Cloudflare Earnings: Firm Puts Doubts on Execution to Rest With a Strong Comeback

We are maintaining our $60 fair value estimate for narrow-moat Cloudflare NET after the firm reported a strong quarter with results and guidance roughly in line with our above-consensus estimates. The quarter’s results represent a substantial turnaround especially when held in contrast against the last quarter when Cloudflare highlighted sales execution challenges hampering financials and guidance. We had previously noted our belief that these near-term personnel challenges would be resolved, and that their impact would dissipate over time. Once again, we reiterate our confidence in Cloudflare’s market opportunity that remains ahead of the firm, irrespective of quarter-to-quarter fluctuations caused by macroeconomic/idiosyncratic challenges.

We view the remarkable 70% run-up in the stock price following the last earnings report as evidence that investors also turned a page, looking past Cloudflare’s near-term challenges and recalibrating toward the firm’s opportunity in the cybersecurity space. With shares up more than 9% after hours, we think that the market is accurately valuing Cloudflare’s business, and we see the shares trading in the 3-star range.

Cloudflare’s top line clocked in at $308 million, up 32% year over year and marginally ahead of our above-consensus $307 million estimate. The firm saw robust growth in the United States and Europe. While the firm’s net retention fell 200 basis points sequentially to 115%, management sees the net retention deceleration as bottoming out, an assertion we agree with as we model increased existing user spend on the firm’s solutions in the upcoming quarters as demand conditions normalize.

Management revised its outlook for fiscal 2023 upward and now expects sales for the full year to be around $1,285 million (up from $1,282 previously). Management also expects adjusted EPS to be roughly $0.37 for fiscal 2023, up from $0.35 in the previous quarter’s guidance. We view both updated targets as attainable for the firm.