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Okta’s Latest (OKTA)

January 23, 2023 / poffringa

Okta has undergone a lot of change over the last two years. In 2020, the company was considered the leading independent provider of IAM (Identity and Access Management) services, enjoying great brand recognition and rapid growth. They had achieved strong penetration in the workforce identity space and were tracking to extend their reach into customer identity. Okta had labelled their product category as the Identity Cloud and attributed an estimated TAM of $55B (which they have further increased to $80B). They were well positioned to consolidate this new market segment around solutions to manage identity for both enterprise organizations and application developers.

In March 2021, Okta announced the acquisition of competitor Auth0. I found this a bit surprising, as I had assumed Okta could expand into the application identity space organically, as an extension of the Identity Cloud. Rather than building the customer identity capability internally, Okta leadership decided to acquire it for $6.5B in OKTA stock. To be fair, Okta’s product opportunity in customer identity was nascent and needed to establish appeal with developers. Acquiring Auth0 provided immediate access to a superior product offering and a community of developers. More importantly, the acquisition potentially short-circuited a competitive threat. Other larger platforms (like Salesforce and Oracle) were rumored to be looking at acquiring an identity solution as well. Okta was simply preempting their move.

Auth0 will operate as an independent business unit inside of Okta, and both platforms will be supported, invested in, and integrated over time — becoming more compelling together. As a result, organizations will have greater choice in selecting the identity solution for their unique needs. Okta and Auth0’s comprehensive, complementary identity platforms are robust enough to serve the world’s largest organizations and flexible enough to address every identity use case, regardless of the audience or user.
Okta Press release, march 2021

Following the acquisition, the Okta leadership team decided to keep the two platforms separate, with the intention to integrate them over time. This translated into separate organizations, which operated independently for more than a year. Combining the sales teams began in 2022, but experienced challenges, culminating in the announcement of Q2 FY2023 results in August 2022. As it became clear that the whole acquisition and integration process had been poorly managed, the market began losing confidence in Okta leadership. This blame has increasingly fallen on Okta CEO and co-founder Todd McKinnon.

Confluent (CFLT) – A Big Data Play

January 15, 2023 / poffringa

Confluent stock recently bounced off its 52 week low, yet still trades under the closing price from 2022. This is in spite of posting strong results in their Q3 report in early November, which drove an 11% after-hours pop. More broadly, Confluent is part of a basket of companies that provide enterprises with software infrastructure and services to power their digital experiences. Entering 2023, we see pressure on this basket, associated with concerns around the durability of growth. This effect, along with lingering headwinds from the path of interest rates and macro volatility, has ratcheted down expectations for the software infrastructure basket.

As we consider the possibility of these macro headwinds starting to abate in 2023, growth investors have the opportunity to shift into stock picking mode. The goal is to identify companies that have the potential to outperform muted growth projections for 2023, stemming from an expectation for lower IT investment after a surge of cloud spending over the last two years. While some areas of enterprise IT investment will likely moderate, I think other functions could see a re-acceleration of demand as we exit this year.

Harnessing data to drive efficiencies in enterprise operations, supply chain management and curated customer experiences is one that I see as ripe for further investment. While every consumer-facing business has an app at this point (long couched as “digital transformation”), I am looking forward to the next wave of growth where businesses must instrument every corner of their operations and leverage the data collected to improve efficiency, lower cost and drive competitive advantage. Let’s call this data transformation. New capabilities in IoT, real-time streaming, parallel processing and data mining are converging. Advanced AI models are facilitating algorithms that can automate decision making and produce better work products. Labor shortages will reward businesses that can streamline more of their daily operations and lower cost.

Occupying a critical step in this emerging data-enabled business paradigm is Confluent. With the leading platform for data streaming, Confluent is well positioned to capitalize on the shift from uni-directional consumer and business interactions to multi-directional coordination between all participants (humans and devices) in an industry ecosystem. As the majority of data creation shifts from human activity to device activity, data volumes will explode, requiring better systems to distribute it from many producers to many consumers.

In this post, I will examine some of the emerging trends in harnessing a data-driven economy, how Confluent fits into that and the business opportunities available. I will then review how Confluent has executed against this backdrop and whether it represents the best way for investors to capitalize on this second wave of data (not digital) transformation.

Elastic’s Ambitious Growth Plan

January 3, 2023 / poffringa

I haven’t written about Elastic since late 2020. I held a position in 2020, but shifted my allocation to Datadog in 2021. At that point, it was becoming clear that Datadog was emerging as a leader in the observability space. While I still maintain a large portfolio allocation to Datadog, Elastic may provide a favorable return over the next two years, if they can execute on their aggressive growth plan and FY2025 financial targets.

