Microsoft (MSFT) vs. Datadog (DDOG) - Which Software Stock Is the Better Bet?

Market dynamics have propelled accelerated digital transformation, fostering innovative software trends. This year, the synergy of AI integration and cloud-native advancements is expected to augment software efficiency. Furthermore, the increasing demand for AI and ML is expected to cultivate cross-industry innovation.

Anticipating substantial growth in the sector, I analyzed two software stocks, Microsoft Corporation (MSFT) and Datadog, Inc. (DDOG), to identify which stock could be the better buy this year. Before delving into the featured stocks, let's examine the prevailing dynamics within the industry.

Over the past two years, organizations, compelled by market competition, expedited their digital transformation initiatives. The surge in demand for tailored online experiences prompted the creation of innovative digital products, propelling the emergence of novel software development trends as businesses adapted to evolving market dynamics.

This year, development teams will transition to integrating TuringBots into the software development lifecycle, yielding a 20-50% average productivity boost for coders. Experienced engineers could witness productivity surges exceeding 200% using genAI, enhancing the software industry's efficiency and adaptability.

Moreover, the industry stands to gain significantly as cloud-native technologies advance, prioritizing agility and simplifying IT management. The evolution is leading to reduced complexity, enhanced scalability, and improved cost-efficiency, empowering organizations with superior performance and flexibility in their software operations.

The escalating demand for AI and ML in and beyond IT is also auguring well for the software sector. The trend is revolutionizing development processes, aiding in informed decision-making, precise budgeting, rapid prototyping, thorough testing, and even programming support.

That said, Gartner (IT) forecasts a 12.7% annual surge in global software expenditure, reaching $1.03 trillion in 2024, outpacing the 6.8% growth in overall IT spending, poised to reach $5 trillion. This accentuates the pivotal role of software in driving and amplifying technological advancements within the software industry.

Concurrently, as indicated by Mordor Intelligence, the business software market size is estimated to reach $650 billion in 2024 and is expected to reach $1.10 trillion by 2029, growing at a CAGR of 11.2%. Both MSFT and DDOG are expected to capitalize on the industry’s developments.

In terms of price performance, MSFT has gained 8.7% over the past month, while DDOG climbed 4.5% during the same period. However, MSFT witnessed a 21.1% gain over the past three months, while DDOG surged 57.7% over the same duration.

Additionally, MSFT climbed 33% over the past nine months, closing the last trading session at $408.59, whereas DDOG skyrocketed 88.2% during the same period, closing the last trading session at $126.83.

But which Software - Business stock could be a better pick? Let's find out.

Recent Developments

On January 4, MSFT revolutionized Windows 11 PCs by unveiling the Copilot key, a groundbreaking addition to the Windows PC keyboard after nearly three decades. The innovation could position MSFT as a leader in technological advancement, enabling heightened user engagement and bolstering the company's competitive edge in the market.

On November 27, 2023, DDOG integrated identity, vulnerability, and app-level findings into Security Inbox, offering engineers a streamlined, actionable view to enhance security posture without added overhead. The advancements would allow DDOG to advance cloud security earlier in the software development lifecycle, empowering developers and security teams to address issues proactively.

Recent Financial Results

For the fiscal 2024 second quarter that ended December 31, 2023, MSFT’s total revenue increased 17.6% year-over-year to $62.02 billion. Its operating income rose 32.5% from the year-ago value to $27.03 billion. Additionally, the company’s net income and EPS both grew 33.2% from the prior year’s period to $21.87 billion and $2.93, respectively.

For the fiscal 2023 third quarter that ended September 30, 2023, DDOG’s non-GAAP gross profit increased 29.5% year-over-year to $450.87 million. Its non-GAAP operating income rose 74.7% from the year-ago value to $130.76 million.

However, the company’s cash outflow from investing activities widened by 644% from the prior year’s period to $191.04 million. Additionally, as of September 30, 2023, DDOG’s cash and cash equivalents amounted to $261.31 million, down from $338.99 million as of December 31, 2022.

