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

Yes. I mean you have the trend that we mentioned of the most intense optimizers growing in a more programmatic way that indicates they're getting back to the business of growing applications rather than cost management. So you have that. The -- if you look at the cohorts, particularly large cohorts, you see this movement, that continues. I would say investors shouldn't expect that we go back to the bubble or caffeinated days, where things were being flung around. I mean you still have -- at this point, you still have a cost-conscious environment. It's just getting back to more sort of normal business practices of evaluating priority of projects. So I think we have the underpinnings of back to sort of normal-type behavior as evidenced by what I just mentioned of the organic growth rate of those types of customers. At the same time, given that the Fed has kept rates high, that there is still risk factors out there in the market. We still have some headwinds in the economy that have not abated completely.

Okay. And with AI, the company has also given us color as far as composition of ARR that's coming from next-gen AI customers. It was 3.5% in the most recent quarter. So can you provide some more color as far as what modules, what products those ARR -- sorry, those next-gen AI use cases are shifting towards within that Datadog cohort?

Definitely. It's the same motion that you would have across our customer base, meaning usually the infrastructure and then plus APM and/or logs is the core motion. And the reason is that what they're doing is they're offering a modern cloud service to their customers that has to have significant uptime and has the same sort of characteristics of delivery as our core cloud natives. So they're adopting it in a similar pattern in terms of the product mix and used in the same way as the rest of our customer base.

Got it. If I think about the product road map, during the Investor Day, you guys gave some stats: Cloud Security Management, 8% penetrated within infrastructure; AppSec, 14%; Cloud SIEM, 19%. What can you tell us about the customer cohort that has been early to deploy these solutions? And what are you guys doing to drive deeper penetration of those products?

Yes, yes. Good question. So the products are still in bill, but like our other products, as there's more functionality and more use case, we're able to market it and put it out there in front of a customer more aggressively. So at the core, it is being used by DevSecOps. So it's been used by our traditional customer base. It's not right now a centralized CISO type of sale or use. So what that means is our customer base, based on their behavior in the platform, want to see more signals in the platform on what's going on with the application in real time. And so that's the way the product has been designed, and that's who are the early adopters. So they would be cloud natives. They would tend to be places that are more nimble and potentially have the CISO or the security function closer to the DevOps. So it really is an add-on to our normal DevOps or DevSecOps motion. And what we did most recently in order to try -- it's a sort of a marketing or packaging is to say, okay, you already have -- because all the customers already have our infrastructure or our APM is you add this on as a module, and that's the bundles we talked about. And so that's a way of trying to attach this in a way of this is another piece of that. And that's early days but shown sign of success. And that's where we're currently marketing the product.

And the company has also evolved its pricing and gone through iterations on the different mechanisms that you guys look at. One thing is, I think, Cloud SIEM pricing -- the price changed back in December. Can you walk us through like what inspired that change?

Definitely. It's very similar to what we've done in a lot of our products, which we develop it with a client. We see how clients are using it. We float pricing, and we see how it's used. And in that case, the learning was that the way both the product pricing and functionality they need to be changed because in the security, the retention had to be longer because of what -- how you use a SIEM. And there's certain functionality in the organization of the work that needed to be there. So this is how we've developed all the products over time, which is we've often floated a price and then changed it over time when we see what the trigger is. And in this case, we learned from customers, we learned how they were using it. And we changed the pricing, as we always do, to align more with customer use and the functionality in our learnings to be, again, aligned with how customers gain utility out of the product. And it's -- we're optimistic. We think that -- in the SIEM, we think that -- essentially, we made some -- I would say, there were learnings and mistakes, right? So we used what we knew already and then learn, but there's been a lot of investment in the past year or so in the product itself and in the pricing. And we'll report, but we think we're in a place where we can be more aggressive in selling Cloud SIEM.

What about the newer product that's still in limited availability. You guys gave the great stat on the earnings call. It's already -- despite being in limited availability, Flex Logs is already north of $10 million in ARR, right?

Yes.

So just for perspective, you had a product at that scale and still be in limited availability? I'm just trying to think about the hunger for this solution right now.

Interesting. I don't know the answer to that. We certainly have had very strong ramps of products before. But what that I think indicates is that we essentially learned from clients on how they use their logs and attempted and did rearchitect the pricing and delivery to separate out storage and compute, et cetera. And the reason why that ramped is with that limited availability is to a set of clients who sort of were most correlated with having their log bill or their log use moving in directions that may not have been optimal. So they -- it's great. They adopted this. So that's, I think, the reason -- we'll learn more as we go to general availability and see this with more customers, the overall fact. But I think the learnings and the reason we said that is that the customers that was really sort of the most appropriate for really liked it and really found utility in it. So we're optimistic about the future of Flex Logs.