At their Analyst Day in September, the leadership team set an ambitious growth target for $2B in revenue by FY2025. As we are halfway through Elastic’s FY2023, this represents roughly a 2x increase in revenue within 2.5 years. When the leadership team presented the model for this target, they projected a revenue CAGR of 36% to reach it. That would be an acceleration from the current growth rate in the low 30% range.

Additionally, this target comes with profitability improvements, anticipating a couple percentage points of growth each year for adjusted operating and FCF margins, over their roughly break-even state at the time. As ESTC stock appears reasonably valued with a P/S ratio just below 5, these targets might allow for a positive return over the next 2-3 years.

Of course, the macro environment and softer IT spend could hamstring these plans. Elastic’s most recent quarterly report for Q2 FY2023 issued a month after the Analyst Day made these targets appear more challenging. Yet, the leadership team didn’t reset them. Given their exceptionally high net expansion rates for large customers and particularly among new Elastic Cloud users, they might just get close.

MongoDB (MDB) Q3 FY2023 Earnings Review

December 26, 2022 / poffringa

In Q3, MongoDB reversed a number of the trends that hampered their Q2 earnings report. They delivered a strong beat on revenue growth, a return to positive operating margin and a nice bump in customer activity. The market reacted as positively to the Q3 report as it did negatively for Q2, pushing the stock up 23% the following day. Since then, MDB stock has appreciated further and now hovers around $200 a share. This is still below the $241 close the day after the Q2 report, but is well above the 52 week low of $135 touched before Q3 earnings.

While the trends turned back in a positive direction in Q3, the broader macro environment may still pressure growth for the next couple of quarters. Atlas sequential and annual revenue growth were the lowest in the last two years. Much of the revenue outperformance for Q3 was attributed to strong growth in EA license revenue. Nonetheless, these results were much better than expected coming out of Q2. Adding to the upside momentum, MongoDB resumed its path to profitability, with positive operating income and improved gross margin.

For the long term, I still think MongoDB is well-positioned to participate meaningfully in the secular trends of data growth and platform consolidation. Going into the second half of 2023, year over year comparisons become easier and the current investment in S&M will drive further growth. The inflection to sustained positive operating margin should provide support for the valuation multiple. MongoDB’s competitive position is defensible, as industry analysts rank it above comparable alternate solutions in features and capabilities. While the hyperscalers offer competitive products, the depth of MongoDB’s collaboration and partnership agreements with each is actually increasing, providing an additional tailwind to growth.

Fastly (FSLY) – Watching for a Turn Around

December 18, 2022 / poffringa

As I work through analysis of recent earnings reports for the companies currently in my portfolio, I also like to check back on progress for companies that I had owned previously. In each case, I had a reason to own the stock, based on their product portfolio, growth potential and alignment with broader trends in software infrastructure. However, every thesis does not play out as expected and subsequent missteps in company execution can lead me to downsize or exit a position until the company appears poised for growth again.

Fastly (FSLY) is one such stock. I had owned FSLY during its COVID driven surge in 2020, enjoying price appreciation from the $20 range in May 2020 to break $100 by August. After some disappointing earnings reports later in 2020, I began reducing my position in increments around $80-$90 and closed it in early 2021. The stock continued to underperform in 2021, dropping below $10 in 2022. While software infrastructure stocks in general have lagged in 2022 due to macro effects, FSLY began its slide in 2021. Yet, peers were hitting all-time highs.

Snowflake (SNOW) Q3 FY2023 Earnings Review

December 10, 2022 / poffringa

Snowflake reported their Q3 FY2023 earning results on November 30th. The company beat revenue estimates, delivering 67% annual growth. The Q4 product revenue guide, however, missed expectations by about 2%, with annual growth decelerating to 49%. Initially, the market’s reaction was unfavorable, as the stock dropped by over 10% after hours. At the tail end of the guidance portion of the call, however, management shared a preliminary outlook for next year (FY 2024) for 47% revenue growth with 23% FCF margin. While the revenue guide was roughly inline, the implied FCF target was higher than analysts had modeled. SNOW’s stock price immediately began rising and ended the following day up 8%.

This movement underscores the situation for many software infrastructure providers currently. While investors have become attuned to the impact of the pressured IT spending environment, they are trying to see past the current macro headwinds. Coming off the Covid-inspired spending surge, macro is obfuscating post-Covid growth deceleration. Investors need to discern which companies would have maintained elevated growth for the next couple of years, separate from the broader impact of macro. Identifying the companies with real durable revenue and FCF growth could drive investment outperformance.

