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Is Datadog Stock a Buy?

By Danny Vena – Sep 3, 2020 at 7:00AM

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Stock for the cloud analytics provider has been on fire so far in 2020, gaining more than 100%. Should you buy, or take your money and run?

It was just less than a year ago that Datadog (DDOG -1.00%) made its public debut, and this dog has been running ever since. The stock was priced at $27 for its IPO, surged 39% out of the gate, and never looked back. The coronavirus pandemic and resulting pivot to remote work made its services more valuable than ever, driving shares up 125% so far this year, with no end in sight.

With Datadog's robust gains as a backdrop, some investors are wondering if they can still profit from this red-hot investment, or if the opportunity has already passed them by.

A man working on a tablet producing a cloud computing image and various graphs.

Image source: Getty Images.

An indispensable cloud monitoring tool

With the decentralization of IT departments and more people working from home than ever before, it's extremely important for companies to stay on top of their cloud computing operations. In light of the growing demands brought about by an increasingly remote workforce, it's crucial to keep these systems running at peak efficiency and identify issues that can result in downtime and resolve them before they become costly.

That's where Datadog comes in. The cloud-based platform-as-a-service provides monitoring and analytics for developers and IT departments that keep a digital eye on servers, databases, tools, services, and other cloud-centric operations. It sends up a red flag when an issue arises that might result in downtime. Datadog goes even further, providing helpful analytics and useful feedback that get to the root of the problem and help prevent it from happening again.

Impressive quarterly results

Datadog has experienced rising demand since the onset of the pandemic, as shown by its results so far this year. Revenue grew by 68% year over year in the second quarter, decelerating slightly from the 87% growth it delivered in the first quarter. This continued robust growth also helped generate a profit for the second consecutive quarter, an impressive feat for a company that had its IPO less than a year ago. 

Customers continued to sign up at an impressive clip, climbing to 12,100, up 37% year over year. Those that provide annual revenue greater than $100,000 grew to 1,015, up nearly 71% year over year. Not only are new customers joining the fold, but existing customers also continue to spend more, as evidenced by the company's dollar-based net retention rate of 130%. Customers not only expanded their usage, but they also adopted new products.

Management is doing its best to temper expectations, guiding for year-over-year growth of just 50% in the third quarter, a marked deceleration from the current rate. That forecast might turn out to be conservative, since it's difficult to know how long the pandemic will last and what long-lasting impact (if any) it will have on Datadog's future results.

A businesswoman working with a display showing data analytics.

Image source: Getty Images.

The competition is significant

While Datadog has captured hearts and minds of investors over the past year, it's important to note it isn't without competition. In a recent regulatory filing, the company lists IBM, Microsoft, Amazon, Cisco, and Alphabet among its biggest competitors. There are a number of younger upstarts as well, including Splunk, Elastic, New Relic, and Sumo Logic, just to name a few. 

With the pedigree and deep pockets of some of these rivals, Datadog will have to continue delivering the goods if it wants to continue its eye-catching growth.

Valuation

It's worth noting that Datadog stock is by no means cheap. As of Tuesday's market close, it trades at 45 times forward sales (when a price-to-sales ratio of between 1 and 2 is considered reasonable), so investors clearly have high expectations.

To put that into perspective, analysts expect year-over-year revenue growth of 50% in the current quarter, 57% for the current year, and 35% next year -- though those estimates appear to be piggybacking on management's expectations, so Datadog's actual growth could be higher. 

Two IT technicians walking between long rows of servers.

Image source: Getty Images.

The bottom line

But the quintessential investing question remains: Should you buy Datadog stock right now? A good part of that answer depends on what you believe as an investor. There's an old saying: "For those who believe, no explanation is necessary. For those who do not, no explanation will suffice."

The company booked $363 million in revenue in 2019, but that pales in comparison to the massive opportunity that remains. Management estimates its target market at about $37 billion by 2023, not including the more recent multicloud and hybrid cloud environments. This shows that Datadog still has a long potential runway for growth.

Datadog may not be a fit for every portfolio, or indeed every investor. Those who shy away from high valuations or unproven high-growth stocks, in general, will likely not find this stock appealing. That said, those with a stomach for volatility and an appropriate long-term investing horizon should consider adding this high flier to their portfolio.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool's board of directors. Danny Vena owns shares of Alphabet (A shares), Amazon, Datadog, and Microsoft. The Motley Fool owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Amazon, Datadog, Elastic N V, Microsoft, New Relic, and Splunk and recommends the following options: long January 2021 $85 calls on Microsoft, short January 2021 $115 calls on Microsoft, short January 2022 $1940 calls on Amazon, and long January 2022 $1920 calls on Amazon. The Motley Fool has a disclosure policy.

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