Posted on mongodb google news. Visit mongodb google news

MongoDB (NASDAQ:MDB), a company that runs a database under the same name, became one of the more exciting cloud investments in 2023 once investors worked out that it could be a prime beneficiary of companies’ increasing development of generative Artificial Intelligence (“AI”) applications, which require a secure, scalable database capable of quickly accessing unstructured data such as words, images, videos, emails, sounds, and social media posts. The stock is up nearly 100% year-to-date, slam dunking over other popular cloud names like Salesforce (CRM), Splunk (SPLK), Datadog (DDOG), The Trade Desk (TTD), and Snowflake (SNOW).

The company recently reported third-quarter earnings, which showed excellent revenue growth and better-than-expected profitability that beat analysts’ top and bottom-line estimates. Still, the stock dropped 11% the day after investors perused the report. MongoDB’s current valuation assumes enormous growth, and before the company reported, the stock was “priced for perfection.” Several metrics in the report made some investors question that valuation. Hence, the reason for the drop.

The market still expects scintillating growth over the next five to ten years at its current valuation. Yet, investors may still be cautious about highly valued, unprofitable early-stage companies like MongoDB because the global economy is not yet out of the woods. Inflation, wars, and persistently high-interest rates continue to threaten global growth. This article will discuss MongoDB’s long-term growth drivers, high valuation, concerns, and why investors already owning the stock should continue to hold it.

MongoDB’s long-term growth drivers

Even before generative AI appeared in late 2022, the need for companies to differentiate and develop a competitive advantage by creating proprietary software applications was already on the rise, which drove MongoDB’s growth. Anyone who has listened to enough of the company’s earnings calls and investor conferences has likely heard management discuss this topic. At an Investor Conference held in New York City, the Chief Operating Officer and Chief Financial Officer (“CFO”) of MongoDB, Michael Gordon said:

As I mentioned, the sort of critical aspect of competitive advantage is people are looking to innovate more quickly. You heard Dev mentioned that in the keynote, that’s one of the key drivers. And so, more and more [software] applications will be built and that will continue to be a tailwind for us in our business. Here, you can see the estimate from Microsoft, that more applications are built in the next five years than the last 40 years combined just to put one context or frame of reference.

Source: Investor Session at MongoDB.local NYC 2023

Several decades ago, in the world of companies buying off-the-shelf software to satisfy their needs, the C-suite inside large tech giants guided most of the decisions concerning application development, as only a small pool of individuals and companies held the technical expertise to produce software. One point of note about MongoDB’s “Developer Power” commentary on the above investor presentation is that developers gained that status through the proliferation of cloud computing, the ability to collaborate over long distances, and the increasing accessibility of development tools and resources. Today, armies of developers inside and outside large enterprises have more control over app development. As the above investor slide points out, developers today are “the real decision makers in technology,” the driving force in the rapid expansion of applications.

With the advent of low-code/no-code platforms and AI-powered assistants, the day is rapidly approaching when people without coding skills can build apps — a democratized software development reality. In such a world, MongoDB will benefit significantly. Michael Gordon also said at the New York investor session, “In addition to developers and the need for all these applications to happen, there’ll be other technological developments, where by more and more applications will be built to be a little bit of a democratization that will further accelerate the building of applications, all of which should benefit us.” The company’s third-quarter earnings release mentioned tighter collaboration with cloud players like Amazon (AMZN) and Microsoft (MSFT). In specific, the release stated:

MongoDB expanded its collaboration with cloud hyperscalers, including a new integration between MongoDB Atlas and Amazon Bedrock, which makes it easier for customers to build applications using managed foundation models with their proprietary data. In addition, MongoDB is now integrated with coding assistant tools Amazon CodeWhisperer and Microsoft Copilot to help streamline AI-powered development.

Source: MongoDB Third Quarter FY 2024 Earnings Release.

MongoDB Atlas is the company’s cloud-based database. Bedrock is an Amazon service developers can use to build generative AI applications. Amazon CodeWhisperer helps developers write code, and Microsoft Copilot is an AI-powered assistant that assists users with multiple products across Microsoft’s cloud. In addition, the earnings release briefly mentioned multiple products focused on enhancing customer’s abilities to use generative AI, including MongoDB Atlas Vector Search, which aids developers when they build real-time generative AI applications, and MongoDB Atlas Search Nodes, which are dedicated servers within the Atlas platform specifically designed to handle search within workloads with up to 60 percent faster query times (speed can be crucial in generative AI applications). So, generative AI could drive MongoDB’s revenue growth potential significantly higher, something investors figured out earlier this year — one reason they bid up the stock to considerably higher valuations.

