DigitalOcean (NYSE:DOCN) Reports Q1 In Line With Expectations But Gross Margin Drops

Radek Strnad /
2023/05/09 7:06 am EDT

Cloud computing provider DigitalOcean (NYSE: DOCN) reported results in line with analyst expectations in Q1 FY2023 quarter, with revenue up 29.7% year on year to $165.1 million. The company expects that next quarter's revenue would be around $170 million, which is the midpoint of the guidance range. That was roughly in line with analyst expectations. DigitalOcean made a GAAP loss of $34.9 million, down on its loss of $18.1 million, in the same quarter last year.

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DigitalOcean (DOCN) Q1 FY2023 Highlights:

  • Revenue: $165.1 million vs analyst estimates of $164.1 million (small beat)
  • EPS (non-GAAP): $0.28 vs analyst expectations of $0.29 (2.87% miss)
  • Revenue guidance for Q2 2023 is $170 million at the midpoint, roughly in line with what analysts were expecting
  • The company reconfirmed revenue guidance for the full year, at $710 million at the midpoint
  • Free cash flow of $11.1 million, down 69.5% from previous quarter
  • Net Revenue Retention Rate: 107%, down from 112% previous quarter
  • Gross Margin (GAAP): 56.5%, down from 63.3% same quarter last year

“We are excited to report strong first quarter results in the midst of the weak economic backdrop, a testament to DigitalOcean’s differentiation of simple and easy to use solutions bundled with high touch customer service that enable us to help our customers navigate the uncertainty in their business,” said Yancey Spruill, CEO of DigitalOcean.

Started by brothers Ben and Moisey Uretsky, DigitalOcean (NYSE: DOCN) provides a simple, low-cost platform that allows developers and small and medium sized businesses to host applications and data in the cloud.

Data is the lifeblood of the internet and software in general, and the amount of data created is growing at an accelerating pace. Likewise, the importance of storing the data in scalable and efficient formats continues to rise, especially as the diversity of the data and associated use cases expand from analyzing simple, structured data to high-scale processing of unstructured data, images, audio and video.

Sales Growth

As you can see below, DigitalOcean's revenue growth has been very strong over the last two years, growing from quarterly revenue of $93.7 million in Q1 FY2021, to $165.1 million.

DigitalOcean Total Revenue

This quarter, DigitalOcean's quarterly revenue was once again up a very solid 29.7% year on year. But the growth did slow down compared to last quarter, as the revenue increased by just $2.14 million in Q1, compared to $10.9 million in Q4 2022. We'd like to see revenue increase by a greater amount each quarter, but a one-off fluctuation is usually not concerning.

Guidance for the next quarter indicates DigitalOcean is expecting revenue to grow 27% year on year to $170 million, in line with the 29% year-over-year increase in revenue the company had recorded in the same quarter last year. Ahead of the earnings results the analysts covering the company were estimating sales to grow 19.5% over the next twelve months.

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Product Success

One of the best things about software as a service businesses (and a reason why they trade at such high multiples) is that customers tend to spend more with the company over time.

DigitalOcean Net Revenue Retention Rate

DigitalOcean's net revenue retention rate, an important measure of how much customers from a year ago were spending at the end of the quarter, was at 107% in Q1. That means even if they didn't win any new customers, DigitalOcean would have grown its revenue 7% year on year. Despite it going down over the last year this is still a decent retention rate and it shows us that not only DigitalOcean's customers stick around but at least some of them get increasing value from its software over time.

Key Takeaways from DigitalOcean's Q1 Results

With a market capitalization of $2.96 billion DigitalOcean is among smaller companies, but its more than $612.6 million in cash and positive free cash flow over the last twelve months give us confidence that DigitalOcean has the resources it needs to pursue a high growth business strategy.

It was good to see DigitalOcean revenue guidance for the full year, exceed market's expectations even if just slightly That feature of these results really stood out as a positive. On the other hand, it was less good to see the pretty significant deterioration in gross margin and the revenue retention rate deteriorated. Overall, this quarter's results ok and mostly in line with expectations. The company is flat on the results and currently trades at $33.22 per share.

DigitalOcean may have had a tough quarter, but does that actually create an opportunity to invest right now? It is important that you take into account its valuation and business qualities, as well as what happened in the latest quarter. We look at that in our actionable report which you can read here, it's free.

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The author has no position in any of the stocks mentioned.