Awesome, awesome. And IT Event Management was another one, right? So that was just launched last week. And if I'm not mistaken, it's priced on a per event basis. What has the early feedback been on the offering? And which -- I guess, when I think about the third-party tools, are there certain ones where customers are drawing to as far as how that integrates with other players out there?

Yes. Of course, with the 1 week in the market, it's difficult to...

[indiscernible]

It's difficult to draw a lot of conclusions. I would call it early. But it's like every other product. We essentially looked at clients and how they -- and creating value. So we've always been -- and one of the reasons why clients want everything in this single platform and love Datadog is because we sort of make order out of the chaos of all these signals. And this is another attempt to do that. This is, I would say, not a consolidation play as much as a platform enhancement play for the use of Datadog driving more use into the platform. And because they're trying to organize everything that comes in and prioritize it and flow it into the right place. So this is not -- like a lot of people ask us, what about ServiceNow or whatever. This is about having the platform be a bigger portion of our clients' work day and that they get a lot of utility out of it. It's too early to know how this is going to manifest itself, but this was based on feedback from clients. And so they seem excited that we're doing it. But again, 1 week does not a product make.

And I think with the IT Event Management, you guys have also been quick to point out that it is specifically focused on the DevOps persona, which you have been entertaining since existence.

Exactly, exactly. So I think there's a lot of -- and there's great companies out there that have done this type of workflow for different personas. So far, what we said is that this is about our users. And it could be that it gets to be a greatly monetized SKU. And it could be also that it creates more love for the product and the platform and helps clients use it more, everything that we're thinking. And I think it's -- when you go back to Oli and Amit and others in the thinking, all about like how a client uses the product and making sure that this is something that they're in all day every day in their work life, yes.

Bits AI was announced with the quarterly release as well. And so there's probably 2 things I want to touch on here. First, like what is the value that Bits AI is providing that Datadog solutions didn't have that you're now unlocking with this new capability?

Yes. It's very similar. It's the product -- the platform becomes more useful. So if you can essentially use AI either to interact with the platform or as this evolves, understand more about what's happening in your applications, it means quicker remediation time frame. So again, this is all sort of based on client feedback, but it's a very similar theme, which is to have a client be able to do their job more efficiently and spend more time in the platform.

Can you help us think about the AI technologies as well? Like I feel like every vendor is trying to go through pricing. How do you price this technology? What kind of -- I guess, what do you extract from a monetization standpoint versus the value you deliver? So how do you guys are weighing that on -- internally on your side, right?

We don't know. I mean we're going through it. We're spending time. We don't know. I think it's easier for us to, first, think about these tool vendors we talked about, they monetizing AI in similar ways to the way we've monetized clients. The next thing is a little harder to think about, but we're getting data points. That was the use of the integrations. So that means as applications are essentially being developed and using more integrations and there's more work, we think we're going to monetize in the same ways on infrastructure, hosts, logs, et cetera. And then there's another thing which is, are we going to see quicker and more aggressive modern application development? We think so. But again, these are all too early. So we, like a lot of customers, are thinking about this but don't have an answer to your question of how we would monetize.

Yes. And I know you guys gave us the metric on the earnings call too, something like 2,000 of your customers are using those AI integrations to that.

Yes, using. And that's a good -- that's -- we're trying to indicate through these metrics that there's activity but also hold down the euphoria because we're all -- it's a process. And I think Oli said right up front that this is going to take some time. We're going to learn along the way, and we don't quite know how it's going to go, yes.

And the honor of those expectations, right, I think one of the things -- and we're all just doing our monkey math, but if you look over the most recent 3 quarters, what we're doing on our side is you guys have outperformed your guide on revenue by $20 million over the last 3 quarters. And so when we look at Q2 in the guide that we have, those actually implied decel. Can you help us think why there is that implied decel? And is -- are we stuck at $20 million? I mean it's a high-quality problem to have showing my company's beat revenue by $20 million, but can it actually go on over time?

I think, first of all, you have to understand how we always do our guidance, which is we always take the drivers and discount them. So there's always going to be a decel. There's very largely going to be a decel. So that's a good part of what we're doing here. The math of continuing the trend produces numbers higher than that, but we've been very clear to everybody that what we do, because we can't control the usage, we can -- we have good ideas about what's happening is that we take those trends and discount that. So that's the main reason. And we haven't changed that methodology since we've been a public company of discounting those trends when we provide guidance.

Right. That was probably one of the dominant topics that we got just given the net new ARR generation was the strongest in Q1 versus going back to 4Q '21, I think, you guys had said.

