The recent all-time highs in the stock market indexes create a challenge for growth investors. A dramatic recovery in some AI-driven stocks, particularly in the "Magnificent Seven," drove most of the gains in the indexes. Amid that situation, investors may wonder whether they are too late, which could make them skeptical about growth stocks that did not join the rally.
Despite such concerns, growth stock investors can still likely benefit, particularly in stocks that sell at a considerable discount to 2021 highs. Such investors may find opportunities in two cloud stocks, DigitalOcean (DOCN 3.30%) and Snowflake (SNOW 3.69%).
1. DigitalOcean
Investors who missed out on AI-driven gains in the Magnificent Seven may have a second chance in DigitalOcean. DigitalOcean is a cloud provider for small and medium-size businesses (SMBs). It offers transparent pricing and a community of developers, as well as a collection of tutorials and videos, that can help customers whose businesses are too small for a proper IT department.
More importantly, H100 GPU chips from Nvidia, designed to run AI applications, can cost around $30,000 each. Thus, DigitalOcean can provide a valuable service by allowing SMBs to run generative AI applications from its servers.
Despite that potential benefit, DigitalOcean's business model worked against it in the bear market when a sluggish economy reduced IT spending for its clients. Additionally, a recent CEO change left investors uncertain about its future direction.
Still, the company appointed Paddy Srinivasan, the former CEO of business communications company GoTo, as its CEO. This change at the top provides an opportunity to go in a new positive direction.
Also, the improvements had already begun before the CEO change. In 2023, revenue of $693 million surged 20% higher over the previous year. That helped the company earn a net income of $19 million in 2023, up from a $28 million loss in 2022.
Moreover, for 2024, the company forecasts revenue between $755 million and $775 million, a 10% increase at the midpoint. This should help profits surge much higher. Furthermore, analysts forecast a forward P/E ratio of 24. Assuming DigitalOcean's cloud and AI services become more valuable to SMBs, more investors could perceive that valuation as a bargain, taking the stock higher in 2024 and beyond.
2. Snowflake
Admittedly, Snowflake might seem like a counterintuitive pick at first glance. Slowing growth rates and an elevated valuation appeared to have put off investors.
Also, the surprise retirement of CEO Frank Slootman and his replacement with Sridhar Ramaswamy, the former CEO of Neema (now owned by Snowflake), were not well received by investors. Since the company released its earnings report in late February, Snowflake stock has fallen by approximately one-third.
However, investors should remember that the company's shares trade at a high valuation because of its investor-friendly business model. For one, its data cloud is agnostic when it comes to cloud providers. Therefore, competitors like Amazon will promote Snowflake despite offering their own data cloud products. Additionally, customers pay by usage. More use brings in more revenue.
That increased usage led to $2.8 billion in revenue in fiscal 2024 (ended Jan. 31), a 36% yearly increase. This included net revenue retention of 131%, meaning the average long-term customer spent 31% more on the platform than one year ago.
Losses rose slightly to $836 million in fiscal 2024, up from $797 million one year ago. Still, the net loss was a product of the nearly $1.2 billion in stock-based compensation, a non-cash expense. Consequently, non-GAAP (adjusted) free cash flow for the fiscal year was $810 million, enabling the company to cover its immediate expenses without outside funding.
For fiscal 2025, the company forecasts a 22% rise in product revenue, and that slowing growth rate may concern investors. Nonetheless, Snowflake's expensive P/S ratio of 18 is actually near a record low. That factor reduces downside risk and could make the recent drop in the stock price a buying opportunity.
