Short-term stock price movements are nothing but noise, yet human emotion means we can’t help but check our portfolios every five minutes during market open. You’d think mainstream pundits would discourage such behavior, but they do anything but. Just look at this gem from Jim Cramer several days ago (our emphasis in bold).
A year ago, Cramer said investors were willing to pay up for Okta’s strong revenue growth even as the company remained unprofitable. However, now money managers are reacting to high inflation readings and preparing for likely interest rate hikes from the Federal Reserve, Cramer said.
Cramer said that shift helps explain why Okta shares are down 4% over the past five days, while Deere is up 6.2% in that same stretch.
Attributing significance to a +2.2% difference between two stocks over five days is why Cramer makes the big bucks. It’s also why people with a modicum of intelligence are getting increasingly turned off by mainstream financial pundits who ascribe credibility to this drivel.
Investing in quality companies with a lengthy time horizon means you’ll be well suited to weather market turmoil and sleep well at night in the process. Today, we’re going to talk about a company that provides a pick-and-shovel play on the metaverse – Confluent Inc (CFLT) – with their event streaming platform that analyzes data in motion providing insights at the speed of business. If you’re a venture capitalist, this is the sort of business you dream about backing.
- September 2014: Confluent founded by Jay Kreps, Jun Rao, and Neha Narkhede
- December 2017: First customer over $1.0 million in ARR
- April 2019: Exceeded $100 million in ARR
- March 2020: Exceeded 1,000 customers
- March 2021: Exceeded 2,500 customers
About Confluent Stock
To come up to speed on this story, you’ll first need to read our piece on the success of Apache Kafka, a platform that processes and analyzes streaming data in real-time. Then, you’ll want to read our piece on Investing in The Metaverse with Event Streaming which talks about how all the data exhaust from the enterprise metaverse will need to be analyzed rapidly for insights. Confluent’s platform processes data in real-time while crossing over several technology segments such that Gartner hasn’t been able to classify them in any particular Magic Quadrant. Here’s how Confluent describes their competitive position in event streaming.Credit: Kai Waehner
Our belief is that Confluent’s opensource pedigree gives them the upper hand when it comes to selling their event streaming solution. Today, we’re going to look at some metrics that can be used to measure the health of their SaaS business.Credit: Confluent
How Confluent Makes Money
We can start by dividing Confluent’s “data in motion” offering into two parts:
- Confluent Platform – an enterprise-ready, self-managed software offering that can be deployed in on-premise, private cloud, or public cloud environments. Subscriptions primarily have one-year terms.
- Confluent Cloud – a fully-managed, cloud-native software-as-a–service (SaaS) offering available on all leading cloud providers. Pay-as-you-go, or under a usage-based minimum commitment contract of at least one year. Majority is usage-based.
The below metrics from Confluent’s latest 10-Q provide insights into how the business makes money and the segments they’re dabbling in. Just over a third of revenues come from outside the United States, and their recent introduction of a cloud platform is experiencing strong growth, now representing over a quarter of revenues.Credit: Confluent
Confluent describes their primary competition, especially for on-premise, as “internal IT teams that develop data infrastructure software using open source software, including Apache Kafka.” Any CTO making a build vs. buy decision will always lean towards buy, especially when the solution is widely respected by the industry. “Nobody ever got fired for buying IBM” as the old saying goes. Confluent’s competitors in the cloud are the well-established public cloud providers that compete in all their markets. This highlights the importance of our belief that developers will opt to purchase solutions from the creators of opensource Apache Kafka versus one of the evil empires such as Microsoft, Google, or Amazon.
Another important assumption we’re making is that Confluent’s solution isn’t a “nice to have” once it’s been implemented. Real-time data insights are used for rapid decision making, and those needs don’t evaporate in times of economic turmoil. Consequently, we’re less concerned about the shorter contract durations of one year or the pay-as-you-go billing option which encourages new customers to kick the tires without any commitment. Whether subscription growth comes from the cloud or on-premise implementations doesn’t seem to matter much either since developers who utilize the platform will adopt it in the manner in which they see fit. Monitoring the growth of subscription revenues going forward seems sufficient, and that growth has been consistently steady over time.
If revenue growth starts slowing, we can then dig into the underlying segments to look for the cause. Inevitably this will happen, the market will panic, and there will be a decent buying opportunity as a result.
The usual SaaS metrics should also be monitored for Confluent. Of their +3,000 customers, 644 were paying over $100,000 in annual run rate (ARR) as of Q3-2021, up from 449 in Q3-2020. Around 74 customers are paying more than $1 million in ARR with net retention (the ability to upsell existing customers) sitting at around 130%. Users of this industry-agnostic data solution include 136 of the Fortune 500 companies who contribute approximately 35% of revenues.Some notable reference customers – Credit: Confluent
A strong stable of reference customers makes selling an enterprise software solution to new customers much easier.
Should You Buy Confluent Stock?
We can’t tell you what to do with your money because we don’t give financial advice. We can tell you we went long Confluent when shares dipped below a simple valuation ratio of 40. (Nanalyze Premium annual members were the first to know.) Confluent shares didn’t stay there for long, but as they dip, we’ll slowly continue adding. Here’s where the valuation ratio sits today.
- Market capitalization / annualized revenues
17,750 / 410 = 43
A reader recently asked why we chose the number 40 as our cutoff. We chose 40 because it’s a round number that’s easy to remember and – based on our experience so far – seems to be right around that point when stocks seem to be more hype than substance. Another reader suggested that we might adjust the number as time goes on based on our sentiments towards the market which is also an interesting idea. Regardless of what number you use, having a cutoff number is what’s important because it keeps you from investing in overpriced stories. Also note that this rule incidentally keeps us from investing in companies with no revenues as well.
As mentioned before, the Confluent IPO somehow slipped past our monitoring process otherwise we might have invested in CFLT stock sooner. Companies like Snowflake are just too overvalued, so we’ve been on the hunt for a way to play the growth of big data exhaust, particularly as enterprises look to turn their businesses into digital twins that live in the enterprise metaverse.
Confluent represents an opportunity to play the big data theme without paying exorbitant valuations for companies like Snowflake. Given how widely used Apache Kafka is, and the allegiance that developers often have towards opensource solutions, we would expect that Confluence will have an easier time closing deals and retaining customers over time. Revenue growth is a proxy for market share captured and that’s the metric we’re paying the most attention to right now.
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