Tiny cloud infrastructure provider DigitalOcean (DOCN 0.72%) closed out 2023 in a less-than-ideal fashion. Generative artificial intelligence infrastructure is starting to equate to a pickup in cloud computing spending among its tech titan peers, but not so much for DigitalOcean -- at least not yet.
You see, the company made an AI start-up purchase of its own last summer, and it has a new CEO at the helm. Is it too late to buy the stock?
The plan to accelerate growth
DigitalOcean has made a name for itself providing affordable and easy-to-use "Droplets" -- a bit of computing power, operating in a data center, that a developer or start-up can use to operate a website or an app, store business data and run analytics, or perform some other digital work. That combination of easy and affordable has been palpable. DigitalOcean has built a loyal following of hundreds of thousands of customers, with an extensive library of content to help educate its users about all things cloud computing.
Nevertheless, the bear market took a toll on many cloud businesses in 2022 and 2023 and finally caught up with DigitalOcean. While revenue did grow 20% year over year in 2023 to $693 million, fourth-quarter sales, in particular, slowed to just an 11% rate of increase.
Additionally, management said it expects revenue to increase just 10% at the midpoint of guidance for 2024. That compares to tech researcher Gartner calling for overall global end-user cloud spending to accelerate to a 20% pace this year. Clearly, small businesses and developers are feeling the effects of a slower-growth global economy, and it's hitting DigitalOcean's financials.
The good news, though, is that new CEO Paddy Srinivasan (who took over in February 2024) is taking the reins of a profitable company -- both on a generally accepted accounting principles (GAAP) and free-cash-flow basis.
Data by YCharts.
Srinivasan has a software developer background, having worked at several big tech companies and at a couple of small ones too. He explained to me in a recent conversation that the goal will be to reignite growth via innovation. DigitalOcean has the tools to do so.
Last summer, it acquired the AI training and development start-up Paperspace, which essentially landed DigitalOcean a fleet of powerful Nvidia GPUs that are in such short supply these days. With a great deal of DigitalOcean's developer interest flowing into Paperspace, the new management team expects to lean into those GPUs and unveil some new innovative products to help make AI a cinch for its customers -- just like the core DigitalOcean platform has done for basic cloud usage.
Time to bet on a DigitalOcean comeback?
DigitalOcean has been a wild investment since the bear market started a few years ago, and it's only rebounded about 50% since the start of 2023, about a year and a quarter ago. Some cloud software peers have rallied more than that. Viewed through that lens, DigitalOcean could have a great deal more to gain if it executes well on an AI software product strategy.
Again, all the pieces are there for this business to heat up again. It has data center infrastructure installed around the globe, and just to emphasize that important point from earlier, DigitalOcean is profitable. That could lay the foundation for the next leg of growth.
One area of concern, though, is the balance sheet. There was $412 million in cash and short-term investments, but $1.48 billion in debt, at the end of 2023. Servicing that debt could be a limiting factor for DigitalOcean in the years ahead. Time will tell.
At this stage, I've been happy with how DigitalOcean managed through the bear market. It's a small business, and thus a small position in my portfolio. But if Srinivasan and the new management team start to execute well later this year and next, perhaps I'll nibble some more on this top cloud stock that's looking to innovate in the AI industry. I'm more than content to wait and see as a passive investor in this promising company.
