Stifel analyst Brad Reback downgraded the shares of Datadog Inc (NASDAQ:DDOG) from Buy to Hold and lowered the price forecast from $165 to $140.
Recent updates suggest that Datadog has successfully secured a one-year contract renewal with OpenAI. However, sources indicate that OpenAI has implemented several strategies to optimize its use of Datadog’s services.
While this could support year-over-year growth, given the notable increase in OpenAI’s usage throughout FY24, the expected annualized value of $80 million leads the analyst to anticipate only modest growth.
Furthermore, the analyst foresees the possibility of a substantial quarter-over-quarter revenue decline in the first quarter, as the new contract terms take effect.
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This optimization by OpenAI, combined with typical pricing pressure during contract renewals and the potential for year-end customer churn, suggests that Datadog’s AWS growth will likely continue to decelerate in fourth-quarter and throughout FY25, said the analyst.
The analyst notes the company will need to significantly increase its sales and marketing (S&M) spending in the coming quarters to compensate for the modest headcount growth seen in FY23, which is essential to support future revenue expansion.
As a result, the analyst notes the current sell-side projections, which expect operating margins in FY25 to remain stable year-over-year at around 25%, may be overly optimistic.
The analyst sees the risk/reward as somewhat leaning towards the downside given the belief that first-quarter guidance could be lower than current expectations, the limited upside potential to existing FY25 revenue estimates and the potential for operating margin downside.
The analyst anticipates challenges to both revenue growth and margins throughout FY25. With the stock’s valuation being relatively high and its strong performance since the company’s early November third-quarter report, the risk-reward outlook for the stock appears less favorable in the near term.
Price Action: DDOG shares are trading lower by 5.73% at $143.18 at the last check Wednesday.
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