Is This Cloud Stock Under $50 a Good Buy Now?

The global cloud computing market is expanding rapidly, driven by increased digital transformation across industries and the growing adoption of artificial intelligence (AI) technologies. The three tech giants, Amazon (AMZN), Microsoft (MSFT), and Alphabet's Google (GOOGL), together hold a 63% market share of the global cloud computing market. 

Among these larger players, one small player, DigitalOcean Holdings (DOCN), is attempting to gain a significant market share by serving small and medium-sized businesses (SMBs) and individual developers. Let’s see if this cloud stock for under $50 is a good buy right now.

DigitalOcean Is Rapidly Growing

With a market cap of $3.2 billion, DigitalOcean is a much smaller player compared to the trillion-dollar cloud giants. However, it is growing by offering simple, affordable, and developer-friendly tools compared to the expensive, complex tools offered by the bigger players. Furthermore, while Amazon’s AWS, Microsoft Azure, and Google Cloud are geared toward large enterprises, DigitalOcean’s focus on SMBs and developers keeps it out of direct competition with these giants. By focusing on simplicity and catering to non-enterprise users, DigitalOcean has built a loyal customer base, resulting in impressive growth in the first three quarters of 2024.

In the most recent third quarter, revenue increased 12% year-over-year to $198 million, exceeding consensus estimates by $1.7 million. Factors such as an increased customer base, contributions from new customers, and high retention rates among existing users all contributed to this growth. The net dollar retention rate (NDR), or revenue retained by the company from its existing customers, stood at 97% compared to the prior year quarter. 

The total number of builders and scalers (customers who spend more than $50 per month) increased by 6% to 163,000 during the quarter. Revenue from builders and scalers (which account for 88% of total revenue) increased 15% year-over-year.

Its annual run-rate revenue (ARR) rose 12% to $798 million. In the Q3 earnings call, management stated that the ARR for AI and machine-learning products has increased by 200% year-over-year. Unlike many early stage tech companies, DigitalOcean has focused on achieving profitability. The company reported adjusted earnings per share (EPS) of $0.52, up from $0.44 in the previous year’s quarter, exceeding consensus estimates. The gross profit margin stood at 60%.

AI Could Continue to Be a Tailwind 

DigitalOcean is expanding its product portfolio to meet changing customer needs. In the third quarter, the company added 42 new product features to its core Cloud and AI platforms. In addition, the company made its first generative AI product, the GenAI Platform, available to a limited number of customers during the quarter.

At the end of Q3, DigitalOcean’s balance sheet showed $439.9 million in cash and cash equivalents. The company also generated $26 million in adjusted free cash flow (FCF), which it reinvests in product development and marketing. A healthy FCF balance also enables the company to execute its share repurchase program. It has repurchased shares totaling $29.9 million through the first three quarters of 2024. Furthermore, under new CEO Paddy Srinivasan, who joined last year, the company may gain new insights to help it succeed.

Driven by consistent growth in the first three quarters, the company anticipates around 11% revenue growth in the fourth quarter if the high end of the guidance is met. Adjusted EPS could range between $0.27 and $0.32, compared to $0.44 in Q4 2023.

The company also raised its full-year guidance. Revenue could now range from $775 million to $777 million, representing a 12% increase. The company expects adjusted EBITDA margins to be between 40% and 41%. Adjusted earnings could range between $1.70 and $1.75, representing an average 8% increase over 2023. The company also expects to generate an adjusted free cash flow margin of 15% to 17%.

Meanwhile, analysts anticipate a 9.9% increase in earnings to $1.75 per share, followed by a 12.02% increase in revenue to $776.1 million in 2024. Furthermore, analysts forecast revenue and earnings growth of 13.0% and 5.6%, respectively. DigitalOcean trades at 18.9x forward 2025 earnings, which appears reasonable for a growing cloud stock with long-term AI potential.

Is DOCN Stock a Buy on Wall Street?

Following the third-quarter results, Oppenheimer analyst Timothy Horan maintained his "Buy" rating on the stock, with a price target of $46. JMP Securities analyst Patrick Walravens maintained the same stance with a price target of $47.

Overall, DOCN stock is a “Moderate Buy” on Wall Street. Out of the 13 analysts covering the stock, six rate it a “Strong Buy,” six rate it a “Hold,” and one rates it a “Moderate Sell.” 

DOCN stock fell 6% last year, lagging the broader market index gain of 24%. However, the mean target price of $41.55 suggests the stock can climb by 18.9% from current levels. The high price estimate of $48 implies upside potential of 37.4% over the next 12 months. 

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The Bottom Line

The global SMB cloud market is expected to grow at a 7.4% CAGR to $122.5 billion by 2032. DigitalOcean’s stock provides a unique opportunity for investors interested in the rapidly expanding SMB cloud market. Its focus on simplicity, affordability, and developer-friendly solutions distinguishes it from larger cloud providers. While competition in the cloud space is increasing, DOCN’s strong financial performance, expanding product portfolio, and loyal customer base serve as a solid foundation for future growth.

Being a mid-cap, high-growth tech stock, DOCN has plenty of room to grow and appears to be a good buy under $50.