GenAI And Serverless Expansion Will Drive Future Success

Key Takeaways

• Elastic's focus on GenAI and search innovations could boost future revenues in AI-driven workflows and enhance customer adoption and sales efficiency.
  
• Strategic initiatives in serverless cloud capabilities and security solutions may lead to improved margins and profitability, supported by experienced financial leadership.
  
• A focus on high-value clients and serverless transition may slow growth and introduce margin variability amid sales execution and currency challenges.

Catalysts

A search artificial intelligence (AI) company, delivers hosted and managed solutions designed to run in hybrid, public or private clouds, and multi-cloud environments in the United States and internationally.

• Elastic's focus on generative AI (GenAI) applications and enabling search innovations, like Retrieval Augmented Generation (RAG), positions them as a key player in new AI-driven workflows, likely boosting future revenues as this sector grows.
  
• The company’s strategic changes in field segmentation and renewed focus on enterprise and high-potential mid-market customers have improved sales execution, hinting at potential revenue and earnings growth from increased customer commitments and better sales efficiency.
  
• Elastic's introduction of serverless capabilities in Elastic Cloud offers scalability and reduced management burden, potentially driving future revenue growth and improved gross margins by increasing cloud resource efficiency.
  
• The push towards helping customers consolidate workloads onto their platform using advancements in logs and security, like Logsdb index mode and GenAI-driven security solutions, could lead to increased customer adoption and potentially higher net margins and revenue.
  
• The appointment of a new CFO with experience in scaling technology companies could lead to strategic financial planning and operational efficiencies, potentially enhancing profitability and earnings consistency moving forward.

Elastic Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Elastic's revenue will grow by 13.1% annually over the next 3 years.
• Analysts assume that profit margins will increase from -7.3% today to 6.3% in 3 years time.
• Analysts expect earnings to reach $136.0 million (and earnings per share of $0.75) by about August 2028, up from $-108.1 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 115.1x on those 2028 earnings, up from -75.8x today. This future PE is greater than the current PE for the US Software industry at 35.0x.
• Analysts expect the number of shares outstanding to grow by 2.71% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.11%, as per the Simply Wall St company report.

Elastic Future Earnings Per Share Growth

Risks

• The implementation of field segmentation changes led to unanticipated sales execution issues in Q1, which could introduce a risk of uneven sales performance and potentially impact revenue consistency.
  
• The renewed focus on high-value enterprise and mid-market customers means potentially slower overall customer growth, possibly affecting total revenue growth metrics despite having larger average deal sizes.
  
• Fluctuating currency impacts, particularly the recent strength of the U.S. dollar, are expected to create headwinds for revenue in Q4, indicative of broader financial exposure to forex variability.
  
• The transition to serverless solutions, while offering long-term benefits, may take time to reflect in financials, potentially introducing short-term gross margin variability or increased costs during the transition phase.
  
• Concerns around the flat growth in self-service and SMB segment revenue raise questions about Elastic's ability to capture growth opportunities in smaller markets, which could impact diversified revenue streams.

Valuation

• The analysts have a consensus price target of $108.654 for Elastic based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $143.0, and the most bearish reporting a price target of just $75.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be $2.1 billion, earnings will come to $136.0 million, and it would be trading on a PE ratio of 115.1x, assuming you use a discount rate of 8.1%.
• Given the current share price of $77.58, the analyst price target of $108.65 is 28.6% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.