after cloud migration. Seeing what's going on, the observability is one of the most important needs of our clients. We follow that. But increasingly, we've been landing with more than 1 product. 75% of our lands have more than 1 product, and over 70% of our customers are using more than 1 product. That's continued evidence for us of the attraction of the platform, which really our clients see as one product, the platform, and the more data points, the more insights they can get out of it, the better. And so we've seen an acceleration of the motion towards both landing with more than 1 product and adopting more than 1 product over time.

Yes. Let's actually drill into that for a minute because as you just mentioned, 70% of your customers are using 2 or more products and 20% are using 4-plus. Maybe help us quantify this a little bit. What is the benefit to average spend when a customer moves from, let's say, 2 to 4 products? And generally, how long does this sort of progression take? Yes.

Yes. We see about a 1.5 to 2.0x expansion when a client is adopting more than 1 product. Probably given our net retention rate and the fact that our cohorts expand 3, 4 times over time, there's adoption of additional products, but there's also growth in the cloud and our growth with it. As the number of hosts we're monitoring, et cetera, expands, we expand. So both are happening or both are significant. As you mentioned, now 20% have 4 or more products, indication of the adoption of the platform. A number of times, we might land with infrastructure. For instance, we might expand to logs or APM. The first expansion may not be fully built out, and we expand over time. So that sort of motion is still early on despite the fact that it is pervasive in our customers. We think there's a lot of room to grow in the adoption of the platform in our customers.

Got it. And then let's stick with this theme. Wondering if you could talk about sort of the churn rates in sort of each of these tiers: 1 product, 2 product, 4 product. I mean assuming you have -- it's not just, call it, higher revenue, but as you -- as customers are more committed to more products, it also results in more stickiness. Wonder if you could give us some color there.

Our churn -- our retention -- our gross retention, ignoring up-sell, has been in the low to mid-90s for the last few years. One of the things that I think we find very, very good for the company is that it didn't change in COVID, and that indicates probably how important and embedded we are with our clients. And our clients, our churn rates are roughly the same in SMB. Even SMB is in the 90s. Mid-market and enterprise, with probably enterprise the highest, but all those gross churn rates being in the low to upper 90s, actually.

Got it. And then how -- one of the questions often is how do you think about sort of the margin impact, the results from multiproduct adoption, both gross and operating margin?

We haven't seen any change in margin. As we've talked about in our earnings call, the -- we've actually had increased gross margins. And the reason for that is cloud optimization. It has more to do with the majority of our cloud instances than it has to do with our R&D efforts, than it has to do with the products. The products all have roughly the same gross margins. And if you look at our reported gross margins, you'll see, as we've grown these other products, we said that the APM and log products are in hyper growth, we have not seen any real change in margin other than as we become more efficient in our cloud instances, our gross margins have actually increased over time.

Yes. Got it. Let's double-click on just the observability suite for a few minutes here. How should we think about the observability suite, really customers' appetite for a platform versus, let's say, point solutions?

Yes. Stepping back to the fact that we are in greenfield. So generally when we land, for the most part, there is either do-it-yourself or nothing. It's first. And so most of the time, our clients are looking to adopt our suite and our platform as we've been able to deliver it to the market. We think given the statistics that we mentioned, over 75 land and over 70 use, that there is strong adoption of the platform. Our clients, as I mentioned, feel that this is 1 product, the platform. And the more data points that are in it, the better to analyze problems and optimize performance. Now there are some places. Remember, we're not going back into the on-premise and working on it rip and replace. Sometimes that happens over time. But given the fact that we didn't have all these products, sometimes, it's a minority of the cases, we're landing with infrastructure. The client already has another cloud-oriented product. And over time, what we've seen is a trend towards consolidation in the platform and movement towards Datadog. That's not the vast majority. The majority are greenfield, but that's happening over time given the efficacy of the platform.

Got it. Now your actual portfolio grows and you scale into an increasing number of, as you just pointed out, sort of company-wide or enterprise-wide agreements. How should we think about your pricing model and go-to-market strategy evolving to?

