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

Great. It looks like we're live here. Everyone, good afternoon, and welcome to day 2 of the Raymond James Institutional Investors Conference. I'm Robert Majek, the infrastructure software analyst here at Ray Jam. And I'm excited to be here to chat with Datadog's CFO, David Obstler; and David Fischer in FP&A. I'll be leading a fireside chat session for about 40 minutes and I have a number of topics I want to make sure we hit. But I also want this session to be interactive. So please, if you have any questions, just e-mail [email protected]@raymondjames.com, or use the chat window, and I'll try and weave your questions into our conversation. So David, thanks a lot for joining us today.

Thanks. Thanks for having us. We appreciate it.

So maybe just starting really high level here before we dig in for the new investors in the room, can you just walk us through how Datadog has evolved over the past few years, especially from a product perspective and what differentiates Datadog from other vendors in the market today?

Yes. Thanks. The company was founded to break down silos between dev and ops and to solve critical production environment problems for our clients. A lot has changed over the last 10 years, but that DNA remains at the center of the company, it's the vision of the company. In the last 4 years, we've expanded from 1 product, our original infrastructure, to 9 products today, where we have significant scale in infrastructure, logs, APM, et cetera. And our motion is one of land and expand. We land with our clients and then grow. We have a fairly frictionless adoption without professional services. We have disclosed on the last earnings call, we have 14,000 customers and it's split across different industries and split about equally between enterprise, mid-market and SMB. Back to the differentiation, we were, at the beginning, a data platform that integrated data sources, cloud native, very easy to implement, ubiquitous in the start in infrastructure. And since that time, we've expanded the platform to the 9 products I mentioned, all in one platform, our clients tend to want to solve problems and don't look at it in individual products. They look at it and how much data they can get and how many pieces of information to solve their problems. And we've been able to satisfy that in the market as we've grown the product.

And then if you can, can you just remind us of the major drivers of your business and the impact that cloud, the proliferation of apps, the collapsing of DevOps and security and the emergence of new ways of developing software like containers is having on your business?

Definitely. At the very center is the migration of workloads to clouds, to public and hybrid clouds. We are a very fast follower. The legacy systems tend not to work in more dynamic, modern development environments. So therefore, our product was designed for containers, microservices, agile development. The more complexity, the better for us, and that's when our product gets used. We also are, therefore, dependent on the adoption of modern DevOps. That silo collapsing is how the company was formed. It's where we sell into the intersection between the 2 of them. And with things like DevSecOps, we're seeing the early stages of additional silos collapse. All of that activity is positive for the adoption of the Datadog platform.

And then how should investors view the total addressable market today and, say, in 5 or 10 years in the markets that you play in?

Yes. We -- in our IPO, we had the market, which is really IT ops in the upper $30 millions range. We just updated that in the K, we filed to the low 40 -- sorry, billions. $40 billions. The market -- we're really early stages. If you look at the amount of workloads that are in the cloud, public cloud, et cetera, it's pretty small. We're early stages. And so therefore, we see an early and rapidly growing market. We believe that as we expand our security offering, we have -- and the product line, we have TAM expanders that we haven't included in that low $40 billions type of market size.

So historically, you started out in infrastructure monitoring. And over the past few years, which you alluded to, you've evolved into more of a multi-silo model, which kind of dovetails nicely with how customers want to purchase monitoring these days. Can you just maybe elaborate on that point for our listeners, kind of help us understand to what extent you think customers are going to standardize their monitoring and observability deployments, how many tools they might use? And then kind of what your share of their monitoring spend you're trying to capture?

Yes. So to start off, we've been focusing on workloads that are in the cloud, mainly greenfield and expansion. We have not focused on going back into on-premise type of workloads, that may happen down the road. So in terms of the cloud workloads, we started out, as you mentioned, with infrastructure. That's a very good place to start. It's -- most of the hosts are being monitored on the infrastructure side, and it gives us a very ubiquitous presence. But since that time, when we give statistic -- we've given statistics, over 70% of our clients are using more than infrastructure. Generally, they're using APM and/or logs and some of the other products, and over 20% are using 4 products. And in fact, now, 75% of our lands are in more than 1 product. That gives us very -- has very good evidence that the market is moving towards the platform approach. Our clients want to see everything in 1 platform as opposed to having point solutions. And our clients are adopting that both in landing with us as well as expanding.

