DigitalOcean Holdings, Inc. — Q2 2023 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2023. DigitalOcean provides cloud infrastructure, platform and software services primarily to startups and small and medium-sized businesses. Financial statements are unaudited.
Financial performance and liquidity
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Revenue | $169.8 million | $133.9 million | $334.9 million | $261.2 million |
| Gross profit / margin | $102.5 million / 60% | $86.1 million / 64% | $195.7 million / 58% | $166.2 million / 64% |
| Operating income (loss) | $(1.5) million | $(7.9) million | $(34.6) million | $(21.5) million |
| Net income (loss) | $0.7 million | $(6.8) million | $(15.7) million | $(25.3) million |
| Adjusted EBITDA / margin | $72.2 million / 43% | $45.5 million / 34% | $127.9 million / 38% | $82.7 million / 32% |
Q2 revenue grew 27% year over year, supported by Cloudways, 14% higher ARPU ($90.84), and higher revenue from Builders and Scalers. Six-month revenue rose 28%. Gross margin declined as data-center colocation and depreciation costs grew faster than revenue. Q2 operating expenses increased 11%, including higher general and administrative costs; first-half expenses also included $21.3 million of restructuring charges. Adjusted EBITDA is a non-GAAP measure with multiple exclusions, including stock-based compensation and restructuring items.
For the six months, operating cash flow was $100.4 million, versus $76.5 million in 2022. Investing activities provided $243.7 million, primarily reflecting marketable-security maturities and purchases; financing used $365.0 million, principally share repurchases. Capital expenditures were $49.7 million, including property and equipment and internal-use software.
At June 30, cash and cash equivalents were $120.0 million and marketable securities were $430.5 million. Long-term debt carrying value was $1.474 billion, primarily 0% convertible notes due December 2026; estimated fair value was $1.179 billion. The company had $250 million available under its revolving credit facility and reported covenant compliance. Management said available liquidity, operating cash flow and facility availability should cover working capital, capital expenditures and contractual commitments for at least 12 months.
Material changes and business indicators
- Net dollar retention was 104%, down from 112% a year earlier. ARR, defined by the company as latest-month revenue multiplied by 12, was $682 million versus $544 million.
- Builders increased to approximately 134,000 from 94,000, and Scalers to approximately 16,000 from 11,000. Together, they generated 86% of Q2 revenue, compared with 85% a year earlier.
- The company repurchased 10.5 million shares for $368.9 million during the first half under its $500 million 2023 buyback authorization; $131.1 million remained available at quarter-end.
- On July 5, 2023, after quarter-end, the company acquired Paperspace for $111 million in cash, subject to adjustments. It expects the acquisition to have an immaterial effect on 2023 revenue.
Outlook, risks and unusual items
DigitalOcean did not provide specific revenue or earnings guidance in the supplied filing text. Its February restructuring plan aims to accelerate achievement of adjusted free cash flow margins above 20%; approximately $22 million of total restructuring charges were expected, with the plan substantially complete by the end of Q3 2023. Management expects restructuring charges to decrease as the plan concludes.
The company disclosed a material weakness in income-tax accounting controls, present since year-end 2022. Tax-related errors led to revised 2022 financial statements and a restatement of Q1 2023 statements. Disclosure controls and procedures were deemed ineffective at June 30, 2023. Remediation efforts include additional tax leadership and resources, outside tax advice, and new controls; management said testing over time is required before remediation can be considered complete.
Other risks highlighted include macroeconomic conditions, competition, acquisition integration, and regulatory, security, supply and reputational risks associated with AI/ML offerings and Paperspace. Paperspace relies on third-party components, particularly GPUs, which may be costly or difficult to procure. The company also maintains a full valuation allowance on U.S. deferred tax assets. Management reported no material changes to previously disclosed market risks or other risk factors, apart from the matters described in this filing.
Investor verification priorities
- Track remediation and testing of the income-tax control weakness, and any further restatements, investigations or litigation.
- Assess whether revenue growth and customer expansion can persist while net dollar retention has declined.
- Monitor gross margin and infrastructure costs, including colocation and depreciation, against management’s margin objective.
- Review cash deployment, remaining buyback authorization, and liquidity relative to $1.474 billion of convertible-note debt and the Paperspace acquisition.
- Evaluate restructuring completion and results, and Paperspace integration, GPU availability, capital needs and AI/ML-related regulatory risks.