Yes. We like where we are. Essentially, we have had transparent pricing. Our pricing is based on usage. In some parts, we've changed the pricing. For instance, in logs, we've moved the pricing towards not the ingestion of the data mainly, but the indexing. So we try to pair the pricing with the client use, make that transparent, and in some cases, be very flexible in that clients as they go on the digital journey can scribe for a dollar amount, but use the products in the platform as they see fit over time. That's proven to be very popular, very flexible. We think that this type of transparency, linking it to usage and making it this flexible has been very popular with our clients and we see no reason -- we haven't changed it, and see no reason to do that going forward.

Got it. Now how should we think about your M&A strategy versus organic initiatives? And what's your buy/build decision process? Maybe walk us through that.

Yes. We have, over time, made some small acquisitions. That's how, for instance, the log Synthetic business got started. Most of these have been acquiring teams in order to get a jump-start and then what we tended to do is build that product, that functionality on the platform. The reason for that so far is that having everything unified in one platform has been one of our differentiators. The fact that the data can be that tightly integrated in a common architecture has been one of the things that's been at the core of our product. So that's what we've done so far. We haven't rolled out doing something that goes off that. But essentially, we have a very high bar for that, looking at the technology, looking at the ability to integrate, looking at the ability to provide a seamless experience for clients. So we have $1.5 billion of cash. We have the flexibility to do things. We have an active program. But our bar is pretty high as it relates to the technology and the ability to integrate.

Yes, it makes sense for you to have a high bar. I mean I think from the very get-go, the thing I'd always hear about from customers and prospects of Datadog is that it works. So just working is a hard thing to do in the space that you're in so...

Everything in this common platform leads to transparency in the data, the architecture. We were a data platform in the beginning. So those are the rules of the road and that's one of the reasons for the client adoption. So it has to pass that far. There may be other tangential places where we can integrate, it's not as important. But so far, we stayed with that role.

Got it. Let's switch gears a minute and talk about partnerships and competition, et cetera. Datadog announced its Marketplace last quarter. Can you walk us through how a technology partner relationship works?

Yes. Already, we integrate with a large number of technology partners. So essentially, in getting the data in the platform, we do that already. So this provides the ability to expand the ecosystem by allowing clients to buy additional functionality that we may not offer or may not offer yet through the Marketplace. It also -- it may provide the ability to integrate more deeply and allowing clients to build applications on top of the platform. Also provides the opportunity for us to get closer to the ecosystem, thereby getting good feedback and informing our decisions, our product decisions, our ability to deliver a full platform to the clients. It's very early days. We have a certain number, I think less than 10, on the platform. And we're setting ourselves up to do that. And we'll continue to report. We believe it can be a big opportunity over time, but it's still early days.

Great. Now you've also established or expanded strategic partnerships with Google Cloud and Microsoft Azure, Oracle Cloud. I'm sure I'm forgetting some others here in just recent months here and obviously you continue your partnership with AWS. Can you help us frame the value of these relationships from, call it, both a go-to-market, but also a product perspective for Datadog.

Great. Good question. So what we do is we've always and are continuing to expand our ability to deliver our product in any cloud the client wants. We both can monitor any cloud and also deliver. And the partnerships also, from technology, give us the ability to see what's happening and make sure that we can deliver the product to clients. So we have a strong technology relationship. In the case of the Azure relationship we just announced, we're investing in a mutual technology lift that allows clients to order Datadog directly from the Azure console, which we think will be important for distribution. So on what there's -- one we're delivering, there is a technology partnership and then there's a go-to-market partnership. And in the go-to-market, what that is, is partnering in the leads or having their -- or selling through their marketplace or having their sales teams get commissioned and be incentivized to sell Datadog products. We strongly believe that this is in mutual interest. The cloud providers are trying to sell compute storage cloud capacity, and the ability to have observability with it facilitates that. So in varying degrees, we're having go-to-market partnerships. We've had that with AWS for a while. We announced that we're doing that with Azure, both in terms of a cloud build -- an enhanced cloud build, a technology partnership in that our products can be ordered from their console through their marketplace and a go-to-market in that their salespeople can sell Datadog. And then with Google, we have had that and just enhanced that through a partnership, which will include an additional cloud instance and an expanded go-to-market. These are in our partnership program, which we talked about. These are amongst the most important partners on all those levels I discussed.

