Last month, investors went absolutely bananas for software initial public offerings, or IPOs. No company highlighted the craze more than Snowflake (SNOW -1.61%) -- shares of which have more than doubled from their initial price.
But in the Snowflake-induced haze of IPO stocks, another company caught my attention: JFrog Ltd. (FROG 1.61%). This company checks off a lot of boxes that I look for in an investment: founder-led, strong balance sheet, and a barbell approach that seems to be working very well.
That said, two issues give me pause. Read below to get the whole story.
Image source: Getty Images
First, the company from 30,000 feet
I'm a big fan of solid mission statements. When those mission statements can easily convey what a technology company does to a non-techie like myself, I like it even more. JFrog's mission is "to power a world of continuously updated, version-less software." The company calls this "Liquid Software."
If that still sounds confusing, think of it this way. Back in 2000, when I used TurboTax to do my taxes, I had to go to the store, buy the CD-ROM with the most up-to-date version (there are always tax changes), and install it on my computer. Only then could I actually start putting my information in.
Today, TurboTax has moved to the web. There's no physical CD to buy; the software is all updated by the time tax season starts. Huge parts of the process have been eliminated.
But JFrog wants to take it one step further: eliminate even periodic updates, allow software to be continuously and instantaneously updated. The company has six different modules that customers can use to do this, ranging from its core Artifactory (where coding packages can be stored) to Xray (scanning and securing software updates) to the actual distribution of those updates.
Customers often start with Artifactory, but as they see how easy it is to use, they expand to include other modules. The results speak for themselves.
| Metric | 2018 | 2019 | TTM | Growth Rate |
|---|---|---|---|---|
| Subscription Revenue | $56 million | $95 million | $117 million | 63% |
| Free Cash Flow | $6.5 million | $8.2 million | $13.3 million | 61% |
| Customers with $100,000+ ARR | 131 | 234 | 286 | 68% |
| Revenue Retention Rate | 139% | 142% | 139% | N/A |
Data source: SEC filings. ARR = Annual recurring revenue Figures rounded to nearest million. Growth Rate = Compounded annual growth rate, or CAGR.
Everything about those numbers is impressive. The company is free-cash-flow positive -- meaning investors right now don't need to hope and pray for the day to come when the company proves it is sustainable.
Just as important, its revenue retention rate above 100% shows that customers not only stick with JFrog, they spend about 40% more with JFrog every year! That's impressive, and it points to a potentially powerful moat in the form of high switching costs.
A few issues of note
The fact that the company is run by its founder Shlomi Ben Haim, and that insiders are heavily invested, really impressed me. Then I decided to see what employees thought of the company via Glassdoor ratings. The results weren't pretty. While the company officially gets a middling 3.6 out of 5.0 stars from employees, a deeper dive shows this is largely because of "positive review stuffing." That's where employees give high marks, but leave very few details -- leading me to believe they are simply there to raise ratings.
The negative reviews, on the other hand, point toward a toxic culture that could make it very hard for JFrog to continue growing and winning customers as the competition heats up. The market for this type of technology is expected to grow to over $20 billion in a few years -- a size that will no doubt attract big players.
Speaking of competition: I talked with a few people who know more about this space than I do, and some believe that GitHub could reasonably create a platform with functionality at least equal to what JFrog has built. And GitHub happens to be owned by Microsoft (MSFT -2.45%). With a war chest of over $130 billion on its balance sheet, that's a threat that anyone investing in JFrog should at least stop to consider.
What I'm doing
For now, JFrog simply lands in the "too hard" pile for me. I think the company is very interesting, and clearly has a lot going for it. But the great thing about investing is that there are no called strikes. You only need to make a few solid investments to reach your financial goals.
That being the case, I see no reason to put my money somewhere where there are "yellow flags" like JFrog's. That doesn't mean it will be a bad investment -- or that I won't change my mind later. But that's where I'm at right now.
