Generative artificial intelligence (AI) has been all the rage in 2023, but various AI tools (software that can automate highly redundant and repetitive tasks) have already been around for a long time. Take cloud observability, app performance monitoring, and analytics software company Dynatrace (DT 0.06%), which actually helped pioneer the idea of "cloud observability" long before investor favorites like Datadog started adopting the term.
Dynatrace recently reported another fantastic quarter, showing off its balance between growth and profitability. I believe it holds some key advantages as an investment asset over Datadog. Here's why.
NYSE: DT
Key Data Points
Growing profitably in a tough market
Dynatrace is a little-known business. However, it actually earns some top marks for its suite of cloud-based tools that help with monitoring cloud computing environments and apps. Tech researcher Gartner named it the leader in application performance monitoring, ahead of Datadog and older peers in the data analytics universe like Splunk (currently to be acquired by Cisco) and New Relic (acquired by private equity earlier this year).
Dynatrace has been at this game for a while now, and has been using AI long before this period of generative AI hype with "Davis" -- its automation tool that finds performance issues in a company's big cloud environment, and recommends and automatically makes fixes. Davis CoPilot, a chatbot extension to this tool, will be available to customers in 2024.
The software tech stack is great, and it shows up in Dynatrace's financials. It has long focused on the world's largest and most sophisticated organizations with its go-to-market strategy, which has created a slower-but-steadier growth business than younger upstarts like Datadog. But the merits of this are showing this year as the economy has slowed and spending on software has also decelerated.
Dynatrace reported a 26% year-over-year increase in revenue (24% when excluding currency exchange rate effects) in Q2 fiscal 2024 (the three months ended in September 2023) to $352 million. For the next quarter that will end at the end of December, management predicted revenue will rise as much as 21% year over year (20% excluding currency exchange rates).
By contrast, Datadog just reported 25% year-over-year growth in its latest quarter, but predicted growth will decelerate to just 17% in the final months of 2023. Suddenly Dynatrace is the faster-growing business.
Dynatrace isn't cheap, but it's cheaper than its peers
Revenue growth is just the first step in assessing this business, though. Of far more importance is profitability. And in terms of generally accepted accounting principles (GAAP) net income and free cash flow, Dynatrace has proven superior to its more popular peers. It's profitable on all counts as it has successfully struck a balance between growth and robust cash generation.
Datadog -- which rakes in far more sales than Dynatrace -- is still working on that, especially in the GAAP net income department.
Data by YCharts.
As a result of this, Dynatrace is the more "affordable" stock right now at 47 times trailing-12-month free cash flow, compared to 76 times trailing-12-month free cash flow for Datadog, as of this writing.
And one more item: After getting spun out as a publicly traded company again back in 2019 from its former private equity investor Thoma Bravo, Dynatrace has been rapidly paying off debt and now has a squeaky clean balance sheet. As of the end of September, it had $702 million in cash and short-term investments and zero debt.
It all adds up to what I believe could be a great business to own for the long term. Of course, Dynatrace's relative value to the likes of Datadog doesn't mean it's cheap. It does still carry a premium valuation. However, it has earned that premium with consistent expansion and healthy profit margins the last few years. And its positioning as a key tool set in the cloud computing industry could equate to ongoing growth for years to come. Given the premium, it's a stock for me to dollar-cost average into, which means I'll continue to add to my position over time.
