DigitalOcean Holdings, Inc. (DOCN) Earnings Call Transcript & Summary

Yes. Well, in fact, we are spending more. We highlighted in the call earlier or last week that we are investing ahead of growth for 2021 on sales to set us up to build out teams, the partner initiatives, the direct outbound selling globally. Again, to Bill's point, it's focused on SMBs. We're not -- you're not going to wake up and never hear us focusing beyond our core customer base today just because it's such a massively underserved market historically and a big dollar opportunity for us. So we'll stay focused there. We are investing. I would just say Bill mentioned that we have well over 5 million unique visitors to the website every month currently, and that's growing. The way we get those is through tutorials, our digital content that we have on our website. And so it drives a lot of search, SEO search. That has such massively high leverage in terms of low cost and multiple people read the same documents that I think it's going to be hard. We will certainly try to spend sales and marketing dollars ahead of revenue, but it's such high leverage in terms of we've doubled our customer growth just in the last year for context and yet sales and marketing as a percentage of revenue is flat. And so that's a super high leverage channel for us to drive customer growth. And the sales brings in customers at much higher ARPU, way substantially higher than the average ARPU self-serve, but it brings in fewer customers by logo number. On the contrary, self-serve is dramatically lower ARPU for new customers coming in, but tens of thousands of customers. And so we have this dynamic where our growth is coming today heavily from net new sales from self-serve, 98% versus 2% last year on self-serve versus sales. That mix will grow over time. But until it's much more dramatically in line, but you could be well down the line many years down the road. You're going to see it be very difficult for us to materially move the needle higher. We'll try, and the framework for us is easy. If we could spend more money as a percentage of sales and marketing dollars from 10% and drive the sustainable revenue growth rate higher, in the Rule of 40 context, that's a trade we'll make. And -- but -- and we're looking every day to do that. But I just want to caution, it will be challenging just because of how powerfully efficient our go-to-market model is on the self-serve side of the house.

Yes. So I wonder -- I think I'd like to talk a little bit about the product portfolio and maybe to spend just a short amount of time making sure everyone has got what the core is in terms of Droplets, your ability to do compute as a service, storage as a service, to a degree, network as a service. But then how you're expanding beyond that infrastructure as a service offering to platform as a service, and you've had a recent announcement of Managed MongoDB, but let's talk about that expansion and trajectory.

Yes. So at our founding, we were a pure virtual compute, which are a unit of virtual computers branded Droplet, network and storage. And up until about 2, 2.5 years ago, we were basically 100% of our revenue came from core infrastructure as a service, compute network storage. And 2.5 years ago, we launched a marketplace that currently has dozens of applications in it. We launched a managed database set of services, PostgreS (sic) [ PostgreSQL ], MySQL. And we launched a managed Kubernetes offering. Those collectively now are 10% of our total revenue. So we've been able to grow those pretty dramatically. We've thrown in App Platform last year in Q3. And then we've added to our database engines this spring or early summer with the Managed Mongo offering. So what -- how -- we look at it as core infrastructure, why people come to us, to test an app, to build apps, to launch an app into a business and then scale an app. So the infrastructure is vitally important to our early-stage customers on the developer side as well as the small- and medium-sized businesses that are scaling on the platform. At the same time, when these small and medium-sized businesses go from start-up with still 5 employees to businesses that have 10, 20, 30, 50, 100 employees, their workflow evolves. They go to teams of engineers, teams of people targeting customers, and they need applications beyond the core infrastructure like our managed service offerings and databases and Kubernetes to help them manage the workflow. So we got it to 90% infrastructure, 10% today. We expect that to go to 80%, 20% over the next several years as we add new managed services, but also drive significant growth through innovation and adding feature functionality to the core infrastructure. So they both work together. And we expect, over time, let's say, as we land in our first $1 billion of revenue in a few years to be at an 80-20 mix of core infrastructure and managed services.

So especially given the fact that it's hard to get talent, the world is getting more sophisticated, I guess the question is why couldn't it be larger than that? Do you think because you have more of an entrepreneurial developer downmarket SKU that there's less demand for the PaaS side? But I would imagine, and I'll have to go back and check that Gartner numbers, et cetera, but PaaS is certainly a very, very large market.

Yes, you have to remember, the early-stage businesses, they don't have as complex a use case as the enterprise, which I've heard some of that data supports. It is a large market for us, and that's why you've seen it go from basically 0 to $40-plus million in just 2 years. If you were to look at that as a stand-alone venture-backed start-up, that would be incredible growth in just 2 years. And it tells you the power of our distribution and our install base of customers and the latent demand they have to move beyond pure infrastructure services. At the same time, a growing customer of ours that's growing from $500,000 of revenue on their own to $1 million to $5 million to $10 million, they're going from 2 employees to 50 to 100 to several hundred employees, that customer, as they add customers to their platform, they're consuming more infrastructure even while they're using more PaaS. So they both work together. And it's not that you're investing in, well, what PaaS was yesterday's news or infrastructure as a service was yesterday's news and it's all about PaaS. PaaS will grow faster just because it's starting from a smaller base, but they work together to support the growth of our SMB customers. And you're going to see -- for example, we launched the Premium Droplet, more capacity, more processing power, better latency uptime, et cetera. We launched that in the middle of Q2 -- Q1 of this year. It's already a mid-single-digit, approaching a mid-single-digit million without cannibalizing our core Droplet. And the reason is we're better, providing better breadth of our core infrastructure, you're seeing that grow just like we launched the load balancer enhancement. We launched storage optimization enhancements last fall that are growing pretty nicely. So we don't see it as PaaS versus IaaS, infrastructure as a service versus platform as a service. They're both together providing value to our customers as they grow and scale and launch businesses on DigitalOcean.

