Confluent: Strong Q3 Sets The Stage For A Festive Quarter

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Confluent’s Q3 earnings highlight its efficient growth with 25% revenue growth, record non-GAAP operating margin, and record free cash flow.Confluent is witnessing consumption stabilization among its ...

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Just_Super  In August, I initiated my coverage on Confluent, Inc. (NASDAQ:CFLT) with a buy rating on its dip following Q2 earnings’ conservative guidance in light of the company’s growth potential in the data streaming market and its consumption revenue model. My expectations were true, as the stock is up almost 25% since then after beating analyst estimates for revenues and EPS, highlighting the strength of its core offering.   Seeking Alpha With that in mind, I believe Confluent’s results and management’s commentary make it likely that the company will have another strong quarter in Q4, despite their guidance for Q4 subscription revenue implying slower sequential growth than historical patterns. I believe that’s the case due to the upcoming holiday season, which has historically contributed to a surge in demand for the company’s data streaming products. It is for these reasons that I’m reiterating my buy rating for Confluent and maintaining my long-term price target of $237 by 2032, implying 794% upside from current levels. Q3 Overview In Q3, Confluent reported 25% YoY growth in total revenues to $250.2 million, mainly due to subscription revenue growing 27% over the same period to $239.9 million. The company’s subscription revenue was driven by a 42% YoY increase in cloud revenue to $129.8 million and a 13% YoY increase in platform revenue to $110.1 million. The rapid growth of Confluent’s cloud revenue led this segment to represent 56% of subscription revenue compared to 48% in the prior year. Considering the higher margins of cloud revenue, Confluent reported a gross margin of 74.5% compared to 71.8% a year ago. Confluent’s top-line growth is mainly driven by the strong momentum its business is seeing which, in my opinion, could be attributed to its consumption revenue model. During Q3, the company’s total customer count increased 16% YoY to reach 5680. With that in mind, customers with an ARR greater than $100 thousand grew 14% YoY to 1346 compared to 1185, and customers with an ARR greater than $1 million grew 19% YoY to 184 compared to 155.           Q3 24 Q3 23 Change   Total Customers 5680 4910 16%   Customers >$100K ARR 1346 1185 14%   Customers >$1M ARR 184 155 19%   Click to enlarge While Confluent’s NRR in Q3 came slightly lower than Q2 at 117% compared to 118%, this is a sign of NRR stabilizing in the short-term, with the potential to increase in the medium and long-term. I believe that’s the case due to the nature of customers added during Q3 which included a top 3 US airline company, a Fortune 50 carmaker, and a leading lifestyle retailer among others. Given the size of these new customers, it’s likely they could increase their spending as they use more Confluent products in the future. From a cost standpoint, Confluent continued to show better cost efficiency during Q3. The company’s R&D costs increased 12.6% YoY to $102.7 million, sales and marketing costs increased 7.3% YoY to $138 million, and G&A costs increased 23.8% YoY to $39.4 million. Despite the increase in costs, Confluent’s revenue growth meant that these costs as a percentage of revenue were lower than the prior year as the following table shows.       GAAP Basis  Item Q3 24 Q3 23   Revenue $250,199,000 $200,181,000   R&D $102,720,000 $91,237,000   % of Revenue 41.1% 45.6%   S&M $137,968,000 $128,624,000   % of Revenue 55.1% 64.3%   G&A $39,471,000 $31,874,000   % of Revenue 15.8% 15.9%   Click to enlarge Meanwhile, these costs represented the following percentage of revenues on a non-GAAP basis.       Non-GAAP Basis  Item Q3 24 Q3 23   Revenue $250,199,000 $200,181,000   R&D $54,591,000 $48,932,000   % of Revenue 21.8% 24.4%   S&M $104,329,000 $94,453,000   % of Revenue 41.7% 47.2%   G&A $23,703,000 $20,393,000   % of Revenue 9.5% 10.2%   Click to enlarge In light of this, Confluent’s operating margin improved to -37.4% compared to -54.3% in the prior year on a GAAP basis. On a non-GAAP basis, however, Confluent’s operating margin was a record high 6.3% compared to -5.5% a year ago. Accordingly, the company reported a record adjusted net income of $34.7 million, or an adjusted EPS of $0.11. Confluent’s record-breaking quarter also saw it report a record operating cash flow of $15.6 million, allowing it to generate record free cash flow of $9.3 million at an FCF margin of 3.7%. These figures are substantial improvements from the same year-ago period where the company reported operating cash outflow of $9 million and free cash outflow of $13 million, demonstrating the company’s efficient growth. In terms of liquidity, Confluent exited Q3 with cash, equivalents, and marketable securities worth $1.86 billion and a debt balance of $1.1 billion, meaning that it has a net cash position of nearly $757 million. This is extremely promising for the company as it can use its strong liquidity profile to explore additional growth opportunities, similar to its recent acquisition of WarpStream last September. Looking forward, Confluent is guiding Q4 subscription revenue between $245-246 million, non-GAAP operating margin of around 2%, and non-GAAP EPS of $0.05. For the full-year, the company expects subscription revenue between $916.5-917.5 million, non-GAAP operating margin of around 2%, and non-GAAP EPS of $0.25. That said, I believe Confluent’s guidance is conservative and expect the company to beat these expectations, as I will discuss below. Potential Record Revenues In Q4 In the Q3 earnings call, Confluent’s management stated that it saw consumption stabilization among its digital native customers, a trend that continued in early Q4. This is in contrast to management’s language in the Q2 earnings call where they warned about lumpiness among digital native customers, which has caused the stock’s plunge post Q2 earnings. A reason for the consumption stabilization among this customer cohort is that these customers are implementing new use cases and adopting Confluent’s Data Streaming Platform’s (DSP) products, Connect, Governance, and Stream Processing. Per the Q3 earnings call, 19 of Confluent’s top 20 cloud customers have adopted at least 1 DSP product and 13 have adopted all 3 DSP products. This is especially promising for the company since customers using more than 1 product have a significantly higher NRR profile than its reported 117%. In my opinion, this factor could be a main driver for the company exceeding its Q4 guidance, given the seasonal surge in demand for data streaming in Q4. As is, the TrendSpider chart below shows that Confluent historically generates more revenue in Q4 compared to other quarters.   TrendSpider The main factor contributing to the increased demand for Confluent’s data streaming products during Q4 is the holiday season. During this period, consumer demand is at its peak which creates a need for businesses to handle the increased traffic, sales, and customer interactions. Accordingly, Confluent’s data streaming products could help these businesses manage this surge in data by providing real-time insights into customer behavior, inventory levels, and sales trends. In my latest article covering Alarum (ALAR), I shared that the upcoming holiday season could see record demand as consumers are expected to increase their spending by 8% compared to last year. This forecasted growth in holiday season spending is expected to be driven by increased traffic in both in-store and online channels. This could be beneficial for Confluent, as its platform can help retailers connect their physical and online stores to track their inventory in real time. In this way, retailers could keep their inventory information instantly updated, meaning that if they show a product as “in stock” on their online stores, customers can feel confident that the product is available. With that in mind, one of Confluent’s customers is leading retailer Walmart (WMT) which always benefits from online holiday sales. This means that, in Q4, Walmart is very likely to increase its usage of Confluent’s platform to track its inventory levels and ensure that they are always up-to-date in order to increase its sales. Considering Confluent’s consumption revenue model, the increased usage for its platform during the holiday season can help it exceed management’s revenue guidance for Q4. Risks As mentioned in my previous coverage, the main risk to my bullish thesis on Confluent is any potential growth slowdown in the coming years. As is, Confluent is considered a high-growth company and is valued based on future expectations. Therefore, if the company fails to meet growth expectations due to competition or failing to attract new customers, its stock price could decline substantially. Conclusion  In summary, I remain bullish on Confluent following its Q3 earnings. The company is demonstrating efficient growth with revenues growing 25% YoY, non-GAAP operating margin at a record 6.3%, and free cash flow at a record $9.3 million at a 3.7% margin. Moreover, I expect Confluent to exceed management’s guidance for Q4 due to the impact of the upcoming holiday season, which has historically resulted in a surge in demand for Confluent’s products. Given that the upcoming holiday season is expected to see record demand, Confluent is well-positioned to benefit from the expected increase in data streaming needs thanks to its consumption revenue model. In light of these factors, I’m reiterating my buy rating for Confluent and maintaining my long-term price target of $237 by 2032, representing 794% upside from current levels.","kind":null,"is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"1","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.1","shortVersion":"4.29.1","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2482726810"}