What happened
Shares of DigitalOcean (DOCN +6.68%) slumped on Monday, falling as much as 15.3%. As of 2:11 p.m. ET, the stock was still down 14.1%.
The catalyst that sent the cloud-computing stock lower was negative analyst commentary that painted a pretty bearish picture.
NYSE: DOCN
Key Data Points
So what
Morgan Stanley analyst Josh Baer downgraded DigitalOcean to underweight (sell) from equal weight (hold), while simultaneously lowering the stock's price target to $45, down from $61, according to The Fly. For context, the adjusted price target was below DigitalOcean's closing price of $46.30 on Friday.
Baer cited the growing risk of a slowdown in software spending, which could be more pronounced for DigitalOcean due to the company's exposure to small businesses and start-ups, individual developers, and technology companies -- especially those in Asia and Europe.
As the potential for recession looms, companies are beginning to rein in spending, and smaller businesses likely have the least financial flexibility. As economic risks mount, the analyst suggests caution regarding DigitalOcean, particularly in light of its consumption-based pricing model.
Now what
While the analyst's view is certainly valid, a quick look at DigitalOcean's performance suggests that the long-term story remains intact. In 2021, revenue growth of 35% accelerated from 25% in the prior year. At the same time, the average revenue per user (ARPU) increased by 25%, and the company's net dollar retention rate -- which measures additional spending by existing customers -- hit 113%.
Those trends continued into the first quarter of 2022 as revenue grew 36% year over year, ARPU climbed 28%, and DigitalOcean's net dollar retention rate accelerated to 117%. While the company isn't yet profitable, it is generating positive free cash flow, which shows its losses are the result of non-cash items, including depreciation.
The natural ebbs and flows of the economy notwithstanding, management is still forecasting revenue growth of 32% at the midpoint of its guidance this year. Furthermore, DigitalOcean's total addressable market is expected to double over the coming three years, giving the company a large and growing opportunity.
This all suggests that for those investors firmly grounded in the long term, DigitalOcean continues to check many boxes in the "buy" column.
