Datadog's (DDOG -1.02%) observability and security platforms have seen widespread adoption as the company rapidly gains users of all sizes. Its platform gives businesses the ability to effectively manage their cloud applications and ensure they are running smoothly, and the need for this functionality has only been growing as more consumers adopt cloud-based applications. With this tailwind at its back, Datadog has been able to increase its revenue from $100 million in 2017 to $1 billion in 2021.
The bull case for Datadog was clear in its fourth quarter results -- revenue and net income knocked the socks off analysts' estimates. The company also posted its first GAAP profitable quarter since 2020, along with a major improvement in its customer relationships. All this, combined with continued product innovation, makes me confident Datadog will be able to capitalize on its fast-growing market, which is why it's one of my favorite tech stocks right now by a long shot.
Customers love Datadog
Datadog reported $326 million of revenue in its fourth quarter -- up 84% year over year -- driven by large customers expanding their relationships and adopting more of Datadog's offerings. In the year-ago period, only 22% of customers used four or more products, but that figure jumped to 33% most recently.
This has resulted in customers spending more with Datadog too. The number of customers with annual recurring revenue of at least $100,000 grew 63% year over year to 2,010, while customers spending $1 million or more jumped 114% to 216. This highlights how sticky Datadog's platform is to its customers.
This customer relationship expansion has been incredibly profitable for the company. Increases in user engagement represent almost pure profit, so when revenue growth is driven this way, Datadog's profitability improves. The company reported its first GAAP-profitable quarter since Q2 2020, and while it was unprofitable for the year, this should not be a major concern. Datadog is a free-cash-flow machine, generating $251 million in 2021 compared to $83 million the previous year.
Rapid innovation and product expansion
Datadog is a leader in this space, according to Gartner's Magic Quadrant, and with 18,800 customers, it certainly has the opportunity to continue growing its customer relationships. Datadog's land-and-expand strategy relies on continuous innovation and new product rollouts, but that is common for the company.
Last quarter, Datadog introduced a new product, Sensitive Data Scanner, which allows customers to easily identify, classify, and protect any sensitive data they might have. When handling such data, meeting regulatory requirements is key, and Datadog's tool helps its customers remain compliant.
The company also made a small acquisition to add to its product portfolio. CoScreen allows developers to collaborate in real time to respond to security incidents, find bugs in software, and program. In other words, CoScreen can allow engineers and developers to work on projects simultaneously -- something that can't always be done in the programming world. Datadog did not disclose how much it paid for this acquisition, but it could become a core tool in Datadog's product lineup that helps attract more customers and brings them deeper into the product ecosystem.
The company also announced it was granted Federal Risk and Authorization Management Program (FedRAMP) authorization, meaning it can now sell its products to U.S. government agencies and the public sector at large. Very often, government contracts can be large and long-standing, which opens a massive (and profitable) new customer base for Datadog.
Where the company is going
Datadog does face competition in the space from companies like Dynatrace and Splunk, but it has one trait that the competition doesn't: It's cloud-native. While competitors have historically focused on on-premise services, Datadog has been a cloud-focused company, and this has allowed customers to easily access and adopt products faster than competitors have seen.
Its addressable market is large and growing quickly. Management estimates its opportunity will be worth $53 billion by 2025, and if the company continues expanding its product offering in security and work collaboration, it will likely be much bigger than that. Datadog's major competitive advantages and large market opportunity naturally command a high premium, but I think it is worth paying up for. The company is currently valued at 52 times sales -- a nosebleed valuation -- but no competitor is seeing the same top-line growth and customer expansion that Datadog enjoys. As the leader in its industry, this company is one of the best tech stocks to buy today, despite its high valuation.