Datadog's (NASDAQ:DDOG) stock recently dropped after the data visualization company posted its third-quarter earnings. Its revenue rose 61% year over year to $155 million, beating estimates by $10 million. Its adjusted net income surged from $783,000 to $16 million, or $0.05 per share, which also beat estimates by a nickel.

Datadog expects its revenue to rise 62%-63% for the full year, compared to expectations for 57% growth, with adjusted earnings of $0.17-$0.18 per share -- which was well above the consensus forecast of $0.12 per share.

Those numbers were impressive, but investors seemed concerned about two things: The company's revenue growth had gradually decelerated from its 83% growth rate in 2019, and the stock looked frothy at 44 times this year's sales.

By comparison, Datadog's peer New Relic (NYSE:NEWR) trades at just five times this year's sales. Those concerns are valid, but I believe Datadog remains a much better "silo-busting" play than New Relic.

A woman checks a tablet.

Image source: Getty Images.

What do Datadog and New Relic do?

Large companies usually host their data across a wide range of software, cloud services, and apps. Keeping track of all that data can be challenging, so Datadog and New Relic both break down the silos and pull the information onto unified dashboards.

Datadog and New Relic didn't start out as competitors. Datadog initially helped companies monitor their cloud infrastructure services, while New Relic mainly tracked the performance of a company's websites and apps. However, both companies' APM (application performance management) platforms are now overlapping as they expand their ecosystems.

Datadog is growing faster

Datadog's growth is decelerating, but it's still outpacing New Relic, which grew its revenue just 14% year over year to $166 million last quarter. Wall Street expects New Relic's revenue to rise just 11% this year.

Next year, analysts expect Datadog's revenue to rise 36%, but for New Relic's revenue to rise just 12%.

A network of people connected through the cloud.

Image source: Getty Images.

Demand for Datadog's service is surging because it seamlessly straddles public cloud services, on-site private clouds, and other connected services. AWS and Azure offer their own cloud infrastructure monitoring tools, but these tools generally can't access a company's legacy computing platforms the way Datadog can.

New Relic chased Datadog by launching New Relic One, an upgraded dashboard that offers broader monitoring tools for other cloud services, last year. New Relic One supports over 300 integrations with other services, while Datadog supports more than 400 integrations.

But Datadog is still locking in large customers at a faster rate than New Relic. Datadog's total number of customers generating over $100,000 in annualized recurring revenue (ARR) grew 52% year over year to 1,107 last quarter. New Relic's number of customers with more than $100,000 in ARR rose just 14% to 1,039 last quarter.

Datadog is more profitable

Datadog and New Relic are both unprofitable by GAAP measures, mainly due to high stock-based compensation expenses. But on a non-GAAP basis, Datadog became profitable this year as New Relic turned unprofitable.

Last quarter, New Relic posted a non-GAAP net loss of $4 million, compared to a profit of $15 million a year earlier, as its transition from subscriptions to consumption-based pricing dented its profits.

Subscriptions generate sticky recurring revenue and lock in users. But in a consumption-based model, customers only pay for the services they use.

New Relic's strategic shift was poorly timed, because many of its customers in the hospitality, travel, and leisure sectors conducted less business throughout the pandemic. Datadog, which uses a subscription-based model, was much better insulated from those headwinds.

Moreover, 20% of Datadog's customers used four or more of its products at the same time last quarter, up from just 7% a year ago -- which indicates its ecosystem is becoming stickier.

Analysts expect New Relic to post a loss this year but possibly generate a non-GAAP profit next year -- assuming the pandemic passes and its consumption-based model actually boosts its revenue per customer. They expect Datadog to remain profitable this year, and for its non-GAAP earnings to rise 6% next year.

The key takeaways

Datadog isn't a stock for queasy investors, and they shouldn't dismiss the competitive threats and its high valuation.

However, Datadog still remains cheaper than some other recent high-growth tech IPOs, and it will likely benefit from the secular expansion of the APM market -- which could grow at a compound annual growth rate of 11.2% between 2020 and 2027, according to ReportLinker.

Investors should do more homework and compare Datadog to other similar companies like Splunk and Elastic, but they shouldn't adopt a value-seeking mindset and assume New Relic is a good APM stock simply because it's cheaper relative to its annual revenue.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.