An excellent earnings report on the surface

MongoDB turned in an excellent performance on the top and bottom lines. Revenue rose 29.77% from the previous year’s comparable quarter to $432.9 million, 7.2% higher than consensus estimates. The company also recorded a GAAP (Generally Accepted Accounting Principles) net loss per share of $0.41, beating consensus analysts’ estimates by $0.62. The chart below shows a rapid improvement in bottom-line profitability since last year and how the stock price has risen roughly in line with increased profitability and profits.

The company also raised its full-year fiscal 2024 guidance for revenue, non-GAAP operating income, and non-GAAP net income per share — a classic beat-and-raise quarter.

MongoDB ended the quarter with $1.9 billion in cash and short-term investments on the balance sheet. It had $1.1 billion in long-term debt or nearly $0.8 billion in net cash. The company has a debt-to-equity ratio of 1.23, suggesting it has a relatively low risk of defaulting on its debts and has the financial flexibility to pursue growth opportunities. It also has a quick ratio of 4.74, reflecting that the company has substantially more highly liquid assets like cash equivalents, marketable securities, and accounts receivable than current liabilities. So, investors need not worry about MongoDB’s running into financial difficulties in the short term.

Last, the company produced nearly $89 billion in trailing 12-month free cash flow (“FCF”). It looks like it might end fiscal 2024 with its first positive FCF year. Investors have likely looked favorably on the stock this year and pushed up its valuation because it has achieved positive FCF for the first time, and the metric looks like it is trending higher.

Typically, a stock goes up when a company reports a beat-and-raise quarter. However, MongoDB’s stock sank. You might ask, “Why did the stock drop?” So, let’s dig deeper into why some investors read the report and left dissatisfied.

Investors worried about its growth versus profitability

MongoDB’s third quarter calculated billings were $385.5 million, 12.8% lower than analysts’ estimates of $442.3 million. Billings is one way that analysts attempt to predict the future revenue growth of some companies. Billings are also listed as accounts receivable on the balance sheet and are vital to cash flow. Since MongoDB doesn’t directly disclose a billings metric, some analysts use calculated billings (revenue plus the quarter-over-quarter change in total deferred revenue) metric as a substitute. When the calculated billings number came in under analysts’ estimates this quarter, it implied that MongoDB would grow slower in the future, which makes investors nervous since the company’s current valuation demands superior revenue growth. Any top-line “disappointments” could make the stock price implode. So, while the third quarter’s revenue is above expectations, investors are worried about growth slowing in future quarters.

However, calculated billings can be a flawed metric, and MongoDB management doesn’t condone people using it to predict the company’s future revenue. CFO Michael Gordon said on the company’s third-quarter earnings call:

As we’ve said from the beginning. Some of those like calculated billings are deferred revenue metrics aren’t super helpful or don’t provide a ton of insight in terms of how we run the business. We’ve also talked about how over the last couple of years, one of the things we’ve been trying to do is reduce friction for the sales force. Some of that includes reducing the emphasis around upfront commitments. And so that helps accelerate you know lending new workloads and things like that and that will flow through or does flow through the financial statements as less upfront deferred and things like that. And so — but allows us to sort of synthetically cover more ground from a salesforce perspective.

Source: MongoDB Third Quarter Fiscal Year (“FY”) 2024 Earnings Call Transcript.

The above statement, in plain English, says that the company has focused on making it easier for its sales teams to close deals by requiring less upfront commitment from customers, resulting in less deferred revenue, which makes metrics like calculated billings look bad. However, in the long term, this strategy allows the salespeople to close more deals and onboard new clients faster. In the grand scheme, a lower calculated billing might not be something investors should worry about.

Another issue was that despite having an end market management described as “large and growing,” it reported 46,400 customers at the end of the quarter, an increase of 1,400 sequentially, missing analysts’ estimates of 46,870. Since customer growth is one factor driving revenue growth for a subscription-based business like MongoDB, a slowdown in customer acquisition may mean the company cannot sustain its current revenue growth trajectory.

The chart below shows that MongoDB’s operating expenses briefly outpaced its revenue in mid-2022, suggesting the company needed to get more bang for the bucks it was spending. In addition, investors reacted poorly to the resulting loss of profitability while the Federal Reserve raised interest rates. The stock dropped from over $360 in May 2022 to below $140 by the end of November 2022.

MongoDB responded by drastically slowing hiring. During the company’s fourth quarter FY 2023 earnings call, Chief Executive Officer Dev Ittycheria said:

We will significantly slow down our overall headcount growth in fiscal [2024]. We grew headcount by 30% [in FY 2023]. We expect this number to be in the single digits in FY 2024.

Source: MongoDB fourth Quarter FY 2023 Earnings Call.

