The stock market is in the middle of a very important earnings season amid 40-year-high inflation and rising interest rates.
The financial results from some of the U.S.'s largest companies can offer hints about the health of the economy. So far, trillion-dollar technology giants Amazon (AMZN 1.34%), Google parent Alphabet (GOOGL 0.51%) (GOOG 0.50%), and Microsoft (MSFT 1.69%) have reported strong but mixed results.
They have revealed some weakness in consumer products and e-commerce, but significant growth in one segment in particular: The cloud. The three companies are among the largest providers of cloud services in the world, and their second-quarter results suggest businesses are still investing heavily in digital technologies.
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But there's another, much smaller cloud stock that has carved out a lucrative niche in the industry. DigitalOcean (DOCN 1.78%) serves small to mid-sized businesses, and its second-quarter results (reported on Aug. 8) revealed a growing customer base that is also spending an increasing amount of money.
DigitalOcean is small but mighty
Cloud services continue to expand in value and in scope. What began in the early days as an innovative way to store data has become an industry with hundreds of solutions to help organizations migrate their operations online.
Operating in an industry dominated by trillion-dollar companies with abundant resources isn't easy, especially as a company worth under $5 billion. But DigitalOcean is laser-focused on a very specific portion of the cloud services market, catering to start-ups and businesses with under 500 employees.
DigitalOcean thinks this opportunity will be worth $72 billion in 2022 and could more than double to $145 billion by 2025. It's a small subset of the broader cloud services industry, which will have an estimated value of $483 billion this year alone, according to Grand View Research. But it still leaves DigitalOcean with a long runway for growth.
The company competes by offering a high level of service to its smaller customers, which it says is lacking at the larger providers. It also hosts thousands of guides and tutorials to help businesses get the most out of their cloud environment. But most importantly, DigitalOcean competes on price with plans starting from $0 to $15 per month depending on configuration, so it's ideal for start-ups and small businesses.
The company has also designed a simple dashboard with a host of single-click features to make deployment easy, which can reduce its customers' need for expensive technical staff.
DigitalOcean's customer base is growing, and spending more money
DigitalOcean focuses on reporting the number of its customers who spend $50 or more each month because they represent 85% of the company's total revenue. It had 105,400 of them in the second quarter of 2022, up 16% from the same time last year.
The company's average revenue per user also grew by a robust 23% to $71.76, which is another all-time high, and a sign that businesses continue to expand their expenditure on digital services in the cloud.
It all pointed to strong revenue growth of 29% in the second quarter, to $133.9 million. DigitalOcean now has total revenue of $492.3 million over the last four quarters, and since the company has indicated it wants to reach $1 billion per year in 2024, there could be a growth acceleration ahead.
DigitalOcean stock is a buy on the dip
Like all of its trillion-dollar competitors, DigitalOcean's stock has taken a hit this year. High inflation and rising interest rates have forced investors to revise their growth expectations to the downside, which has sent the Nasdaq-100 tech index swinging in and out of bear market territory for most of 2022.
DigitalOcean's stock price has declined 64% from its all-time high. Based on its trailing-12-month revenue, it now trades at a price-to-sales multiple of 10, which is well below its peak of 30 from the end of 2021.
Considering that the company anticipates its revenue could double to $1 billion by 2024, it implies its stock price could follow suit assuming its price-to-sales multiple remains constant between now and then. That's a solid medium-term return, and it could get even better for investors who focus on the long run, because the cloud will only grow in importance as more of the economy shifts online.