Got it. Now as I mentioned, let's -- we talked about partnerships, let's talk about competition now. Who do you really view as your top competitors? And how do you think about what win rates look like today, let's say, for your SMB prospects versus larger enterprises?

Yes. So what we said always is we're greenfield. The biggest competition is do-it-yourself and open source. Clients generally, and sometimes they do this both, are deciding whether they buy a package solution like us, a managed service solution, or do it themselves. And sometimes clients do both. We do not compete backward into on-premise. So we don't go into the legacy customers. When we're talking about, for instance, security, we're not trying to go inside the firewall to the centralized CISO purchase. So in terms of cloud, hybrid and cloud, we see open source. We see some of the competitors that have some point solutions in cloud. And we really haven't seen that much of a competitor who has an integrated platform that's specialized -- that's cloud-native and specialized in cloud and hybrid. So that's sort of where we are today. We'll have to see how this develops over time, but that's sort of the competitive landscape that we have today and have had for some time.

Got it. The last 10 minutes here, let's talk about your financials. And then if we have time, we'll open up for Q&A from the audience. [Operator Instructions] Now let's actually first start off with 100,000-plus ARR customers. Could you talk about the improvement that you're seeing in those 100,000-plus ARR customer cohort? I think it was up 52% year-over-year. What are the drivers that are contributing to larger deal sizes and scope?

Yes. Because we're land and expand, most of those customers are customers who were below 100% we land with and grow either through more use of our platform as they're expanding their cloud presence or more products. So that's the major notion. That's been going on. So most of our customers graduate. We do have -- as the product suite has expanded and the enterprise motion has increased, we do have our customers increasingly landing at more than $100,000. It's not the vast majority of our motion. In addition, we've seen, as we've talked about on other calls, a significant number of clients expand into $500,000, $1 million, all of those metrics are going up as well as clients increasingly adopt us. And we said in the past that we have a number of clients that are in the 5 to low double-digit type of million. So all of those motions are going on and expanding. It's a little bit of a little [ floss ] line, but it's a line that indicates how our clients are adopting us and growing with Datadog over time.

Yes. Let's drill into that because, obviously, as you mentioned, you're acquiring new customers, but you also have a land-and-expand model where you're further penetrating existing ones. How should we think about sort of the sustainability of ARR growth and sort of the context of those drivers, i.e., how penetrated is your base versus obviously what is clearly a very big greenfield?

There's a number of things. First of all, we think we're very early on in cloud adoption, whether that be in an SMB, mid-market and enterprise. In all of those, we have new customers being born, customers that are transitioning and larger enterprises that are at various stages of their digital journey. Our net retention, as we mentioned, has been strong, over 130%. That has been maintained, indicating that the motion of landing and expanding stays very strong. About 2/3 of our net retention is from organic growth, growth of same products. And 1/3 -- 25%, 1/3 is from new products. That continues to also be very consistent. And we think we're very early on in the cloud journey and we're very correlated with that. So we see a lot of run room. In many of our large enterprise customers, we are there. We're selling in sort of traditional companies, but in 1 operation, in 1 sort of business line and we think there is tremendous greenfield in those customers going forward.

Got it. Let's talk about profitability versus growth. How do you think about those 2 levers from a sort of a high level framework, ability to grow, but also deliver profitability?

Yes. We think there's a big opportunity. We're a growth company. We're investing quite substantially. Our limitation of investment is in terms of operations and integrations of people. I would say that we're putting a premium on continuing to invest. During COVID, we've invested substantially as we had before and quite successfully. We think there's a lot of opportunities in go-to-market, in product, et cetera. And our profitability is a testament to the efficiency, our CAC payback, our frictionless selling, our ability to grow with customers without substantial additional costs. So that's really an output of our model. We're primarily a growth company and going to continue to invest substantially going forward given the opportunity we see.

Got it. And then how would you characterize the hiring environment right now where -- and sort of where are you investing in your business today? And where do you see is the opportunity to sort of maximize sort of where your putting more feet or maybe, let's call them, virtual feet on the street.