By effectively setting their baseline for next year’s revenue growth rate linear to the Q4 guide and increasing the FCF target, Snowflake is signaling that their growth rates are sustainable. Since a big part of the Snowflake valuation thesis hinges on the durability of revenue growth towards the $10B target by FY2029 (six years out), this guidance signals that target is achievable. Additionally, that can be accomplished with a significant increase in free cash flow, quickly approaching their 25% long term target.

A Potential Silver Lining from Recent Tech Layoffs

December 1, 2022 / poffringa

We have all seen the headlines of large technology companies announcing layoffs or hiring freezes recently. Facebook released 11,000 employees earlier in November. Amazon laid off about 10,000 employees and has instituted a hiring freeze in its AWS division. Google introduced a brief hiring freeze in August and has slowed incremental hiring since then, lowering the number of open positions significantly. Even SaaS stalwart Salesforce reduced staff by several hundred employees. And long time networking leader Cisco is cutting 5% of its workforce or 1,500 employees.

Technology companies outside of Silicon Valley have been impacted as well. Stripe laid off 14% of its workforce, affecting about 1,120 out of 8,000 total. They attributed the reason to being overly optimistic about the Internet economy’s near term growth. Their CEO emphasized the need to improve operational efficiencies and to reduce coordination costs across the organization. This posture extended to other companies in the once hot FinTech space, with Brex cutting 11% of its workforce and Chime reducing by 12%. Real estate platforms have been affected as well. Opendoor laid off 18% of its workforce or about 550 employees, while Redfin laid off 13% or 862 employees.

Datadog (DDOG) Q3 2022 Earnings Review

November 25, 2022 / poffringa

Datadog’s Q3 earnings report was well-received by the market, with the stock popping as much as 9% after the release. Considering the macro backdrop and their outperformance during 2021, I thought the results were favorable. Datadog is maintaining its rapid cadence of launching new products and cross-selling them into existing customers, supporting its elevated DBNRR. The growth rates of customers with multiple product subscriptions have been reliably intact, implying little competitive infringement either from incumbent providers or new start-ups.

Datadog continues to consolidate customer spend onto its multi-product platform. Their flywheel of outsized R&D investment generates more products to cross-sell into existing customers, creating a widening competitive moat of rapid innovation. The frictionless adoption model provides significant efficiencies for the sales team, allowing them to focus on new customer lands. With 80% of incremental revenue each quarter coming from existing customers expanding their spend, Datadog can maintain a higher allocation to R&D than competitors. This creates more products to sell, and the flywheel spins on.

In this post, I will review growth metrics, profitability and customer activity from the Q3 report. I’ll then tie that back to Datadog’s product strategy and their competitive position. Investors new to Datadog can catch up on the narrative through my prior coverage. Additionally, our partners at Cestrian Capital Research provided a review of Datadog’s quarter, with detailed financials and technical analysis. Interested readers can check out that coverage for another point of view, as they consider an investment in DDOG.

Take-aways from Snowflake Snowday

November 19, 2022 / poffringa

Snowflake held a Snowday event on November 7th in San Francisco, as part of its Data Cloud World Tour. Similar to prior Snowdays, the Snowflake team used the occasion to showcase new product innovations and to interact with customers. During the event, they made a number of product announcements and program updates. The product team emphasized that these were not just a rehash of announcements made during the Summit conference in June, reinforcing the fact that Snowflake has been continuing to innovate on its platform.

Cloudflare (NET) Q3 2022 Earnings Review

November 12, 2022 / poffringa

Expectations for Cloudflare’s Q3 2022 report were high, particularly following their strong Q2 earnings. As macro headwinds weighed on the quarter’s performance, NET sold off following the report. While I don’t see anything troubling in the results within the context of the flagging IT demand environment, the market’s reaction is understandable given uncertainties going forward. Downward pressure on NET was exacerbated by a general sell-off in software companies, following underperformance from SaaS mainstays like Atlassian.

In this post, I will cover the highlights from Cloudflare’s Q3 results, focusing on growth drivers, profitability measures, customer activity and product highlights. I will tie this commentary back to the general thesis for investment in Cloudflare, concluding that the broader story hasn’t changed. Additionally, our partners over at Cestrian Capital Research recently published a review of the earnings report, including financials and technical analysis. Interested readers can check out that coverage for another point of view, as they consider an investment in NET.

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