Predictions of an economic slowdown by many pundits, especially in the backdrop of the stock market's plunge in 2022, are rattling many investors. The news cycle can be overwhelming, but smart investors patiently navigate the noise and focus on investing in high-quality businesses and long-term returns. 

Like those smart investors, smart businesses are not getting bogged down by macro factors beyond their control and are focusing on meaningful innovation and relentless execution. One company that shines on both of those fronts is Datadog (DDOG -1.43%). Here is why Datadog should be a top consideration for investors looking to add a growth stock to their portfolio. 

Innovation is in Datadog's DNA

The reliability of technological infrastructure is of top importance for businesses in today's digital world. Whether it is the London Stock Exchange trying to make sure that its customers' online stock trades are executed in a timely manner or Airbnb ensuring its platform doesn't experience any downtime, Datadog is there to help. While Datadog cannot resolve all technology issues by itself, it is good at proactively identifying potential problems and giving key insights to the right people so that those dreaded system outages can be avoided and the annoying app slowdowns can be prevented.

Image shows a potential issue in the software system that Datadog is likely to detect.

Image source: Getty Images.

Datadog's pace of product innovation is at the heart of its success, and the company reinforced that discipline with announcements of multiple new products at its Dash investor conference a few days ago. Below are four key products that were released for general availability: 

  • Cloud Security Management: The security and IT operations teams in organizations often use multiple solutions and tools to detect and resolve security issues, usually leading to an incomplete and disjointed representation of the overall risk. With this product, Datadog will create a unified view of the security threat across a company's entire cloud infrastructure. With cybersecurity and cloud transformation as top priorities for businesses, Datadog's security products will be a natural extension of the monitoring services the company offers.
  • Unified End-to-End Testing: Datadog's comprehensive test suite will simplify the overall testing process and allow speedy execution. This product is a significant development for Datadog as it allows it to expand its scope to the software engineering process, away from its traditional mainstay of monitoring in the operational environment.
  • Cloud Cost Management: More businesses are moving to the cloud, and their cloud costs are growing dramatically. With this product, customers will be able to proactively assess the costs they'll incur when they move to cloud environments. Also, Datadog already has insights into cloud resource utilization with its monitoring products and can easily detect updates to cloud costs.
  • PCI Compliance for Log Management and Application Performance Monitoring: PCI is a set of security standards that businesses must adhere to when processing credit and debit card transactions. With Datadog's PCI compliance, its customers can leverage the products in an even larger capacity.

Datadog's systematic expansion of the scope of its products is serving more and more needs of its customers.

Image shows Datadog's innovation history with a list of new products each year.

Image source: Datadog.

Datadog estimates its core observability market opportunity at a massive $62 billion, and it is positioned well to capture a larger piece of that pie.

Crisp execution translates innovation into financial results 

There is no bigger validation of Datadog's product innovation than the growing adoption of its products by its customers. 

Customers' Product Usage Q2'21 Q3'21 Q4'21 Q1'22 Q2'22
% of customers using 2+ products 75% 77% 78% 81% 79%
% of customers using 4+ products 28% 31% 33% 35% 37%
% of customers using 6+ products 6% 8% 10% 12% 14%

Source: Company earnings releases.

Datadog's number of customers paying more than $100,000 grew from 16,400 in the second quarter of 2021 to 21,200 in the second quarter of 2022. The dollar-based net retention rate -- how much more the average existing client spends from one year to the next -- has now topped 130% for 20 consecutive quarters. 

The company's scalable business model, where the new product innovation is capturing a bigger share of its customers' wallets, along with disciplined execution, has created a path for high revenue growth and improving profitability. Datadog grew its year-over-year revenue in the second quarter of 2022 by 74%, reaching $406 million, and has increased its revenue tenfold from about $100 million in 2017 to over $1 billion in 2021. Unlike many high-growth businesses, Datadog is improving its profitability and produced $60 million in free cash flow in the second quarter.

Macro factors can be distracting, but Datadog is staying focused on building on its strengths, and its discipline is showing in its numbers.

What should investors do?

It is quite possible that a slowing economy and contraction in consumer and business spending will impact Datadog's business. But with over $1.7 billion in cash and marketable securities, Datadog is in a strong position to weather the economic storms. More importantly, Datadog's excellence in product innovation and execution, along with its large market opportunity, set it up well for long-term success.

Despite currently trading lower than their three-year average price-to-sales valuation, Datadog's shares may seem somewhat expensive. And that's likely because the market demands a premium for this high-quality business. 

DDOG PS Ratio Chart.

DDOG PS Ratio data by YCharts.

A good strategy for investors could be to build a position in Datadog incrementally by buying shares in small chunks over a period of time. 

All the negative commentary in the media and the general pessimism toward markets today can be daunting for investors. But avoiding that noise and investing systematically in high-quality businesses like Datadog can unlock life-changing wealth in the long run.