DigitalOcean Holdings, Inc. (DOCN) Q4 2022 Earnings Call Transcript

DigitalOcean Holdings, Inc. (NYSE:DOCN) Q4 2022 Earnings Conference Call February 16, 2023 8:00 AM ET

Company Participants

Rob Bradley - Vice President, Investor Relations

Yancey Spruill - Chief Executive Officer

Matt Steinfort - Chief Financial Officer

Conference Call Participants

Jim Breen - William Blair

Gabriela Borges - Goldman Sachs

Tim Horan - Oppenheimer

Jim Fish - Piper Sandler

Eric Heath - KeyBanc Capital Markets

Wamsi Mohan - Bank of America

Vinod Srinivasaraghavan - Barclays

Operator

Good morning. My sanction is Rob and I will beryllium your convention usability today. At this time, I’d for illustration to invited everyone to nan DigitalOcean Fourth Quarter 2022 Earnings Conference Call. [Operator Instructions] Thank you. Rob Bradley, Vice President of Investor Relations, you whitethorn statesman your conference.

Rob Bradley

Thanks, Rob and convey you and welcome, everybody to DigitalOcean’s Q4 2022 net call. Joining maine coming is Yancey Spruill, our Chief Executive Officer; and Matt Steinfort, our Chief Financial Officer.

Before we begin, I want to screen our Safe Harbor statement. During this convention call, we will beryllium making forward-looking statements, including our financial outlook for nan first 4th and afloat twelvemonth arsenic good arsenic statements astir our goals, business outlook, manufacture trends, marketplace opportunities and expectations for early financial performance. All of these statements are taxable to risks, uncertainties and assumptions. We tin reappraisal much accusation astir these successful nan Risk Factors conception of our filings pinch nan SEC. We punctual everyone that our existent results whitethorn disagree and we undertake nary responsibility to revise aliases update immoderate forward-looking statements.

Finally, we will beryllium discussing our non-GAAP financial measures connected our telephone and reconciliations betwixt our GAAP and non-GAAP financial results tin beryllium recovered successful our net property release, which was issued earlier this greeting and successful our investor presentation, which tin beryllium recovered connected our website.

With that, fto maine move nan telephone complete to our CEO, Yancey Spruill. Yancey?

Yancey Spruill

Thanks, Rob. Good greeting and convey you for joining us. I’d for illustration to invited Matt Steinfort, who joined arsenic our CFO successful early January and is integrating nicely pinch our team, and arsenic you will see shortly, he is coming up to speak quickly. I’d for illustration to commencement pinch a recap of 2022 and stock our first thoughts connected maturation and profitability for 2023, including detailing our cardinal initiatives for nan year. I will past move it complete to Matt to supply much colour connected our results and connected our financial outlook for 2023 and stock much astir our superior allocation strategy.

To opportunity nan very least, 2022 was an overseas year. While nan first 4th was beardown by early Q2, we saw an emerging move wherever some caller customer acquisition and description successful our cohort of customers began to slow. Despite executing initiatives passim nan twelvemonth to boost growth, we saw continued slower maturation successful our existing customer cohorts and caller customer acquisition and that has continued into 2023. The 3 cardinal headwinds that drove this slowing maturation were: first, a wide softness crossed our existing customers successful position of slower description and much volatile caller customer additions, peculiarly among smaller customers. Expansion decelerated 400 ground points crossed nan year. Importantly, churn mostly remained successful statement pinch anterior periods. We person consistently heard from our customers done general surveys that contempt their businesses having slowed, they proceed to spot america arsenic a captious portion of their business operations and that they aren’t looking to move from DigitalOcean. Second, nan illness of Bitcoin’s valuation and its effect connected our customers successful blockchain, which represented 5% of full gross astatine nan highest successful Q2, but declined to 1.5% arsenic we exited nan year. And finally, falloff from nan warfare successful Ukraine arsenic customers successful Russia and Ukraine mixed represented astir 3.5% of full gross astatine nan highest successful Q1 of past year, but declined to little than 2% arsenic we exit 2022.