When you talked about some of the go-to-market changes that you're going through, is there anything else that you need to do in order to enable you to both expand into these more value-added complex PaaS offerings, but also maintain that simplicity, which has been your appeal to this market segment?

Well, I think we always start out at DigitalOcean with simplicity. As we were getting ready for our earnings call last week, we focused on simplicity. So it's all across the business. But what I would say is that we will thread the needle, and it's important that we focus on, we can never sacrifice simplicity in the product experience. It's why customers come to DigitalOcean, it's why they stay. It's why they stayed to test, it's why they stay to launch, and it's why they stay to scale. It's because we remove friction barriers, et cetera, to them focusing on building software products that serve customers. And so we will stay focused on that. At the same time, there are other capabilities now that we can add that are high propensity of need for earlier-stage businesses that are ramping. And we'll focus on launching those, creating an integrated experience with the rest of our apps and the leverage in the marketplace to give customers choice. And we think that's going to be a good formula to allow us to sustain the 30% or better growth rates that we outlined last week.

How is the launch of Managed MongoDB? And tell me that...

It's great. We got it out in beta in Q1. We got a lot of feedback, fed that back into the product that we actually launched in late June, and we're seeing a lot of interest, a lot of adoption, very good feedback on what we launched. And we don't -- we'll report yet on -- it was just July, it was the first full month. We're on our second full month of seeing customer adoption, but it looks like some of our other products that we launched in the last couple of years, how many people are using the system after a few weeks, and we expect it to ramp from here. We're really excited. We're really excited to partner with MongoDB. They've been a great partner to work with. A lot of similar philosophies on customer service and support and helping our customers succeed. And so we're just excited to get it out and hope -- optimistic it will be contributing to supporting our growth aspirations here relatively soon.

So speaking of growth, I always joke that sell-side models, I didn't realize, look the same. It's what portfolio management was described to me is the sell-side phase, you're going 35% and whatever, it's 31% or 32% the next year and then 28%, and that's the sell-side model. I don't know, I'm looking at your model right now, I got 25% in '19 and '20, and then I got -- I got 32% in '21. I had little faith in there after that, but do I need to? Or is there an aspiration where we could see at least 30s growth for you? And how would you get there?

Well, as we announced last week, obviously, we took our specific guidance up for this year to north of 30, low 30s. And we said we think we could sustain 30% or better, 30% plus into 2022. We're focused on creating durability and high growth. It's a massive market. We were underrepresented in that market, in our view. And the initiatives we've put in place from self-serve to onboarding customers, they're driving up customer growth into the high single digits. We want 10% or better. It's taken net dollar retention from basically flat. 80% of our revenue or more in any period is our cohort and for it to grow flat, stuff to grow over 30%. So we've now got that in the mid-teens. We're excited about that, and we see some potential upside for further appreciation in our net dollar retention. And we're growing customer revenue per customer in the mid-20s. That's a formula for durability of a really fast-growing business. So we've spoken about our guidance this year, sort of our high-level outlook for next year, but we don't want to be episodic. We want durability. And that's why we've recrafted the workflow, per your question, at the top of this, around what did we see. We've made a lot of changes to create durability so we can go after this massive market opportunity. And although we say we want to get to our first $1 billion in a few years, we don't think we should stop there. We think this is a multibillion-dollar revenue opportunity ahead of us. And we figured out a great way to attract SMBs and nurture them and grow them, and we're doing it incredibly efficiently, increasingly more efficiently as you saw from 13-plus percent free cash flow margins last month -- last quarter. The combination of mid-30s growth in low teens free cash flow is pretty potent when you look at the landscape of opportunities in technology. And we're proud of that, but we're not done, and we see more opportunity to get better, grow faster and grow and generate more free cash flow.

Well, speaking of free cash flow, I'll take it down from the biggest picture level to talk just for a minute about CapEx, which you've already gained a lot of efficiencies there. You were in the high 30s CapEx as a percentage of revenue, down now we're modeling to the mid-20s. So what have you done to improve that? And what can you do going forward to get that down even further?

Our work in that area has really been twofold. One, around just the traditional procurement motion. Basically, the company before was paying retail. We're trying to get not necessarily wholesale, but we're doing better by establishing partnerships and giving visibility to the big suppliers in terms of who we are. I mean, Yancey and I, when we started, we were spending $100 million a year. We think that's a big customer. So we immediately were able to basically get more attractive terms. But the other part that we think is really key is using technology to maximize the capacity utilization of our servers. That was not what was done before. Historically, what was done was they looked at capacity sold. They didn't actually go back and look how capacity was being utilized. And what we're trying to do is look at ways that we can maximize the utilization of a global platform that can run 24/7, 365 days a year. We're already starting to generate more revenue from our servers. When we started, we were getting about a 15-month payback. Now we've taken that below 1 year down towards 9 months, and we see further opportunities to take that further. So you'll see us step function that down to 20% or so in the next 2 years and then crack under 20% as we go a little bit further out as we find ways that we can continue to maximize the revenue opportunity from this big fleet.

Okay, guys. I will end there. We've used up our time. So Yancey and Bill, thanks very much. Great business, really quite an impressive accomplishments so far and lots more to go. Thanks for being here.

Thanks for having us. Appreciate the time.

Thanks, Michael. Have a good rest of the day.

Thanks to Rob, too. Thank you, guys.