Small Market And Intense Competition Should Drive Investors Away From AppDynamics IPO

  • APM unicorn AppDynamics is rumored to go public in 2016.
  • AppDynamics is growing its market share rapidly, but it is one of the smallest companies in the tiny APM niche.
  • The growth potential in the long run in the APM market is limited.
  • Investors should avoid AppDynamics and choose another big data firm if they want to join the growing industry.

The software developer AppDynamics is expected to go public in 2016, joining many other software companies that specialize in particular niches of the big data industry. Gartner analyst Doug Laney coined the term big data in a 2001 research report that referred to data sets so large and complex that regular analysis tools could not handle them. There are many small niches within the big data industry for the collection, storage, and analysis, and leverage of enormous amounts of data. AppDynamics is competing in the application performance management (‘APM’) segment of the big data market with tech giants like Microsoft (NASDAQ:MSFT), Hewlett Packard Enterprises (NYSE:HPE), CA (NASDAQ:CA), and many others such as pure-play big data companies like Splunk (NASDAQ:SPLK), New Relic (NYSE:NEWR), BMC Software, and Riverbed.

The APM niche offers enterprises unique intelligence on their applications by analyzing and monitoring customer behavior and using the results of these studies to improve and optimize the customer experience. The world is becoming more digital and more connected. Devices are added to networks all the time, from personal computers, tablets, and smartphones to smart glasses, smart TVs, smart refrigerators, etc. The increase in the number of connected devices drives an increase in the quantity of data that enterprises could gather to generate user intelligence.

According to a report by the research firm Gartner, AppDynamics is one of the smaller players in the market. However, it is growing at the fastest pace compared to the competition. As shown in the chart below, AppDynamics controls 4% of the market, but its market share increased by 246.5% YoY, which is 3.5 times that of New Relic, which is the second fastest growing company in the APM sector.

AppDynamics_chart 1_020816

Before AppDynamics' IPO, investors should review the previous IPO of a pure-play APM software provider – New Relic. New Relic went public at the end of 2014 and popped more than 40% on the first day of trading; however, as shown in the chart below, most of the time, New Relic underperformed the S&P 500, and investors who held New Relic from IPO till now experienced a negative return of 36% compared to negative 7% for the S&P 500 at the same time.

NEWR stock chart

Source: New Relic Stock Price Data by

In recent months, big data software companies have suffered from a harsh correction that reached its peak last week when visualization leader Tableau Software (NYSE:DATA) reported disappointing Q4 results and below-consensus Q1 guidance. Disappointing earnings triggered a 50% decline in Tableau stock price, and double digits fall in cloud and big data stocks. Beside the overreaction to Tableau’s earnings, cloud and big data stocks are considered to be ultra-growth stocks that investors run away from in times of instability, as we witness now in the market. As most of the big data stocks are currently trading near their all-time lows with a negative outlook, this is probably not the best timing for AppDynamics to go public. As the entire IPO market is stumbling, I believe that AppDynamics will go public in the second half of 2016 when a rebound in the stock market is expected.

In September 2015, AppDynamics appointed ex-Adobe executive David Wadhwani to be its CEO, replacing founder Jyoti Bansal to take the company to the public market and accelerate its growth. Two months after that change to the company’s management, AppDynamics raised $158M in a round led by General Atlantic and Altimeter Capital under a record valuation of $1.9B, which is a 70% increase from the previous round in 2014, as shown in the chart below.

AppDynamics_chart 2_020816

AppDynamics' valuation reflects a P/S ratio in the range of 5 and 7, based on different annual revenues assumptions – which might look attractive at first glance. However, the enormous competition from tech giants like Microsoft, Dell, HPE, CA, and Oracle, as well as from bigger, pure-play big data companies like Splunk, BMC, and Compuware makes AppDynamics a minuscule player in a niche market. As many segments in the big data software industry, the APM segment has low barriers to entry for big software players that could launch competing services as Amazon (NASDAQ:AMZN) did when it launched a new visualization software to compete directly with Tableau.

AppDynamics's IPO doesn’t seem like an attractive business to join. The APM market is relatively small (currently around $3B,) and the competition in the market is intense and includes tech giants that can quickly wipe out smaller companies. Moreover, the lack of real barriers to entry that could keep other software developers at bay make the APM market more fragile and cast a huge shadow on the growth prospects of smaller players like New Relic and AppDynamics. Investors who are interested in joining the growing big data market should avoid AppDynamics's IPO and choose another big data player in a different niche.

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  • I do not hold any positions in the stocks mentioned in this post and don't intend to initiate a position in the next 72 hours
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Comments on this article and NEWR stock

user profile picture
Lior, Lior - pants on Fire!
36 10 reply
user profile picture
As a former stock analyst I found this to be a particularly lame analysis. The author makes you wait till the last paragraph to hear the rationale for the negative investment these. Legacy vendors taking share? FALSE. APM market is too small? FALSE (unless you think no companies will use software to create competitive advantage). No barrier to entry? COMICAL.

Full disclosure: I work at AppDynamics. I've saved this article to share with the author in 12 months, 24 months, etc to see if the surface level investment thesis plays out.
13 4 reply
Do share this awesome post