A Closer Look At Domo’s Cash Burn

DOMO: Domo logo
DOMO
Domo

A quick glance through Domo Technologies’ IPO filing raises several red flags. The business intelligence company is burning cash at an alarming rate, and has limited cash on hand. In fact, the company states as a part of the SEC filing that it will have to slash its operations if it cannot raise more capital within the next few months. At the same time, Domo’s revenues are not growing rapidly enough to make its business model self-sustainable anytime soon – especially if it continues to burn cash at the current rate.

So what exactly is Domo spending its cash on? And can it really hope to cut back on its expenses if it is thrown a lifeline by investors in the proposed IPO? We answer these question in our detailed dashboard for Domo’s revenues and expenses, parts of which are summarized below.

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Domo’s total expenses can be broadly categorized into: cost of revenues (which are directly associated with its revenue streams), and operating costs (which includes SG&A and R&D expenses)

Understanding Domo’s Cost of Revenues

Domo revealed the costs associated with each of its two revenue streams, subscription fees and other revenues, in its SEC filing.

Cost of Subscription Revenues: Includes costs related to third-party hosting services, as well as employee costs related to the cloud infrastructure and customer support. These expenses jumped from $21.5 million in 2016 to $32.4 million in 2017 – representing a gross margin of 63% for Domo’s subscription revenue stream over the last two years. Notably, this is well below the margin figure in the 80-90% range enjoyed by most software and business intelligence firms. We attribute this discrepancy to sizable fixed costs associated with hosting services, among other factors.

As revenues grow in the future, these costs should grow at a much slower rate. This should help the margins associated with subscription revenues increase steadily to nearly 80% by the end of 2022. Based on our forecast for Domo’s revenues over the next five years, this works out to an increase in the cost of subscription revenues to $64 million by 2022.

Cost of Other Revenues: Includes employee costs related to professional services and third-party consultant fees, and has largely remained around $12 million over 2016-17. This represents a gross margin of ~41% for Domo’s non-subscription revenue stream in 2017 – a figure we forecast to increase steadily to 60% by 2022 as revenue growth outpaces expense growth from economies of scale. This implies cost of other revenues of around $18 million by 2022.

As shown above, we forecast Domo’s cost of revenues to increase from a total figure of $44.9 million in 2017 to $82.5 million by 2022. While this represents a CAGR of 13% for these costs, it is substantially lower than the average revenue growth rate of 24% we forecast over this period. Accordingly, we forecast Domo’s gross margins to improve from under 60% now to nearly 75% in the next five years.

Understanding Domo’s Operating Costs

Domo splits its operating costs into three components:

Sales & Marketing Expenses: Domo’s massive sales and marketing expense figures drew the most flak from analysts and potential investors in the days following its IPO filing. After all, the company spent $251 million in sales and market expenses alone over the last two years – a figure that is 35% more than the total revenues of $187 million it generated over this period.

To put the size of Domo’s sales & marketing expenses in perspective, Domo added 73 new customers in Q1 2018, with a corresponding sales spend of $39.6 million – working out to a customer acquisition cost (CAC) north of half a million dollars per customer. This kind of spending is clearly not sustainable, considering the fact that the company generated an average of $60,000 in annual subscription fees per customer over this period. That said, the fierce competition among incumbents in the rapidly-growing business intelligence industry will require Domo to continue to spend millions in sales & marketing expenses in the future.

It should be noted, however, that these expenses also include Domo’s annual conference, Domopalooza, which plays an important role in spreading brand awareness. The company can definitely save a lot of cash by toning down expenses on this event – focusing instead on a more targeted approach to attract potential customers.

Taking all this into consideration, we expect Domo’s total sales & marketing expenses to grow at a much smaller rate over coming years – falling from nearly 160% of revenues in 2016 to just 50% of revenues by 2022.  As shown below, this still represents an increase in these expenses in dollar terms from $132 million in 2017 to $157 million in 2022.

Research & Development Expenses: Domo incurs R&D costs associated with introducing new features on its platform. The company spent around $77 million in R&D in each of the last two years – representing about 72% of its revenues for 2017. These expenses are primarily in the form of expenses incurred to keep its repository of 500+ connectors (used to gather data from multiple sources) updated as well as for adding support for additional connectors.

Given the recurring nature of these expenses, and the fact that a company cannot afford to fall behind in terms of feature offerings in the competitive market, R&D costs should trend higher in the future – albeit at a much slower rate than revenue growth. Accordingly, we forecast an increase in R&D costs from $78 million in 2017 to $94 million in 2022 (roughly 30% of Domo’s projected revenues for 2022).

General & Administrative Expenses: Domo’s smallest expense component, general and administrative costs primarily includes the company’s expenses to employees providing support functions like finance, legal and human resources. These costs have been around $29 million over 2016-17 – representing a decline from 39% of revenues in 2016 to 27% in 2017. We expect the decline to continue over the coming years, resulting in these expenses shrinking to just 13% of revenues by 2022. This still represents an increase in these expenses in dollar terms to almost $41 million.

Taken together, we estimate Domo’s total operating costs to increase from $239 million in 2017 to almost $292 million in 2022 – representing a CAGR of 4%. The relatively small growth figure stems from the fact that Domo will have to find ways to stem operating costs to remain afloat (and raise more cash in the future), while economies of scale should help boost its margins.

Having detailed Domo’s revenues and expenses in our articles, we will focus on Domo’s operating profits and operating cash flows in subsequent articles.

However, if you disagree with any part of our analysis, you can create your own model by making changes on our dashboard.

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