Dev Ittycheria also indicated that the company intended to become more efficient across the board in Sales and Marketing (S&M), Research and Development (R&D), and General and Administrative. After the company reduced its operating expenses in relation to revenue growth, the operating margin rapidly improved, and the operating loss shrank, as seen in the chart below.

Investors drove the stock price up, believing the company had operating leverage. Michael Gordon talked about the substantial margin improvement during the year in the third quarter fiscal year (“FY”) 2024 earnings call:

Our significant margin improvement this year is primarily driven by our revenue outperformance and the fact that we didn’t increase our pace of investment as the revenue outlook improved until relatively late in the year. As a result, we achieved greater margin expansion this year than we think is desirable in the short term given the long-term market opportunity ahead of us.

Source: Third Quarter FY 2024 Earnings Call Transcript

The language above suggests that in reaction to the cyclical cloud downturn and the poor macroeconomy, MongoDB management may have cut back on operating expenses far too much in FY 2024, resulting in sub-optimal customer and revenue growth. The following chart shows how much the company slammed the brakes on S&M spending. The company likely needs to raise S&M spending at a much higher rate than 8.77% to achieve acceptable customer growth rates. The question is, how much should they increase S&M?

People might soon discover exactly how much operating leverage MongoDB has once it starts upping its spending on S&M. If it turns out that the only way the company can produce acceptable customer and revenue growth rates is by spending excessive amounts on S&M, suggesting lower operating leverage than initially thought, investors might start discounting the stock’s valuation for that infraction. On the other hand, if it turns out that management can increase S&M enough to achieve acceptable growth rates while still making progress on achieving operating profitability, it suggests the company has a sufficient degree of operating leverage. In that case, investors may continue to award the stock a premium growth valuation.

MongoDB is not growing its business in a vacuum. It has significant competition that includes NoSQL, Amazon Dynamo DB, Apache Cassandra, and HBase in the NoSQL database category, offering similar features and functionality. NoSQL databases store information in documents instead of columns and rows used by SQL databases. MongoDB describes the numerous differences between NoSQL and SQL in this article. Although MongoDB management believes that NoSQL is superior to SQL, the top four databases are the following SQL databases: Oracle (ORCL), MySQL, Microsoft SQL Server, and PostgreSQL. Although today it has a lead on its competitors, for it to continue to gain market share, MongoDB may have to spend significantly on S&M and R&D. Therefore, investors in this company face the risk that competition could reduce profitability margins below acceptable levels.

Is it a buy, sell, or hold?

MongoDB’s valuation looks poor based on many traditional valuation ratios. It sells at a price-to-sales (P/S) ratio of 17x. Although the company’s third quarter 2023 year-over-year growth rate of 30% could justify its current valuation, MongoDB has yet to achieve GAAP profitability, and only this year did it record its first quarter of positive FCF. The uncertainty of when it can produce sustained GAAP profitability may justify a lower P/S ratio.

The company’s non-GAAP forward price-to-earnings (P/E) ratio for the fiscal period ending January 2025 is 120.26 compared to an estimated non-GAAP earnings-per-share (“EPS”) year-over-year growth rate of 8.52%. The consensus forward P/E is much higher than the EPS growth rate out to 2026, according to Seeking Alpha. Since its EPS growth rate is relatively low compared to its high P/E ratio, that suggests the market may be overvaluing MongoDB’s future growth potential.

The following shows a reverse discounted cash flow model with a trailing 12-month FCF of $88.67, a terminal growth rate of 3%, and a discount rate of 10%. On December 8, 2023, the closing price of $381.79 implies FCF growing at a rate of 45.6% over the next ten years to reach $3.9 billion, which is a highly aggressive assumption when MongoDB is still proving its business model can consistently produce positive cash flow and profits. The market potentially overvalues the stock.

MongoDB Reverse DCF

Click to enlarge

MongoDB’s intrinsic stock value is $215.35 when I assume FCF will grow at 37%. I used a 37% growth rate as analysts expect non-GAAP EPS to grow from $2.93 at a CAGR (Compound Annual Growth Rate) of 36.54% to $48.34 in 2033, and I assume FCF will roughly grow in line with its EPS growth rate.

MongoDB DCF

Click to enlarge

According to the above calculations, at $215.35, MongoDB is 44% overvalued. If you are risk-averse or a value investor, it may be best to avoid this stock. Even aggressive growth investors should be cautious about buying at current prices. There may be better points to buy the company over the next year. However, if you already own shares, the potential upside from generative AI is worth continuing to hold the stock for the long term. I rate the stock a Hold.

Article originally posted on mongodb google news. Visit mongodb google news