Yes, definitely, definitely. Yes, yes, exactly.

And then the other thing is you guys are within earshot, if I look out over the next couple of years, of $1 billion in cash flow. So -- and you already have a significant amount on the sheet.

Definitely.

So does that, in any way, change your thought as the CFO as far as use of capital and where you want to deploy that? Or can you help us think about how you're force ranking, where you're making your investments?

Yes. I think it's a lot, but not a lot if you're able to identify a strategic M&A or something. It's like, yes, it looks like a lot. But it isn't a lot when you think about acquiring a quality company that's larger than we have. I'm not saying we're going to do that, but we want the flexibility to be able to consider that. And so I don't think we're at the point now where we're into additional capital planning promises to The Street. But we think it's good to have that flexibility to -- for strategic and investment purposes and are happy with where we are.

And I have more questions on my side. I did want to be true to my word. Does anyone have any questions out there? Otherwise, happy to keep going. We do have a microphone in the back. All right. We'll keep going. Competition, just coming off the product road map questions, but there's been a lot made at -- we were talking about Flex Logs as an example, right? Is there any change in competitive dynamics given some of the M&A that's taken place in the observability market?

Yes. The continuation of what we've seen, which is that a number of companies which we have been successful competing with and consolidating have decided to go private or be acquired. And so essentially, what's been going on, if you look at our growth, et cetera, is that we've been winning market share. And I think we talked a little bit on the earnings call that some of those companies try to be more aggressive in pricing, and it didn't work because we continue to consolidate. And so it's largely because the purchase is based on value or the product features. And so we have seen the beginnings of signs of sort of more discipline from those now that they maybe have debt or have gone private or things like that. But this is a continuation of a trend that we've seen going on for some time. And we'll have to see whether that accelerates that trend or maintains that trend or what.

With those companies being acquired or going private as well, does that give you an opportunity from a talent perspective? Because I know you guys continue to aggressively invest in your head count. Are you seeing more churn out of those companies coming towards you? Or is it more of the same? Or do you just not want those folks?

Well, I think that it can go both ways, right? So when you've done things in a certain way that has won the market, you may not want all the way. But there are good people everywhere. So of course, we -- yes, the talent market, I would say, still competitive in a number of ways, particularly in R&D, AI, et cetera, but it has abated. I think it is an easier market. And we continue to recruit from a variety of sources, including companies that were competitors or companies that are specialists in AI or other software companies. So I think it's all part of the equation of not having as a competitive labor market in -- across the board as we had 2 or 3 years ago.

For the hiring plans that you guys have this year, have you given any more color regarding where -- which departments or specific teams you're looking to build out within Datadog as you think about the future of the company?

I think we gave color on -- a little bit on the call, which is we continue to have a very strong pipeline of R&D projects. So we are continuing to hire there, both in terms of the platform or growing the platform, the integrations and some of the new product areas that we talked about, security or cloud costs, et cetera, or event management. So we are continuing programmatically to grow there in sales and marketing, also in some of the newer markets, in some -- in places we really haven't built out to scale like Fed and government, in channels and things like that. So I would say it's a pro rata investment broadly speaking between R&D and sales and marketing that we're continuing, all sort of bottoms-up. So it's based on territories that have targets. It's all principled in that way.

Right. This is something everyone's watching as far as that correlation to ARR growth.

Yes, definitely. We have over -- I think that we -- again, just like the market, we didn't -- and we said this all along, we haven't been able -- it's impossible to do like a straight line. So we said sometimes the ARR growth has gone quite a bit higher than the talent acquisition. Last year, we were more conservative. We pulled back. Now we think we are more confident and are investing more. And I think the right way to look at it is on a weighted average basis, when you look at it, are you sort of moving the talent acquisition to be at or slightly below the ARR growth, which results in uptick in margins, which we delivered over the years.

Yes. And maybe last question here, but just given how expensive the portfolio of solutions has become, has the ramp on those new hires in the sales and marketing organization remain relatively consistent? Or is there -- because again, I'm trying to figure out how you swallow all those different products from the market side.

I would say it has -- it takes up to a year to ramp in enterprise; for commercial or SMB, maybe 6 months. I think the investments we've been making have been on complementary functions, sales engineering, technical account, product marketing, to help them to understand the whole products. But it's a challenge. I mean, as the product suite gets broader, you do have to -- it's not a specialist sales team, we think, because we're still selling to DevOps. But it does involve product experts that help them do their job. And so we've been investing in that quite rapidly for a number of years.

Terrific. And with that, we'll leave it there. But thank you, everyone, for joining us. Thank you, David.

Thank you very much. Thank you. Thanks.