Elastic (ESTC)

Search software company Elastic (NYSE:ESTC) reported revenue ahead of Wall Street’s expectations in Q1 CY2025, with sales up 16% year on year to $388.4 million. The company expects next quarter’s revenue to be around $397 million, close to analysts’ estimates. Its non-GAAP profit of $0.47 per share was 25.9% above analysts’ consensus estimates.

Company Overview

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.

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.

Reviewing a company’s long-term sales performance reveals insights into its quality. Any business can experience short-term success, but top-performing ones enjoy sustained growth for years. Over the last three years, Elastic grew its sales at a 19.8% compounded annual growth rate. Although this growth is acceptable on an absolute basis, it fell slightly short of our standards for the software sector, which enjoys a number of secular tailwinds.

This quarter, Elastic reported year-on-year revenue growth of 16%, and its $388.4 million of revenue exceeded Wall Street’s estimates by 2.1%. Company management is currently guiding for a 14.3% year-on-year increase in sales next quarter.

Looking further ahead, sell-side analysts expect revenue to grow 13.2% over the next 12 months, a deceleration versus the last three years. Still, this projection is commendable and indicates the market is baking in success for its products and services.

Billings is a non-GAAP metric that is often called “cash revenue” because it shows how much money the company has collected from customers in a certain period. This is different from revenue, which must be recognized in pieces over the length of a contract.

Elastic’s billings punched in at $518.4 million in Q1, and over the last four quarters, its growth was solid as it averaged 15.6% year-on-year increases. This performance aligned with its total sales growth, indicating robust customer demand. The cash collected from customers also enhances liquidity and provides a solid foundation for future investments and growth.

Elastic reported 21,500 customers at the end of the quarter, a sequential increase of 150. That’s a little better than last quarter and a fair bit above the typical growth we’ve seen over the previous year. Shareholders should take this as an indication that Elastic’s go-to-market strategy is working well.

The customer acquisition cost (CAC) payback period measures the months a company needs to recoup the money spent on acquiring a new customer. This metric helps assess how quickly a business can break even on its sales and marketing investments.

It’s relatively expensive for Elastic to acquire new customers as its CAC payback period checked in at 53.6 months this quarter. The company’s slow recovery of its sales and marketing expenses indicates it operates in a highly competitive market and must invest to stand out, even if the return on that investment is low.

One of the best parts about the software-as-a-service business model (and a reason why they trade at high valuation multiples) is that customers typically spend more on a company’s products and services over time.

Elastic’s net revenue retention rate, a key performance metric measuring how much money existing customers from a year ago are spending today, was 112% in Q1. This means Elastic would’ve grown its revenue by 12% even if it didn’t win any new customers over the last 12 months.

Elastic has a good net retention rate, proving that customers are satisfied with its software and getting more value from it over time, which is always great to see.

For software companies like Elastic, gross profit tells us how much money remains after paying for the base cost of products and services (typically servers, licenses, and certain personnel). These costs are usually low as a percentage of revenue, explaining why software is more lucrative than other sectors.

Elastic’s gross margin is good for a software business and points to its solid unit economics, competitive products and services, and lack of meaningful pricing pressure. As you can see below, it averaged an impressive 74.5% gross margin over the last year. Said differently, Elastic paid its providers $25.53 for every $100 in revenue.

Elastic produced a 74.8% gross profit margin in Q1, in line with the same quarter last year. On a wider time horizon, the company’s full-year margin has remained steady over the past four quarters, suggesting its input costs have been stable and it isn’t under pressure to lower prices.

Elastic’s expensive cost structure has contributed to an average operating margin of negative 3.7% over the last year. Unprofitable software companies require extra attention because they spend heaps of money to capture market share. As seen in its historically underwhelming revenue performance, this strategy hasn’t worked so far, and it’s unclear what would happen if Elastic reeled back its investments. Wall Street seems to be optimistic about its growth, but we have some doubts.

Over the last year, Elastic’s expanding sales gave it operating leverage as its margin rose by 6.5 percentage points. Still, it will take much more for the company to reach long-term profitability.

This quarter, Elastic generated a negative 3.1% operating margin. The company's consistent lack of profits raise a flag.

Free cash flow isn't a prominently featured metric in company financials and earnings releases, but we think it's telling because it accounts for all operating and capital expenses, making it tough to manipulate. Cash is king.

Elastic has shown impressive cash profitability, driven by its attractive business model that gives it the option to reinvest or return capital to investors. The company’s free cash flow margin averaged 17.7% over the last year, better than the broader software sector. The divergence from its underwhelming operating margin stems from the add-back of non-cash charges like depreciation and stock-based compensation. GAAP operating profit expenses these line items, but free cash flow does not.

Elastic’s free cash flow clocked in at $84.86 million in Q1, equivalent to a 21.8% margin. This result was good as its margin was 3.9 percentage points higher than in the same quarter last year, but we wouldn’t put too much weight on the short term because investment needs can be seasonal, causing temporary swings. Long-term trends are more important.

Over the next year, analysts predict Elastic’s cash conversion will slightly fall. Their consensus estimates imply its free cash flow margin of 17.7% for the last 12 months will decrease to 17%.

Companies with more cash than debt have lower bankruptcy risk.

Elastic is a well-capitalized company with $1.40 billion of cash and $595 million of debt on its balance sheet. This $802.2 million net cash position is 8.3% of its market cap and gives it the freedom to borrow money, return capital to shareholders, or invest in growth initiatives. Leverage is not an issue here.

We were impressed by Elastic’s strong growth in customers this quarter. We were also glad its full-year EPS guidance trumped Wall Street’s estimates. On the other hand, its full-year revenue guidance slightly missed and its revenue guidance for next year suggests a slowdown in demand. Overall, this print was mixed. The market seemed to be hoping for more, and the stock traded down 11.1% to $81.75 immediately after reporting.

Updated: June 12, 2025 at 10:09 PM EDT

The latest quarterly earnings matters, sure, but we actually think longer-term fundamentals and valuation matter more. Investors should consider all these pieces before deciding whether or not to invest in Elastic.

Elastic has some positive attributes, but it isn’t one of our picks. Although its revenue growth was mediocre over the last three years and analysts expect growth to slow over the next 12 months, its expanding operating margin shows it’s becoming more efficient at building and selling its software. Investors should still be cautious, however, as Elastic’s forecasted free cash flow margin suggests the company will ramp up its investments next year.

Elastic’s price-to-sales ratio based on the next 12 months is 5.3x. This valuation is reasonable, but the company’s shakier fundamentals present too much downside risk. We're pretty confident there are more exciting stocks to buy at the moment.

Wall Street analysts have a consensus one-year price target of $111.59 on the company (compared to the current share price of $81.83).