So you just gave us a stat, you said 70% of our lands -- of lands include more than 1 product. And I know you don't necessarily break out your APM or log products in terms of revenue, and you sell that it as a unified bundle. But can you just kind of elaborate on that a little further? Kind of what's just the usage of those newer silos has been? And I guess the question I'm trying to ultimately get to is, is it possible that infrastructure monitoring gets outgrown by some of these other silos at some point?

Yes. Right now, we started with infrastructure first and it's a sizable SaaS company with high growth rate. And I think what we said is that APM and logs have developed -- have been in hyper growth in their adoption, and they're multiple tens of million dollars of revenues each. They're roughly about the same. And so both of them are hyper growth SaaS companies. And we said on the earnings call that we're seeing the products that we are launching after that, like Synthetics, also grow into size in hyper growth. So yes, like we said, most of what were -- the way our clients are seeing us is a platform, and they use the various pieces of data. And we've tended to have about a 2x multiplier when you adopt the second or third product. So that's where we are today. We're seeing rapid growth across the product suite. And I think it will be increasingly less important each of the products versus the platform as a product.

And I just want to remind our listeners, if anyone has a question, just please email me at [email protected]. So David, I've gotten a few questions already on this topic. So I'll put all the questions together here. But so we've been chatting about how your product offering is highly differentiated today. And I've also heard that, by the way, from dozens of customers and resellers I've spoken to as well. But I guess just to play devil's advocate here for a second, CA or BMC were probably product leaders at some point, perhaps not to the degree that you are now. But I guess my question is, can you just help investors better understand or appreciate how sustainable you think your technological or product advantage is if we fast forward kind of 5 or 10 years?

Good question. And that's why we're a product company at the core and R&D company at the core and why we're investing so substantially. We realize that this is not a static game. For instance, if you take an example, our move into security, our acquisition of Sqreen, our entry very early stage into RAS, these are all investments as we're forward-looking and learning from our clients how to deliver broad value. So you're absolutely right, we have to continue investing in the product and increasing the value of the product in this rapidly changing world. That's what we're doing.

So that leads us perfectly to the next question. So I wanted to ask you about your initiatives in securities. So you mentioned you aren't trying to displace endpoint. My understanding is you're trying to focus more on application security where you can kind of leverage your monitoring agent, but maybe that's too narrow of a definition. Can you just kind of help us understand your ambitions, both short-term and long-term in security?

Right. Short term, we're in a build, which is both organic and inorganic. We're focusing on client-facing applications and workloads, the DevOps world. So as you rightly said, differentiated, not endpoint inside the firewall, et cetera. We believe that silos will continue to be broken and Dev and Ops people will have increased responsibilities around the design and monitoring of applications as to security needs, and we're trying to service that. There are a number of parts of this, and this involve using our APM logs and infrastructure data, developing penetration analysis, which we've done. We just launched and we're bringing out to market a compliance, making sure those developing and in production are following the compliance directions. And then there are many different -- and that's all part of developing a cloud scene. And then when you look at application security and in application security, the move from WAF to RAS, et cetera, that was the reason for the Sqreen acquisition. We're very early stage but we believe this is early stage in the trend, and we're starting to look at that. There are also other aspects of that in terms of orchestration of remediation and workflow, not in it. So there's a lot to build. We're early on. Right now, we're not selling this lead. We're providing our functionality and our data to our DevOps clients. They can adopt it in a frictionless way. We can learn from that. And as we do, we'll begin to potentially sell it more as a feature. But right now, we're really following on to those DevOps customers that already have security needs and are looking for more data points in that regard.

