This software stock ‘should benefit big from AI’ says Bank of America

Bank of America analysts came out defending one software name, which stock fell in recent weeks.

Datadog (NASDAQ:) reported financial results for the fiscal Q1 2024 that beat Wall Street expectations.

The observability and security firm reported a first-quarter net income of $42.6 million, or 12 cents per share, compared to a net loss of $24.1 million, or 8 cents per share, a year ago.

On an adjusted basis, Datadog earned 44 cents per share, surpassing the FactSet consensus of 34 cents.

Revenue climbed to $611 million, marking a 27% increase from the previous year, while analysts had forecasted $590 million.

Still, the company’s shares tumbled more than 10% after the print.

“We learned that 1Q24 revenue growth of 27% y/y was not enough to be catalyst higher. However, there is much to like in the results that supports our longer-term bullish thesis,” Bank of America analysts commented.

“For one, remaining performance obligations (RPO), a good indicator of long-term customer commitments, increased 52% y/y. This along with big deal commentary, suggest Datadog stands to benefit from artificial intelligence (AI) and digital transformations over the long-term,” they added.

However, BofA cautions that the risk/reward scenario might remain balanced until the company transitions from “should benefit from AI” to “really benefiting from AI.”

The bank said the most notable surprise of the report was that Datadog’s net-new annual recurring revenue (ARR) was the highest since Q4 2021.

This is particularly significant given that ARR is considered one of the most reliable forward-looking growth metrics in software.

Analysts estimate that Datadog’s ARR grew by 27% year-over-year, accelerating from a 24% growth rate previously. They anticipate that ARR growth will continue to surpass the infrastructure peer average of 15% in the medium term.

“Some may fixate on why AI as a % of total ARR is not growing faster (this metric is mostly gen AI native companies, like OpenAI),” Bank of America analysts commented.

“However, the true AI growth driver for Datadog will be when non-AI native companies deploy AI applications as scale,” they continued.

Currently, most generative AI workloads are related to training and proof-of-concept activities. As AI applications are deployed and inference workloads expand, Datadog stands to gain, BofA’s team said.

Analysts reiterated a Neutral rating on DDOG and trimmed their 12-month price target from $144 to $143.

For Q2, Datadog projects revenue between $620 million and $624 million, with adjusted earnings per share ranging from 34 to 36 cents. Analysts tracked by FactSet had estimated revenue of $617 million and adjusted EPS of 34 cents.