We spot nan consumption-based gross exemplary arsenic a spot of our business agelong term, peculiarly successful driving customer loyalty because of nan elasticity it offers them successful bully times and challenging times for illustration these erstwhile their volumes decline. Having said that, our exemplary does alteration much volatility pinch existing and caller customers successful times of deceleration, a shape we person knowledgeable opening successful 2022. Yet contempt these headwinds, we delivered beardown gross maturation pinch important increases successful operating and free rate travel margins. These improvements were nan consequence of our pulling aggregate levers, including introducing caller merchandise capabilities, raising prices for nan first clip successful our history, prioritizing investments and expanding our merchandise group pinch nan highly strategical acquisition of Cloudways.

For nan year, we delivered $576 cardinal successful revenue, which represents 34% year-over-year growth. We were besides capable to make meaningful advancement connected our profitability and rate travel floor plan during nan year. To get up of nan softening macro situation successful Q2 2022, we began to rein successful spending by narrowing our investments to those that we expected would person nan largest effect connected growth, managing nan business to higher free rate travel while weathering nan uncertainty. Those decisions paid disconnected arsenic we some accrued improved free rate travel margins passim nan twelvemonth and position ourselves to spot nan maturation from those reprioritized investments successful 2023.

We delivered adjusted EBITDA margins of 34%, which were up 200 ground points year-over-year. And additionally, non-GAAP operating margins were 18%, up 600 ground points year-over-year. We besides made continued advancement managing our superior spending footprint arsenic we delivered CapEx of 21% of revenue, down 400 ground points from 2021, while balancing investments crossed nan shorter and longer term. An illustration of longer word superior investments was nan motorboat of nan Sydney information halfway successful Q4 past year. We are already seeing beardown gross traction successful Sydney and that will beryllium a meaningful boost to 2023 growth.

As a consequence of nan beardown gross growth, improving margins and leverage connected capital, free rate travel accrued 217% year-over-year to $78 cardinal aliases 13% margins, a 700 ground constituent betterment from 2021 and a awesome measurement towards our longer word separator target. With a coagulated 4th fourth and afloat twelvemonth 2022 capacity down us, successful ray of nan challenging macro conditions, we person reassessed our near-term gross maturation and separator targets. Since our 2021 IPO, we shared targets of delivering $1 cardinal successful gross and 20% positive free rate travel margins successful 2024. While maturation was 30% aliases better, we were comfortable ramping to a 20% aliases amended free rate travel separator target complete a number of years.

Given nan little maturation environment, we are accelerating free rate travel margins to our longer word target scope this year. And astatine nan aforesaid time, we are pushing retired nan $1 cardinal gross target by 1 twelvemonth to 2025. In consequence to nan softer maturation environment, yesterday, we announced nan difficult determination to trim our squad arsenic portion of a broader inaugural to right-size our costs base. The actions we person taken amended align our costs footprint to nan existent and expected maturation reality and will alteration america to present a compelling balanced maturation and profitability floor plan sloppy of nan economical climate, arsenic we proceed to prosecute our goals of scaling this business.

As we contemplated these difficult decisions, we reviewed each aspects of our business pinch a extremity to amended focus, ratio and operating velocity. From this review, nan actions we are taking will thief america simplify our building and besides will rebalance our talent to much intimately align pinch our world customer base. While nan wide effect to nan broader DigitalOcean team, a nett alteration successful our caput count of 11% makes nan decisions difficult, they consequence successful a much nimble statement enabling a overmuch stronger operating floor plan now, while besides freeing up finance capacity for targeted maturation initiatives arsenic we move forward.

As a team, we person relied connected a return connected invested superior model to find really we allocate resources. And that’s an important discourse for why we person emphasized our balanced predisposition to present beardown maturation pinch consistently ramping free rate flow. Our strategy’s eventual extremity is to thrust compelling returns arsenic we judge it’s nan eventual North Star measurement of nan capacity of each business successful immoderate sector, successful immoderate economical environment. To beryllium crystal clear, maturation is halfway to our strategy and we proceed to put to thrust accelerated and durable apical statement growth. What we are clarifying coming is our attack will beryllium to continuously amended nan returns connected invested superior successful nan discourse of balancing our investments successful gross and free rate travel growth.

