Many investors turn to Benjamin Graham's so-called “Graham number” to calculate the fair price of a stock. The Graham number is the square root of (22.5 x earnings per share x book value per share), which for Datadog gives us a fair price of $0.96. In comparison, the stock’s market price is $74.75 per share. Therefore, Datadog’s market price exceeds the upper bound that a prudent investor would pay for its shares by 7719.9%.
The Graham number is often used in isolation, but in fact it is only one part of a check list for choosing defensive stocks that he laid out in Chapter 14 of The Intelligent Investor. The analysis also touches on the following points:
Sales Revenue Should Be No Less Than $100 million.
For Datadog, average sales revenue over the last few years has been $548,276,750.00, so according to the analysis the stock has impressive sales revenue.
Current Assets Should Be at Least Twice Current Liabilities.
We calculate Datadog's current ratio by dividing its total current assets of $1,870,948,000.00 by its total current liabilities of $528,696,000.00. Current assets refer to company assets that can be transferred into cash within one year, such as accounts receivable, inventory, and liquid financial instruments. Current liabilities, on the other hand, refer to those that will come due within one year. In Datadog’s case, current assets outweigh current liabilities by a factor of 3.5.
The Company’s Long-term Debt Should Not Exceed its Net Current Assets
This means that its ratio of debt to net current assets should be 1 or less. Since Datadog’s debt ratio is 0.5, the company has healthy debt levels. We calculate Datadog’s debt to net current assets ratio by dividing its total long term of debt of $735,482,000.00 by its current assets minus total current liabilities.
The Stock Should Have a Positive Level of Retained Earnings Over Several Years.
Datadog’s retained earnings were negative in 2018, 2019, 2019, 2020, 2020, and 2021, and averaged $-133,761,666.67 during this time. Retained earnings refer to the net income left for equity investors after all expenses have been accounted for, including dividends.
There Should Be a Record of Uninterrupted Dividend Payments Over the Last 20 Years.
Datadog has not offered any regular dividends since its IPO in 2019.
The Company Should Have a Minimum Increase of at Least One-third in Eps Over the Past 10 Years.
We only have 5 years of Eps data on the company, so it fails the Graham test on this basis alone. But we still think it's worthwhile to look at its growth over the available period. In 2017, the earnings per share was $-0.04, while in 2021, it was $-0.07. This give us a 75% growth rate during this period, which will satisfy Ben Graham's requirement if it continues on this trend.
Based on the above analysis, we can conclude that Datadog does not have the profile of a defensive stock according to Benjamin Graham's criteria because it is trading far above its fair value and has:
- impressive sales revenue
- an average current ratio
- healthy debt levels
- a poor record of retained earnings
- no dividend record
- growing earnings per share