Can DigitalOcean (NASDAQ:DOCN) Keep Up Its High Growth?

DigitalOcean Holdings (NASDAQ:DOCN), a cloud-computing company popular for its cost-effectiveness, is trading at a high valuation after consistently achieving high revenue growth. Despite this elevated valuation, DOCN’s fresh emphasis on using AI to assist businesses suggests potential for further growth. With the cloud computing industry expecting a robust growth rate for the next three years, DigitalOcean keeps drawing prospective investors’ attention. Thus, I’m bullish on the stock.

The company’s revenue growth mirrors the market’s demand for affordable options. In the fourth quarter of 2023, DOCN’s revenue hit $180.9 million, marking an 11% rise from the year before. This figure exceeded expectations by $2.7 million. Over the last two years, the company has achieved substantial revenue growth, climbing from $119.7 million in Q4 2021 to the most recent total. This steady increase in revenue highlights DigitalOcean’s strong position in the cloud computing industry.

Aside from growth, the company is also focused on innovation. In January 2024, the company welcomed Paddy Srinivasan as its new CEO. Investors are hopeful that his fresh perspective will generate greater growth. Analysts expect that Srinivasan’s focus on AI and development will potentially expand the company’s market reach.

On a cautionary note, DigitalOcean’s price-to-sales (P/S) ratio of 5.6x is higher than the industry average (3.12x), making some analysts wary. They question whether the firm can continue to meet the lofty growth expectations set by its past performance. The high valuation places pressure on DigitalOcean to sustain its rapid growth rate.

Despite these concerns, analysts predict a 13% annual revenue growth for DigitalOcean over the next three years. The forecast is slightly above the industry average of 12%. While DigitalOcean’s ability to achieve gains beyond this rate might be tough, DOCN stock is still attractive. This attraction is based on its competitive niche, ventures into AI, and track record for growth.

DigitalOcean: Uniquely Positioned for Affordable Cloud Services

Amazon (NASDAQ:AMZN), Microsoft (NASDAQ:MSFT), and Google (NASDAQ:GOOGL) are the industry leaders in cloud services. However, DigitalOcean doesn’t directly compete with AWS. It targets a different market, catering to new or small developers focused on cost yet still needing a fast platform. This focus enables DigitalOcean to appeal to a wider and more diverse audience, setting itself apart in the competitive cloud services market.

DigitalOcean is strategically investing in AI, aiming to rapidly boost its revenue and earnings. Nvidia’s (NASDAQ:NVDA) GPUs are in high demand, raising costs on AWS, Google Cloud, and Microsoft Azure. This makes GPU-powered instances pricey for small companies. DigitalOcean aims to change this.

In July, DigitalOcean acquired Paperspace, a high-performance computing platform. The acquisition has improved their customers’ capacity to test, develop, and implement AI applications. More recently, it began offering Nvidia’s advanced H100 tensor core GPUs to small- and medium-sized businesses (SMBs) through the Paperspace platform.

DigitalOcean’s strategy is to help SMBs and startups access the infrastructure needed for AI-powered applications, which require powerful computing hardware. Paperspace customers will also gain from DigitalOcean’s cloud services, such as databases, storage, app hosting, documentation, and strong support.

DOCN management expects first-quarter 2024 revenue to be between $182 million and $183 million. This projected revenue signifies an average annual growth of 10.5% compared to the previous year. DOCN also expects a 36% rise in adjusted EPS, falling in the $0.37 to $0.39 range, in line with analysts’ estimates.

DOCN: Outstanding Revenue, Earnings Growth

DigitalOcean’s strong financials are matched by notable sales growth. In 2023, the company gained 18,000 new customers, reaching a total of 640,000 across 190 countries.

For Fiscal 2024, analysts foresee a 10.7% increase in annual revenue, reaching $767.3 million. They also predict a 2.7% rise in EPS to $1.63 for Fiscal 2024. Additionally, the company anticipates an adjusted free cash flow margin between 19% and 21% of total revenue for the year. To further bolster its financial strategy, DOCN recently announced a $140 million share buyback initiative, highlighting its commitment to shareholder value.

DOCN’s impressive Q4-2023 earnings caught the attention of Goldman Sachs (NYSE:GS) analyst Gabriela Borges. Recognizing the company’s strong performance, she increased the target price for DOCN stock from $33 to $42. The adjustment reflects a positive outlook on the company’s future. Analysts attribute this potential for growth to DOCN’s strategic investments in AI and machine learning.

“In 2023, we accelerated our long-term margin targets, expanded our addressable market with an AI/ML acquisition, and established a solid double digit growth foundation,” said Matt Steinfort, CFO of DigitalOcean. “Our strong balance sheet, healthy top-line outlook, and attractive free cash flow are enabling us to invest in expansion initiatives for 2024 and beyond.”

Is DOCN Stock a Buy, According to Analysts?

According to TipRanks, DOCN is currently rated as a Moderate Buy based on four Buy, five Holds, and one Sell rating from financial analysts over the past three months. The average DigitalOcean stock price target is set at $37.56, implying 7.7% downside from its last price. These analyst price targets vary, ranging from a low of $25.00 per share to a high of $47.00 per share.

Final Insight on DOCN

Final insight on DigitalOcean’s recent stock price surge reflects investors’ positive sentiment about DOCN’s revenue and growth momentum. The decision to employ AI in the cloud computing space, with a focus on small- and medium-sized businesses, strengthens this bullish outlook. Despite a high P/S ratio, the company’s shift toward AI suggests the possibility of outperforming the industry growth average. 

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