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Confluent (NASDAQ:CFLT) Delivers Impressive Q3, Provides Optimistic Guidance For Next Quarter


Full Report / November 04, 2021
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Data infrastructure software company, Confluent (NASDAQ:CFLT) announced better-than-expected results in the Q3 FY2021 quarter, with revenue up 66.7% year on year to $102.5 million. Guidance for next quarter's revenue was surprisingly good, being $109 million at the midpoint, 14.6% above what analysts were expecting. Confluent made a GAAP loss of $95.6 million, improving on its loss of $138.1 million, in the same quarter last year.

Confluent (CFLT) Q3 FY2021 Highlights:

  • Revenue: $102.5 million vs analyst estimates of $90.7 million (13% beat)
  • EPS (non-GAAP): -$0.17 vs analyst estimates of -$0.23
  • Revenue guidance for Q4 2021 is $109 million at the midpoint, above analyst estimates of $95 million
  • Free cash flow was negative $20.6 thousand, compared to negative free cash flow of -$45.42 million in previous quarter
  • Customers: 664 customers paying more than $100,000 annually
  • Gross Margin (GAAP): 63.6%, down from 69% 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.

Businesses have a growing need to access data and insights generated by their systems in real time. In order to achieve that they need to connect the piles of data stored and siloed in separate databases and that drives demand for software infrastructure that can connect, integrate and distribute data fast.

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 incredible over the last year, growing from quarterly revenue of $61.4 million, to $102.5 million.

Confluent Total Revenue

This was another standout quarter with the revenue up a splendid 66.7% year on year. On top of that, revenue increased $14.2 million quarter on quarter, a very strong improvement on the $11.3 million increase in Q2 2021, and a sign of re-acceleration of growth, which is very nice to see indeed.

Analysts covering the company are expecting the revenues to grow 28.8% over the next twelve months, although estimates are likely to change post earnings.

Large Customers Growth

You can see below that at the end of the quarter Confluent reported 664 enterprise customers paying more than $100,000 annually, an increase of 47 on last quarter. That is a bit less contract wins than last quarter but about the same as what we have typically seen over the last year, suggesting that the company still has decent sales momentum, even if this was a weaker quarter.

Confluent customers paying more than $100,000 annually

Profitability

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 is left after paying for servers, licenses, technical support and other necessary running expenses was at 63.6% in Q3.

Confluent Gross Margin (GAAP)

That means that for every $1 in revenue the company had $0.63 left to spend on developing new products, marketing & sales and the general administrative overhead. This would be considered a low gross margin for a SaaS company and it has dropped significantly from the previous quarter, which is probably the opposite of what shareholders would like it to do.

Key Takeaways from Confluent's Q3 Results

Since it has still been burning cash over the last twelve months it is worth keeping an eye on Confluent’s balance sheet, but we note that with a market capitalization of $19.9 billion and more than $1.03 billion in cash, the company has the capacity to continue to prioritize growth over profitability.

We were impressed by how strongly Confluent outperformed analysts’ revenue expectations this quarter. And we were also excited to see the really strong revenue growth. On the other hand, it was less good to see the pretty significant deterioration in gross margin and there was a slowdown in new contract wins. Zooming out, we think this impressive quarter should have shareholders feeling very positive. The company is up 0.93% on the results and currently trades at $74.30 per share.

Is Now The Time?

Confluent may have had a good quarter, but investors should also consider its valuation and business qualities, when assessing the investment opportunity. We cheer for everyone who is making the lives of others easier through technology, but in case of Confluent we will be cheering from the sidelines. Its revenue growth has been exceptional, though we don't expect it to maintain historical growth rates. Unfortunately, its growth is coming at a cost of significant cash burn, and its gross margins show its business model is much less lucrative than the best software businesses.

Given its price to sales ratio based on the next twelve months is 44.0x, Confluent is priced with expectations of a long-term growth, and there's no doubt it is a bit of a market darling, at least for some.

The Wall St analysts covering the company had a one year price target of $59.30 per share right before these results, implying that they didn't see much short-term potential in the Confluent.

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