SentinelOne had an excellent report minus the fiscal year guide of 50%. The market is likely digesting this, as are we.
The price action on SentinelOne was muted although there were some notable positives from the report. Key items discussed included the company becoming free cash flow positive next year (calendar year 2023) and profitable on an adjusted basis by the following year CY2024. The company beat sizably on adjusted margins.
With that said, the market is digesting lower cloud growth rates across the board, and although SentinelOne has maintained excellent growth this quarter and for next quarter’s guide, the next fiscal year guide is likely what’s causing the flat price action.
The guide at this time is for a baseline of 50% growth, marking a deceleration from 105% growth this year. This technically is a miss from the FY2024 analyst expectations of 64% growth, although “baseline” is vague and the company could meet the original expectations in time.
Other than this, the company beat across the board.
Q3 Financials & Key Metrics
SentinelOne beat on revenue with $115 million reported for growth of 106%. This was a 7% beat.
For next quarter, the company did not budge on guidance, which is likely weighing on the report.
The guide of $125 million met analyst expectations of $124.5 million, yet the market typically wants to see a stronger guide if the current quarter provides a beat.
This shows you how picky the market is becoming as fiscal Q4 guide is 92% which puts SentinelOne at the top of the cloud category as most cloud stocks are guiding for a 30% to 50% deceleration in growth rate, while SentinelOne is guiding for a 10% deceleration.
The company slightly raised full year guidance to $420.5 million for growth of 105%, up from 103.3%.
SentinelOne reported in line with EPS at ($0.35) and beat on adjusted EPS at ($0.16) versus ($0.22).
Gross margins came in as expected with 64% GAAP GM and 71% adjusted GM.
The positive surprise was the adjusted operating margin of (43%) compared to (57%) expected. This compares to (69%) in the year ago quarter. GAAP operating margin of (90%) reflects the high stock based compensation at 40% of revenue. This results in GAAP operating losses of ($104M) and adjusted GAAP operating losses of ($49.5M).
The company reported free cash flow of ($64.7M) and has $1.2 billion on the balance sheet.
Key Metrics:
Net new ARR was in the spotlight because of Crowdstrike which we covered here. SentinelOne reported net new ARR of $49 million compared to the guide for “mid-$50 million.” The company stated the miss was largely due to deals closing in Q4 that normally would have closed in Q3. To back this up, the company is guiding for 20% sequential growth. Crowdstrike guided for a YoY and QoQ decline.
“To be clear, we expect Q4 net new ARR to increase by at least 20% sequentially compared to the third quarter. We believe this is a prudent view and reflects a continuation of the macro headwinds we experienced in Q3, yet we are in a position to deliver a seasonally strong end of the year.”
ARR growth slowed to 106% down from 122% last quarter for $487.4 million. Customers over $100K grew 100% to 827 total, down from 117% last quarter. Total customers grew 55% down from 60% last quarter for 9,250 total customers.
As you’ve likely noticed, ARR tracks very closely to revenue for this company. Management provided a 50% growth rate for ARR next year, which translates to 50% revenue growth.
“Based on a prudent view of the current economic environment and expectations of further macro deceleration, we believe we will deliver at least 50% total ARR growth in fiscal year 2024.”
As noted above, 50% is lower than what analysts had for fiscal year 2024. This is one comment an analyst made:
“Alex Henderson
Great. Thank you so much. You gave a guide — preliminary guide, I guess, is the right way to say it for FY 2024, 50% ARR growth. The question I have for you is really without giving a forecast, can you give us some sense of the way you are thinking about the OpEx spend in that environment, will you still produce at a 50% type growth rate, the same or a similar degree of leverage or do you think the leverage becomes a little bit more muted as a result of the slower growth before the reacceleration?
Dave Bernhardt
We think that the ARR, let’s call it, tentative guidance for next year is really a floor. When I think about it, we believe it’s conservative. We are looking at it as something we can build from. In terms of our OpEx spend, we have always said and you have definitely seen this over the past couple of quarters where we beat by 17% and 14% in terms of operating margins. A lot of our spend is highly elective and we will invest when it makes sense and we will pull back when it doesn’t.”
Additional Notes:
The company provided bold comments regarding profitability and free cash flow, and essentially moved the target up by a year to become FCF positive by the end of next calendar year and adjusted profitability the following year after that (CY2024).
“We are on track to exit fiscal year 2023 with two quarters of about 25 percentage points at the year-over-year operating margin improvement. Continuing this progress forward, we expect another 25 points of operating margin improvement in fiscal year 2024 and our goal is to achieve profitability in fiscal year 2025.”
Here was the question on FCF:
Hamza Fodderwala:
“And then secondly, for Dave, you mentioned, operating profitability in fiscal 2024. I just want to be clear, is that for the full year of fiscal 2024 and would you expect free cash flow breakeven to proceed that by about four quarters? Thank you very much.”
Dave Bernhardt:
“And Hamza, to answer your second question, we have talked about timing of free cash flow, in creating free positive cash flow. We are still expecting that to happen at the end of next fiscal year and then what we are hoping for and really working to achieve is how to get breakeven in fiscal year 2025. So the following year. So we do expect free cash flow to hit before profitability and then those two will be much more mapped together.”
Conclusion:
You’ve probably seen by now that our cloud holdings are being reduced. The thought process around reducing exposure has been outlined going into Q3 when we’ve said a few times the market is nervous that enterprise spend/budgets will be the other shoe to drop. If this is true (I’m a messenger here), then we are at the beginning and not the end of a softer cloud market as Q3 marks the beginning of this new phase of economic slowdown (with phase one being the consumer).
For example, I said here:
“I also want to be a messenger and say that another reason we are seeing strong price activity is that analysts are concerned that enterprise spend will be the next shoe to drop. This concern was expressed across quite a few cloud companies’ earnings calls. The thinking is that enterprise spend will follow consumer spend, (eventually), yet is slower because budgets are cut more slowly and added back more slowly.”
Most of this will become evident when next year’s budgets are transparently disclosed with cloud’s full year guidance. Right now, if we are being real with ourselves, the Q4 guides are shockingly low. What the cloud category is guiding down on growth rates between Q3 and Q4 used to take a year or two (for example, a growth rate decel of 67% to 40% for SNOW or 47% to 26% for MDB — or choose any others, it’s rampant). This level of decel used to take a year or longer and we are now getting a 30% to 50% decel sequentially.
The market is probably due for a bounce (not my department) so we will likely reduce our exposure carefully. Despite what the market does in the near term, the predominant growth trend in cloud — from what I’m seeing – is down. As a category, cloud is providing the biggest decel it’s ever gone through. So, that’s important to not lose sight of.
What does this mean for next fiscal year and will there be a further decel given what we’ve seen from Q4 enterprise budgets?
Of course, we believe companies like SentinelOne, MongoDB, Snowflake, etc, will be around for the next 10 years. But if the trend is down and the growth rates are being slashed, a real recovery in this category will not be on the table until this is reversed.
A Member said on the forum the other day, sometimes it’s better to leave the 20% off the bottom on the table to improve timing on returns. I agree with this because cloud could need the better part of next year to recover and we can easily get back in (knowing that we will be leaving some money on the table).
This discussion is separate from how we go about this as the market has been deep in the red last three days so there may be a better opportunity to reduce exposure than right now.