DigitalOcean IPO Filing: A Two-Tier Cloud Market?

DigitalOcean Files for Initial Public Offering

DigitalOcean, a leading cloud computing services provider focused on small and medium-sized businesses (SMBs), has officially submitted its paperwork to become a publicly traded company.

The company plans to list its shares on the New York Stock Exchange (NYSE), utilizing the stock ticker symbol “DOCN.”

A Busy Day for Tech IPOs

DigitalOcean’s announcement arrives during a period of significant activity in the tech IPO market, characterized by high valuations compared to historical data.

Notably, the cloud hosting provider joined Coinbase in making its financial information publicly available today.

Seeking Capital Through the IPO

In contrast to Coinbase, DigitalOcean intends to secure funding through its initial public offering.

The company’s S-1 filing indicates a preliminary target of $100 million, though this amount is subject to change as the IPO price range is determined.

Analyzing DigitalOcean’s Financials and the Cloud Market

Let's briefly examine the company’s financial performance this morning.

Subsequently, we can consider what insights these results offer regarding the broader cloud computing landscape.

Understanding DigitalOcean’s position can provide valuable context for assessing the overall health and trajectory of the cloud market.

DigitalOcean’s Financial Performance

TechCrunch has consistently reported on DigitalOcean over the past few years, covering events such as its workforce reductions in early 2020, a $100 million debt financing secured in the same period, and a $50 million investment received in May 2020 with participation from existing investors Access Industries and Andreessen Horowitz.

Previous reports indicated the company had achieved $200 million in revenue during 2018 and $250 million in 2019, with expectations of reaching a $300 million annualized run rate by 2020.

These projections proved accurate. According to its S-1 filing, DigitalOcean reported $203.1 million in revenue for 2018, $254.8 million for 2019, and $318.4 million for 2020. The company concluded 2020 with a calculated annual run rate of $357 million.

Throughout its growth phase, DigitalOcean experienced increasing financial losses, calculated under both Generally Accepted Accounting Principles (GAAP) and non-GAAP profit metrics (adjusted EBITDA). A widening disparity can be observed between these figures:

2018: A net loss of $36.0 million, contrasted with $39.5 million in positive adjusted EBITDA.
2019: A net loss of $40.4 million, alongside $55.2 million in positive adjusted EBITDA.
2020: A net loss of $43.6 million, while reporting $95.9 million in positive adjusted EBITDA.

For those analyzing financial statements, depreciation, amortization, share-based compensation, interest expenses, and the “revaluation of warrants” were the primary factors contributing to this divergence.

DigitalOcean maintains a debt load, which is typical considering its history of debt financing and the substantial interest payments made last year. The filing reveals $261.4 million in long-term debt, including a term loan exceeding $166 million, a drawn revolving credit facility of $63.2 million, and “notes payable” totaling $31.4 million.

A clearer understanding of DigitalOcean is emerging. The company demonstrates consistent growth, with revenue increasing by 25.5% in 2019 and 25% in 2020. These figures are supported by rising adjusted EBITDA, potentially attracting public market investors and a favorable revenue multiple.

However, DigitalOcean also carries approximately $250 million in long-term debt and has accumulated GAAP losses that require addressing. The company benefits from a track record of positive operating cash flow, meaning its core business operations generate sufficient cash to cover expenses.

Nevertheless, DigitalOcean experienced negative investing cash flow of $115.5 million in 2020, primarily due to increased capital expenditures for property, equipment, and additional data center co-locations.

Competing in the cloud computing market requires significant investment, particularly in hardware infrastructure. The capital expenditures made by DigitalOcean represent a small fraction of the investments made by its larger competitors. This leads us to consider the competitive dynamics within the cloud market.

DigitalOcean's Position Within the Cloud Computing Landscape

With an anticipated annual revenue of $300 million, DigitalOcean appears stable. However, this figure is relatively modest when contrasted with the leading three cloud providers: Amazon, Microsoft, and Google.

Last year, the overall cloud infrastructure market generated $129 billion in revenue, with $37 billion occurring in the final quarter. Amazon led with over $12 billion, followed by Microsoft at $7.4 billion and Google at $3.3 billion.

Market Share and Competitive Niche

While a direct comparison to these industry giants may not be entirely equitable, even Alibaba and IBM, occupying the fourth and fifth positions respectively, each exceeded $1 billion in quarterly revenue.

John Dinsdale, chief analyst and research director at Synergy Research, a firm specializing in cloud infrastructure market share analysis, highlights DigitalOcean’s comparatively small market presence.

He notes that DigitalOcean currently accounts for a fraction of 1% of the total market share, yet the company is successfully establishing a distinct niche for itself.

Strategic Focus and Customer Base

“AWS and Microsoft Azure are unlikely to be significantly concerned by DigitalOcean’s performance,” Dinsdale states. “However, DigitalOcean isn’t attempting to compete directly with them across the entire range of cloud infrastructure services.”

He emphasizes that DigitalOcean must, and does, concentrate on a specific subset of services tailored to particular customer segments.

This focused approach allows the company to effectively compete within its chosen area of the market.

Importance of Choice in the Cloud Ecosystem

Dinsdale further explains that companies like DigitalOcean play a vital role in the broader cloud infrastructure ecosystem.

They provide customers with alternatives to the dominant providers, catering to those seeking options beyond Amazon Web Services, Microsoft Azure, or Google Cloud Platform.

“DigitalOcean exemplifies how smaller, specialized cloud providers can successfully challenge the industry leaders,” he adds. “Customers value having choices, and not all prefer the largest platforms.”

Developer Preference and Revenue Growth

This may account for DigitalOcean’s continued popularity among developers as a cost-effective and easily manageable cloud solution.

Currently generating approximately $75 million in revenue per quarter, the company has a consistent and expanding income stream.

While still some distance from reaching the $1 billion quarterly revenue milestone, the overall growth of the cloud infrastructure market presents ample opportunities for DigitalOcean to increase its revenue.

The IPO and Future Prospects

The company’s initial public offering (IPO) represents a significant step in its journey.

The additional capital obtained through the IPO could facilitate further revenue growth as DigitalOcean joins the ranks of publicly traded companies and continues to compete within the dynamic cloud infrastructure market.