And then maybe just attacking the question from a different angle. I'm curious, is security something that your customers are asking you to do? Or are you anticipating that they'll need it? Just kind of curious of the -- if you could just build on the decision-making to push into security and the dynamics around it.

We're very customer focused. Everything we do is because of feedback from customers. Having this ubiquitous, frictionless platform allows us to get that feedback. We see where things are integrating. We're integrating, et cetera. So basically, this is for sort of forward-looking DevSecOps customers who want us to do this. And it's the same way that we entered the other markets to develop the platform. So all client-driven.

Maybe just switching gears here. Can you just help us understand the impact of -- that COVID had on your business? You discussed some slowing earlier in the year. So maybe just update us where we stand today? And is usage and adoption kind of back to normal? Or is there still kind of a quarter or 2 of rebound, so to speak, to those levels. What's left?

Well, recurring revenue model, which is based on landing and expanding. So what we said was in Q2, we saw a disruption of the normalized usage expansion trends. Meaning, usage of the products didn't expand very much from Q2 to Q1. So in many ways, we lost 1 period of the compounding effect of organic growth. In Q3, we saw a resumption of normal usage patterns sequentially, Q3 to Q2, and that was consistent with Q4 to Q3. But we did have -- we didn't make up for the lower usage in Q2. Many of the other metrics held in very well, for instance, gross retention, held in the mid-90s and it held across SMB to enterprise. We saw our new logos in the second half of the year rebound. And in fact, we had a record performance in both number of new logos and an ARR signed -- new ARR signed in Q4. So what we've seen is more of a return to normal, but continued volatility or standard deviation, meaning there are still some affected customers, and they're still -- on both sides, increased use due to home and remote work and also some affected. So we've seen a little more volatility. We want to be cautious, but we're optimistic that the buying and demand patterns have returned to what they were pre-COVID.

Maybe switching gears, just on competition. Just how do you view the competitive landscape today? And kind of who are you up against the most? And I guess, also importantly, how has the landscape changed, if at all?

We said on the call -- it's a pretty boring answer. It hasn't really changed very much. We're mainly greenfield. The biggest competition tends to be open source or do it yourself. We tend not to go and chase the on-premise side of things as an entry point. It's -- we're trying to go where the puck is going, and it's easier for us to get the lands that we're getting in the cloud environment. We haven't really seen much change of the competitive environment based on various pricing changes or acquisitions that have been announced publicly by some of the other companies in our world.

And then you focused mostly on small to mid, but you're starting to really push more into enterprise. So could you just talk to us more about your enterprise initiatives and how Datadog compares or differs versus some of the other enterprise tools out there like Dynatrace and AppD?

We are about 1/3. We're about 1/3 split SMB, mid-market and enterprise. So we have sales channels that address those that have been entrenched for a while. I would say that in an enterprise, we're focused on the public and hybrid cloud, the areas of a larger enterprise that are adopting modern DevOp techniques. So we're -- that's where we're landing. We offer a platform, multi-tenant. So I think you would see us heavily aligned in large enterprises with their cloud initiatives. And in those parts of the business of migration to the cloud, that's where we are, and we are succeeding versus the more centralized and on-premise. It's similar to our other -- in all markets where we are ubiquitous, distributed, easy-to-use, not highly centralized. So we're not going to be the data repository in the center with 10 users. We're going to be the platform that's used by tens of, or hundreds of, in modern DevOps and cloud and very similar to where we are in mid-market and SMB.

And I got a question from investors on this topic. So he's wondering in the enterprise market, are customers kind of choosing Datadog or Dynatrace? Or are there deployments where they're going with both you and, let's say, Dynatrace for different pieces of their monitoring deployments?

There's not a monolithic choice. There would be in the more traditional, more centralized on-premise, you might well have a Dynatrace and AppDynamics, you might have a Splunk, et cetera, and you could also have Datadog. So it could be both. There are some clients that do want to unify, I would say, given that we're not there trying to rip out the legacy, it's not something that is a very significant part of our business. But there are some times when a client will standardize on a Datadog. But for the most part, these different products in a larger enterprise can exist side-by-side. And in many cases, is just side-by-side for many years.

