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Elastic (NYSE:ESTC) Beats Q4 Sales Targets But Stock Drops


Full Report / June 24, 2022
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Search software company Elastic (NYSE:ESTC) reported Q4 FY2022 results that beat analyst expectations, with revenue up 34.7% year on year to $239.3 million. The company expects that next quarter's revenue would be around $245 million, which is the midpoint of the guidance range. That was in roughly line with analyst expectations. Elastic made a GAAP loss of $65.6 million, down on its loss of $43.3 million, in the same quarter last year.

Elastic (ESTC) Q4 FY2022 Highlights:

  • Revenue: $239.3 million vs analyst estimates of $232.3 million (3% beat)
  • EPS (non-GAAP): -$0.16 vs analyst estimates of -$0.21
  • Revenue guidance for Q1 2023 is $245 million at the midpoint, above analyst estimates of $243.4 million
  • Management's revenue guidance for upcoming financial year 2023 is $1.08 billion at the midpoint, in line with analyst expectations and predicting 25.5% growth (vs 42.3% in FY2022)
  • Free cash flow was negative $5.25 million, down from positive free cash flow of $3.3 million in previous quarter
  • Net Revenue Retention Rate: 130%, in line with previous quarter
  • Customers: 18,600, up from 17,900 in previous quarter
  • Gross Margin (GAAP): 71.8%, down from 74.2% same quarter last year

Started by Shay Banon as a search engine for his wife's growing list of recipes at Le Cordon Bleu cooking school in Paris, Elastic (NYSE:ESTC) helps companies integrate search into their products and monitor their cloud infrastructure.

Building your own search engine is hard and even the biggest companies want to focus their energy elsewhere. Elastic offers a set of software products that ingest and store data from any source, in any format, and perform search, machine learning, and analysis.

For example Uber is using Elastic to power the systems that locate nearby riders and drivers, eBay is using it to help users find what they want to buy and Facebook is using it to power search in their help centre. Elastic is one of the companies that have been benefiting from the growth of the overall internet economy and has lately started expanding the use of their data processing technology from enterprise search into cloud-infrastructure monitoring and network security monitoring products.

Elastic’s business model is based on a combination of open source and proprietary software and the company uses the open-source part to power their distribution strategy. It is really easy to start using Elastic and developers can download limited versions of the software straight away for free, without speaking to any salespeople. Over time, if the software proves itself and the need for it expands inside an organization, it is easy to upgrade to a paid license.

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.

Elastic competes in a segment that includes companies such as Yext (NYSE:YEXT), Lucidworks, and Splunk (NASDAQ:SPLK).

Sales Growth

As you can see below, Elastic's revenue growth has been impressive over the last year, growing from quarterly revenue of $177.6 million, to $239.3 million.

Elastic Total Revenue

And unsurprisingly, this was another great quarter for Elastic with revenue up 34.7% year on year. But the growth did slow down a little compared to last quarter, as Elastic increased revenue by $15.4 million in Q4, compared to $17.9 million revenue add in Q3 2022. We'd like to see revenue increase by a greater amount each quarter, but a one-off fluctuation is usually not concerning.

Guidance for the next quarter indicates Elastic is expecting revenue to grow 26.8% year on year to $245 million, slowing down from the 49.8% year-over-year increase in revenue the company had recorded in the same quarter last year. For the upcoming financial year management expects revenue to be $1.08 billion at the midpoint, growing 25.5% compared to 42.3% increase in FY2022.

Customer Growth

You can see below that Elastic reported 18,600 customers at the end of the quarter, an increase of 700 on last quarter. That is a little slower customer growth than what we are used to seeing lately, suggesting that the customer acquisition momentum is slowing a little bit.

Elastic Customers

Product Success

One of the best things about software as a service businesses (and a reason why they trade at such high multiples) is that customers tend to spend more with the company over time.

Elastic Net Revenue Retention Rate

Elastic's net revenue retention rate, an important measure of how much customers from a year ago were spending at the end of the quarter, was at 130% in Q4. That means even if they didn't win any new customers, Elastic would have grown its revenue 30% year on year. That is a great retention rate and a clear proof of a great product. We can see that Elastic's customers are very satisfied with their software and are using it more and more over time.

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. Elastic'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 71.8% in Q4.

Elastic Gross Margin (GAAP)

That means that for every $1 in revenue the company had $0.71 left to spend on developing new products, marketing & sales and the general administrative overhead. Despite it going down over the last year, this is still around the lower average of what we typically see in SaaS businesses. Gross margin has a major impact on a company’s ability to invest in developing new products and sales & marketing, which may ultimately determine the winner in a competitive market so it is important to track.

Cash Is King

If you follow StockStory for a while, you know that we put an emphasis on cash flow. Why, you ask? We believe that in the end cash is king, as you can't use accounting profits to pay the bills. Elastic burned through $5.25 million in Q4, increasing the cash burn by 71.5% year on year.

Elastic Free Cash Flow

Elastic has burned through $1.74 million in cash over the last twelve months, resulting in a negative 0.2% free cash flow margin. This below average FCF margin is a result of Elastic's need to invest in the business to continue penetrating its market.

Key Takeaways from Elastic's Q4 Results

With a market capitalization of $5.76 billion Elastic is among smaller companies, but its more than $860.9 million in cash and the fact it is operating close to free cash flow break-even put it in a robust financial position to invest in growth.

It was good to see Elastic deliver strong revenue growth this quarter. And we were also excited to see that it outperformed analysts' revenue expectations. On the other hand, the revenue guidance for next year indicates a significant slowdown and there was a slowdown in customer growth. Overall, this quarter's results could have been better. The company currently trades at $72.6 per share.

Is Now The Time?

When considering Elastic, investors should take into account its valuation and business qualities, as well as what happened in the latest quarter. We think Elastic is a solid business. We would expect growth rates to moderate from here, but its revenue growth has been impressive, over the last two years. And on top of that, its customers are increasing their spending quite quickly, suggesting that they love the product.

Elastic's price to sales ratio based on the next twelve months is 5.4x, suggesting that the market is expecting more steady growth, relative to the hottest tech stocks. There are definitely things to like about Elastic and looking at the tech landscape right now, it seems that the company trades at a pretty interesting price point.

The Wall St analysts covering the company had a one year price target of $122.9 per share right before these results, implying that they saw upside in buying Elastic even in the short term.

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