Past and Expected Financial Performance

Over the past three years, MSFT’s revenue and EBITDA increased at a CAGR of 14.1% and 17%, respectively. Its net income and EPS grew at respective CAGRs of 17.5% and 18.5%. Moreover, the company’s tangible book value and total assets grew at a CAGR of 25.7% and 14%, respectively, over the same time frame.

The consensus revenue estimate of $60.97 billion for the fiscal 2024 third quarter ending March 2024 reflects a 15.4% year-over-year rise. Similarly, the company is expected to report an EPS of 2.61 for the quarter, reflecting a 6.5% increase from the previous year’s period.

DDOG’s revenue rose at a CAGR of 55% over the past three years. Also, its tangible book value increased at a CAGR of 16.5%. Furthermore, the company’s total assets and levered free cash flow grew at CAGRs of 25% and 88%, respectively, over the same time frame.

The consensus revenue estimate of $568.78 million for the fiscal 2023 fourth quarter that ended December 2023 reflects a 21.2% increase year-over-year. Likewise, the consensus EPS estimate of $0.44 for the same period exhibits a 68% rise from the previous year’s quarter.

Valuation

In terms of trailing-12-month non-GAAP P/E, MSFT is trading at 39.21x, 58.9% lower than DDOG, which is trading at 95.46x. Additionally, MSFT’s trailing-12-month Price/Sales of 13.96x is 32.3% lower than DDOG’s 20.61x.

Furthermore, MSFT’s trailing-12-month EV/Sales and trailing-12-month Price/Book ratio of 13.77x and 13.79x compares with DDOG’s 20.36x and 23.42x, respectively.

Thus, MSFT is more affordable.

Profitability

MSFT’s trailing-12-month revenue is 108.6 times that of what DDOG generates. Moreover, MSFT is more profitable, with a trailing-12-month EBITDA margin of 50.15% compared to DDOG’s negative 3.01%.

In addition, MSFT’s trailing-12-month cash from operations and trailing-12-month net income margin of $94.97 billion and 35.31% compares with DDOG’s $554.17 million and negative 1.72%, respectively.

Hence, MSFT is more profitable.

POWR Ratings

MSFT has an overall rating of B, which equates to Buy in our proprietary POWR Ratings system. Conversely, DDOG has an overall rating of C, translating to Neutral. The POWR Ratings are calculated considering 118 different factors, with each factor weighted to an optimal degree.

Our proprietary rating system also evaluates each stock based on eight distinct categories. MSFT has a B grade for Stability, justified by its 60-month beta of 0.88. On the contrary, DDOG has a D grade for Stability, consistent with its 60-month beta of 1.17.

Of the 43 stocks in the Software - Business industry, MSFT is ranked #12, while DDOG is ranked #21. 

Beyond what we've stated above, we have also rated both stocks for Growth, Value, Momentum, Sentiment, and Quality. Click here to view MSFT’s ratings. Get all DDOG ratings here.

The Winner

The software industry is advancing with cloud-native technologies, promising increased agility and simplified IT management. The escalating demand for AI and ML further fuels sector growth, reshaping development processes and fostering efficiency. Within this dynamic backdrop, MSFT and DDOG position themselves to benefit.

However, it seems prudent to load up shares of MSFT owing to its impressive financial performance in the last reported quarter, discounted valuation, robust profitability and better stability. Meanwhile, it could be wise to wait for an opportune entry point in DDOG.

Our research shows that the odds of success increase when one invests in stocks with an overall rating of Strong Buy. View all the top-rated stocks in the Software - Business industry here.

What To Do Next?

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MSFT shares were trading at $402.16 per share on Wednesday afternoon, down $6.43 (-1.57%). Year-to-date, MSFT has gained 6.95%, versus a 2.47% rise in the benchmark S&P 500 index during the same period.

Aanchal's passion for financial markets drives her work as an investment analyst and journalist. She earned her bachelor's degree in finance and is pursuing the CFA program. She is proficient at assessing the long-term prospects of stocks with her fundamental analysis skills. Her goal is to help investors build portfolios with sustainable returns.

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