And then what's the ramp time in getting a new logo in terms of getting them kind of to a full run rate? How long does it usually take to ramp up?

Well, they generally start -- it's dependent upon their workloads. They can start using right away. So we find in terms of from signing to actual revenue, it's very quick. And our clients tend to grow over 3, 4 years. So it really depends on their growth and their cloud deployments. But most of our clients tend to have growth dynamics that continue for many years. So the fully ramped in most of them, we're not there yet, and we have a long way to go in many of our clients.

And then on your -- you recently signed a few partnership agreements with some of the major cloud providers. Can you just talk to us how involved those partnerships are and kind of what differentiates your partnerships versus others that some of your competitors might have signed?

We've been selling in partnership with AWS and delivering also in some partnership with Google. We just signed last year the Azure. We're co-developing technology. We're going to be able to be ordered through their console. And that is in private viewing and will be towards the end of the first -- second quarter or in the second quarter -- second half of the year, fully out there. In most cases, our relationship with the cloud providers includes monitoring their infrastructure, working with them technologically so we can keep up with them and monitor what they're doing, delivering Datadog on those clouds and then partnering in go-to-market. So we're doing that with all the clouds. Most of the selling is also done directly, meaning the decision of a client to buy is largely influenced by our direct salespeople and the product itself. The cloud provider can give leads, and in the case of Azure, convenience and ordering on the console, but a lot of the buying decision has to do with the product. I would say that we want to be -- certainly, we want to be out there and working with everybody. These are nonexclusive. The other observability platforms can and do, do that. And the differentiation sits more with our product and how we would have a product strategy rather than whether it can be ordered through Azure or AWS or Google.

And as we're going through the industry shifts that we're discussing, do you see any change in the relevance or the importance of different types of monitoring, whether it's metrics, logs, traces and so on, kind of what's the hardest to monitor and what's becoming more or less important?

Well, I -- like we said, clients are not trying to buy logs or APM or anything. They're basically trying to solve problems. So it's completely dependent on what's flowing through, meaning containers, microservices, demands for security. All of these things that are happening and creating a more complex sort of things to analyze or what Datadog does. So that's what we're dedicated to. The client views it as a product of which they're trying to get data points and see what's happening and remediate. So all of those are really important, and that's, I think, a good center of our success and that we've been able to do that and put it on a single platform.

And then can you give us a peek into some of the customer conversations you're having as far as how they're thinking about their IT spend, or perhaps more specifically, their IT observability spend in kind of 2021 and beyond in a post-COVID world?

Yes. We're still in COVID, so there's still risk factors. We're on a very long-term movement, we believe, of moving of IT infrastructure to public and hybrid clouds. And there's lots of efficiency and there's -- it speeds up development. It enables you to remediate more. So this has to do with the digital economy and the digital trend. We think we're very early stages. There was some disruption in the beginning of COVID. But we're very much in the same situation we were before COVID, which is this is a very long-term trend, the movement of workloads, and we see that having legs now and for a long time. We're having pretty normal discussions with clients about their cloud migration and digital plans.

And could you maybe just talk to us a little bit more about your M&A strategy, kind of what makes sense to buy versus build?

Yes. Well, first of all, most of what we've done, we've done this for quite a long time, the logs business was created in this way. So essentially, we're trying to find ways to accelerate our R&D and product investment. Trying to bring in development teams that can work with us, that think of developing problems the same way, and we provide incentives that are long term, meaning they have to stay to sort of vest through them. So that's how we've looked at it. Most of it's been governed by putting everything in a single platform. So when we acquire something, we're not trying to continue to run an independent product. We're putting it in. And because there's so much to do and so many opportunities. If we can find ways to accelerate that through bringing in the right teams, like we did with Timber and Sqreen, we're open to it. So I think most -- a lot of what we're thinking about are ways to further develop both the observability and the security. It could be making some investments in BI and visualization. But it's all around enhancing the platform and bringing in R&D teams that can help do that more quickly.

