Why High-Flying Software Stocks Like Datadog Are Taking a Breather

Though still up big on the year, many high-multiple software companies have been selling off over the last few days even as the S&P 500 continues rising.
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Richly-valued software stocks have been cooling off over the last few days, as investors react to some moderately disappointing earnings reports and more generally rotate into cheaper equities.

Since last Wednesday’s close, the S&P 500 is up close to 2%, and the Russell 2000 small-cap index is up about 3.5%. However, many high-growth software firms -- companies that have generally seen business hold up well since March, and whose shares have generally soared since then -- have posted meaningful losses over three trading days.

Companies that have registered large declines in the absence of major news include:

These selloffs appear to be partly tied to broader sector rotations out of high-multiple companies that have been seeing strong demand since COVID-19 lockdowns first took hold, and into low-multiple companies seen as reopening plays. However, Q2 reports shared over the last few days by companies such as Alteryx  (AYX) - Get Report, Datadog  (DDOG) - Get Report and ZoomInfo  (ZI) - Get Report also appear to be playing roles.

Alteryx, which beat Q2 estimates on Thursday afternoon but issued below-consensus Q3 and full-year guidance, is down 34% from its Thursday close. Datadog beat estimates and issued moderately above-consensus guidance on Thursday afternoon, while ZoomInfo did so on Monday afternoon. However, with pre-earnings expectations high, Datadog shares are down 15% and ZoomInfo shares are down 10% since they each reported.

All three companies -- as well as other software firms that have recently reported, such as BlackLine  (BL) - Get Report -- have cautioned that they’re still seeing macro headwinds impact deal activity. Several of them have reported seeing soft demand among SMBs and companies within “impacted” industries such as travel and hospitality, and some have also indicated that cash-preservation efforts among existing clients are affecting how much these clients expand the use of their software.

In spite of their recent declines, most of the aforementioned companies are still sporting major year-to-date gains and continue trading at very elevated forward sales and billings multiples.

Zoom Video, DocuSign, Shopify, Datadog and Zscaler are each still up more than 100% on the year (Zoom is up more than 240%), and all five companies still carry enterprise values that are equal to more than 20 times the consensus sales estimate for their next fiscal year.