Confluent (NASDAQ:CFLT) Exceeds Q2 Expectations, Stock Jumps 11.2%

Full Report / August 02, 2023

Data infrastructure software company, Confluent (NASDAQ:CFLT) announced better-than-expected results in Q2 FY2023, with revenue up 35.8% year on year to $189.3 million. The company also expects next quarter's revenue to be around $194.5 million, roughly in line with analysts' estimates. Confluent made a GAAP loss of $103.4 million, improving from its loss of $117.6 million in the same quarter last year.

Confluent (CFLT) Q2 FY2023 Highlights:

  • Revenue: $189.3 million vs analyst estimates of $182.4 million (3.75% beat)
  • EPS (non-GAAP): $0 vs analyst estimates of -$0.06 ($0.06 beat)
  • Revenue Guidance for Q3 2023 is $194.5 million at the midpoint, roughly in line with what analysts were expecting
  • The company reconfirmed revenue guidance for the full year of $769.5 million at the midpoint
  • Free Cash Flow was -$35.2 million compared to -$82.9 million in the previous quarter
  • Customers: 1,144 customers paying more than $100,000 annually
  • Gross Margin (GAAP): 69.4%, up from 64.6% in the same quarter last year

Started in 2014 by the team of engineers at LinkedIn who originally built it as an internal tool, Confluent (NASDAQ:CFLT) provides infrastructure software for organizations that makes it easy and fast to collect and move large amounts of data between different systems.

More and more data is being collected, a trend driven by both cheaper storage and more users, applications and systems being online. Most companies are capturing data about every single visit, click, input or a transaction made in their app or on their website, and some go even deeper. But as they accumulate more and more data, companies are confronted with the reality that gathering the data on its own isn’t really creating any value, and that it needs to be moved, processed and analyzed to be useful.

Confluent takes a massively popular open source data infrastructure software called Kafka, and provides it as a paid managed service. Kafka acts as a central transportation hub for the data, ingesting it from different sources (websites, mobile apps) and distributing it to all of the destinations it needs to get to (like analytical tools, databases, billing systems). The advantage of Kafka is that it moves the data in real time, which is becoming increasingly important, but is complex to implement and maintain which is where Confluent sees their opportunity.

Generating insights from system level data is an increasing priority for most businesses, but to do so requires connecting and analyzing piles of data stored and siloed in separate databases. This is the demand driver for cloud based data infrastructure software providers, who can more readily integrate, distribute and process information vs. legacy on-premise software providers.

Competitors in the data management space include Snowflake (NYSE:SNOW) as well as the services provided by cloud vendors such as Amazon (NASDAQ:AMZN), Microsoft (NASDAQ:MSFT), and Google Cloud (owned by Alphabet (NASDAQ:GOOGL) (NASDAQ:GOOG)). Confluent also competes with the self-managed, free version of Apache Kafka, the open-source software from which it was derived.

Sales Growth

As you can see below, Confluent's revenue growth has been over the last two years, growing from $88.3 million in Q2 FY2021 to $189.3 million this quarter.

Confluent Total Revenue

Unsurprisingly, this was another great quarter for Confluent with revenue up 35.8% year on year. On top of that, its revenue increased $15 million quarter on quarter, a very strong improvement from the $5.64 million increase in Q1 2023. This is a sign of acceleration of growth and great to see.

Next quarter's guidance suggests that Confluent is expecting revenue to grow 28.2% year on year to $194.5 million, slowing down from the 47.9% year-on-year increase it recorded in the same quarter last year. Ahead of the earnings results announcement, the analysts covering the company were expecting sales to grow 26.2% over the next 12 months.

Large Customers Growth

This quarter, Confluent reported 1,144 enterprise customers paying more than $100,000 annually, an increase of 69 from the previous quarter. That's a bit fewer contract wins than last quarter but quite a bit above what we've typically seen over the last 12 months, suggesting that its sales momentum is healthy but softening after a tough comp quarter from last year.

Confluent customers paying more than $100,000 annually


What makes the software as a service business so attractive is that once the software is developed, it typically shouldn't cost much to provide it as an ongoing service to customers. Confluent's gross profit margin, an important metric measuring how much money there's left after paying for servers, licenses, technical support, and other necessary running expenses, was 69.4% in Q2.

Confluent Gross Margin (GAAP)

That means that for every $1 in revenue the company had $0.69 left to spend on developing new products, sales and marketing, and general administrative overhead. While its gross margin has improved significantly since the previous quarter, Confluent's gross margin is still poor for a SaaS business. It's vital that the company continues to improve this key metric.

Cash Is King

If you've followed StockStory for a while, you know that we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can't use accounting profits to pay the bills. Confluent burned through $35.2 million of cash in Q2 , in line with last year.

Confluent Free Cash Flow

Confluent has burned through $194.5 million of cash over the last 12 months, resulting in a negative 28.6% free cash flow margin. This low FCF margin stems from Confluent's poor unit economics or a constant need to reinvest in its business to stay competitive.

Key Takeaways from Confluent's Q2 Results

Although Confluent, which has a market capitalization of $9.83 billion, has been burning cash over the last 12 months, its more than $1.85 billion in cash on hand gives it the flexibility to continue prioritizing growth over profitability.

We enjoyed seeing Confluent beat on quarterly revenue as well as RPO (remaining performance obligations, a leading indicator of revenue). The company also meaningfully beat on non-GAAP operating profit and improved its gross margin this quarter. Forward guidance was also bullish, with next quarter and the the full year non-GAAP operating profit guidance particularly impressive vs. Wall Street expectations. On the other hand, there was a slight slowdown in new large contract wins. Zooming out, we think this was still a good quarter, showing that the company is staying on track. The stock is up 11.2% after reporting and currently trades at $34.48 per share.

Is Now The Time?

When considering an investment in Confluent, investors should take into account its valuation and business qualities as well as what's happened in the latest quarter. We cheer for everyone who's making the lives of others easier through technology but in case of Confluent, we'll be cheering from the sidelines. Its revenue growth has been exceptional, though we don't expect it to maintain historical growth rates. Unfortunately, its customer acquisition is less efficient than many comparable companies and its growth is coming at a cost of significant cash burn.

Given its price to sales ratio based on the next 12 months is 10.7x, Confluent is priced with expectations of a long-term growth, and there's no doubt it's a bit of a market darling, at least for some. While we have no doubt one can find things to like about the company, and the price is not completely unreasonable, we think that at the moment there might be better opportunities in the market.

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