And as we kind of just look at your R&D spend over the next few years here, just kind of where you focus most? Where are you investing most of your dollars? Obviously, security is a big new initiative, kind of where else are you focused?

The key -- the infrastructure, logs, APM and all of that is the majority investment. There's investment in the platform, there's investment in the way data is handled and all of that. So that's pretty important. We also have new clouds, for instance, FedRAMP, the Azure or new cloud. And the marketplace bringing -- making sure we're an open system where people can develop on top of us, and we can add functionality in the ecosystem. All of those are part of the investment in addition to building out more clouds around the world.

And David, I have a few financial questions to ask you here. So I know you generally remind us to focus on revenue, but RPO has been trending really positively as of late, and I think ahead of revenue or billings growth, perhaps as a result of kind of the strong net new logos you had in Q4. Can you just kind of help investors make sense of that dynamic?

Well, RPO and billings will, in some quarters, grow at a higher rate than revenues and ARR and some -- and lower. There's really nothing in that, meaning that, that depends on which bills went out and which clients were signed and which -- and whether in the case of this Q4, there were some customers that wanted us to do 3-year deals with them. So that's an output, not an input. And the reason why we keep reminding everybody, and we do it whether the rates are higher in growth than the revenue and ARR or lower is that, that's the way we're running the business, and there'll be lots of noise there, and we're trying to sort of pro forma out the noise to keep everyone focused on the important thing, which is the growth of the revenues and ARR. ARR and revenues are very tightly aligned, given the fact that we're frictionless, et cetera. And so that's the most reliable metric for the progress of the business going forward.

And then, David, you're coming off the year where I think you grew 66%. You're guiding to, I think, 38% for 2020 on. Maybe that's a conservative metric. But just kind of zooming out, like how should investors think about your revenue growth over the next, say, kind of 3 to 5 years?

We ended the year at 56% growth in the quarter. So that's a jumping off point. And I think we said that we went towards being a little more conservative given the volatility of COVID. We also, as those of you that follow us know, we're conservative guiders. We try to beat and raise. And so there's an element of conservatism always in our guides. In addition, we're law of large numbers. We were at 80%. It may not be possible to maintain 80% as you get into the billions of revenues, et cetera. So those are some of the principles of which at the center of it is a principle of conservative guide to be able to beat and raise.

And you're investing a lot in not only R&D, but sales and marketing. I think your headcount is up, I think 60% last year. Can you just kind of talk about the ramp in sales that you're seeing, the return you get on those salespeople and then kind of what's driving your confidence and keeping that accelerated pace of hiring?

We're really efficient. As those of you that remember from the IPO, our CAC and our return is really, really 1 year, around 1 year. We found in the history that we've been limited by our ability to just hire salespeople, get them enabled, get them in the field rather than productivity or the market. So we're fairly confident that the right thing to do, given the market opportunity, is to continue to hire very rapidly. We have under -- we have too few teams or room for expansion in a number of markets. We watch that. We're -- given how we are -- how efficient we are, we watch that. And we try to learn from both the market and the success of the existing teams where we think we can add more teams. We see a lot of room to continue to add teams around the world.

And then again, as we zoom out, just how should investors think about the long-term profitability of your model?

We haven't changed the guidance we gave at IPO, which is, long-term, 20% to 25% non-GAAP operating margins. Frankly, we've done better than we had thought at the time, given the growth of the top line and our efficiency, but that has remained our long-term target.

Got it. All right. We've covered a lot of ground here. Any closing thoughts that you'd like to leave investors with here?

I think that we are very aligned to what we think is a long-term trend of migration to the cloud and modern development. We see a continuation of developing size. We see a huge opportunity. We think we're early stage in that. And we're an investment growth company, which is going to continue to invest in both R&D and sales and marketing to take advantage of that.

Perfect. Thanks a lot for the time, David. Thank you, everyone, for listening in. Everyone, take care.

Thanks, everybody. Thanks. Take care. Be well. Thanks.

Bye.