Yes. Definitely. It's been really interesting. We've invested like we were before COVID, meaning we're investing according to plan. We're finding it to be very efficient to hire people. We've expanded our capabilities, our muscle in R&D and in sales and marketing, and I'll get into that in a second. I think the job market has been a little more benign. There's essentially companies that are continuing to hire and go forward. Others have slowed down, and we're taking advantage of that. And we've been able to hire more people in the last few quarters, 2 quarters or 3 quarters, than we have ever in the company. Where are we investing? Given our -- what we mentioned in the opportunity to grow our observability suite, we're very rapidly growing R&D. And we're doing that in the product areas, in platform and security, in FedRAMP, in the different cloud instances we're talking about. And so in security, in CI/CD, there are a number of areas we're investing there that we've talked about publicly. In addition, we are earlier stages in go-to-market. There are many areas where we don't have critical mass or don't have the optimal number of salespeople. And there are other areas we've been very successful where we're relentlessly sort of splitting territories given the opportunity. There are a lot of accounts that we're still not covering. So we're investing in the go-to-market in commercial and SMB and mid-market and in enterprise and investing in sales engineers and ways to facilitate around the world. In many parts internationally, it's a little more greenfield. In the U.S. and more so in Europe right now, we're developing territories. We've already landed them successfully.

Got it. Well, we've got 5 minutes left here and we must have been having a good conversation because I have a lot of questions in my e-mail box from those listening. But one last question for you from me before we open up to those questions, but it's a multiple choice question, so it's a neat one. Are customers indicating that their 2021 budgets, you think, are up, the same or worse relative to 2020 and why? Any color supporting this answer.

I think it's -- we're still in the pandemic, so there's still uncertainty. But we had our largest net ARR add in the company's history. And so we've been in a fortunate place given the trend towards cloud migration, the acceptance of our product and the strategic initiative to see a continuation after the initial blip of COVID in March, April. And so we've seen trends like on-trend, organic, record net adds. So we see a robust environment going forward and have been in a fortunate position of not really seeing it freeze or go the other way at any time in the pandemic.

Got it. All right. Well, in the last few minutes here, we'll take a couple of questions that have been written in. First one is, is security a core piece of observability? If so, how do you crack that nut?

Yes. Security, what we're doing is we're adding additional data and functionality for DevOps. So this is part of what we saw happen in DevOps in the collapsing of silo that we see early signs that developers and operations people in a decentralized way are being asked to look at the security of their development and deployment. And that's what we're trying to serve. It's very early on. It's a new category. It's a collapsing of a silo. As I mentioned earlier, we're not going back to endpoint security, inside the firewall, centralized. It's the use of security information by DevOps professionals in a decentralized way to build better software, more secure software and deploy it. So essentially, it's a greenfield opportunity. It really hasn't existed. It's early on. They're not entrenched competitors. And we're essentially working on servicing that emerging need. It's early on we said. That need is still developing. The silos are collapsing. So that's sort of where we see our positioning in security.

Got it. Next question, could you unpack the impressive early success in Synthetics? What factors are at play here? And how is Datadog capitalizing?

Definitely. Automated testing paired with infrastructure and APM, it's essentially a natural add-on to our APM product. The fact that we've had strength in those products and been able to frictionlessly add Synthetics has stimulated the demand. It goes very naturally and those are some of the main reasons why we've been able to, I think, create a rapid growth and somewhat significant product at this point.

Got it. And then last question here that's written in. What are at the top of your to-do list over the next 12, 18 months?

That's an important question, we think about it all the time. As we mentioned, we see a big opportunity. So the top of the to-do list is to operate, to continue to hire, expand our capacity and manage it well in pandemic and afterwards and to make the right types of balanced decisions. We think the opportunity is there, the product is there, the execution is in our hands. So that's what we're concerned about all day long is maximizing the opportunity. That has a lot to do with people, managing people and attracting the right talent and organizing them in the right way.

Got it. Well, that 30 minutes went fast. David, thank you for joining us today. A big shout-out to A.J., too, for helping arrange all this. And thank you for your time, and look forward to actually hopefully being onstage with you next year in Las Vegas.

We look forward to seeing you physically next year, and thank you very much for having us this year.

Awesome. Thank you, everyone.

Bye.