Now, I’d for illustration to move our attraction to 2023. We judge we are still successful nan early innings of realizing DigitalOcean’s imaginable successful a large, world and highly diversified markets serving mini and medium-sized businesses. Increasingly, we are focusing much and much effort towards SMBs that collectively walk much than $98 cardinal annually connected unreality infrastructure. Our maturation investments this twelvemonth are chiefly focused connected 3 cardinal areas: merchandise enhancements, income initiatives and Cloudways synergies. Together, these initiatives will grow our wallet stock pinch our customers, heighten our go-to-market mobility and build our customer engagement muscle. Attracting nan correct SMB customers to our level and enabling them to acquisition much products from america will thrust accrued depletion and consequence successful higher nett dollar retention and mean gross per customer.

In a fewer minutes, Matt is going to stock his caller position successful respect to nan specifications of nan drivers of our gross growth. As we person disclosed previously, our gross is predominantly coming from a mini percent of our full customers. Those customers typically commencement very mini and aft spending immoderate clip learning and testing ideas, galore of them ramp usage connected our platform. Once they motorboat an exertion that gains traction, they move into a shape wherever they are building and scaling a business. We utilized nan $50 per period period arsenic a marker for erstwhile customers modulation from learning and testing to building past scaling.

In Q4, 86% of our full gross was derived from customers that are spending much than $50 a period contempt those customers representing conscionable 21% of our full customers. Importantly, gross from $50 per period customers grew 39% past twelvemonth contempt nan wide economical weakness. And these trends person overmuch higher customer and gross maturation pinch amended portion economics from our larger customers person been a accordant shape for a number of years. When we speak to investments successful merchandise improvement and go-to-market, our attraction is connected attracting, retaining and increasing these larger customers.

A information of nan targeted incremental maturation areas successful 2023 will travel from nan roadmap of enhancements that we will present complete nan people of this year. Today, I will item 1 of our cardinal investments, augmenting our retention capabilities. As outlined past year, we are prioritizing building retired our retention capabilities, which is simply a important maturation opportunity for us. We make astir 10% of our gross from existing retention products and we are targeting to summation that proportionality of full gross by arsenic overmuch arsenic 2x pinch nan investments we are making. This represents a important ARPU maturation opportunity pinch existing customers arsenic customers who usage our retention coming walk astir 25x much than customers who don’t.

While we person retention products today, they are chiefly focused connected serving a constrictive group of usage cases and nan needs of smaller businesses wrong our customer universe. The investments we are making are designed to widen our capabilities to service a larger group of existing SMBs, that is to say, builders and scalers arsenic good arsenic go much charismatic for caller customers to migrate their unreality workloads. By adding capabilities to our retention footprint, we will alteration an expanding number of usage cases arsenic good arsenic larger standard usage cases. The SnapShooter acquisition announced earlier this twelvemonth is portion of this broader effort to heighten our retention offerings.

On nan income front, we are investing successful a nonstop income effort. While we person a low-cost and businesslike self-serve motion, which has been nan cardinal to achieving our existent $659 cardinal ARR business, nonstop income will thief unlock nan immense imaginable of our installed guidelines arsenic we proceed to standard successful nan years ahead. As mentioned earlier, we person much than 140,000 builders and scalers that are spending much than $50 per period pinch us. Across past year, we added to our squad to prosecute deeper pinch our existing cohorts done our wrong income motion.

An further attraction of our income efforts is bringing caller customers to our platform, principally done build-out of our partner transmission effort, Partner Pod. There are hundreds of thousands of integer agencies successful managed services and hosting providers astir nan world and delivering a tailored worth proposition to them beryllium an important maturation driver arsenic we make it easy for these transmission partners to present their customers to us.

Finally, we spot important maturation imaginable from our caller Cloudways acquisition. Cloudways has outperformed our anticipation successful nan short clip since we acquired them contempt nan weaker macro environment. A highly strategical acquisition broadened our merchandise suite from nan halfway DigitalOcean do-it-yourself unreality exemplary to see a managed unreality work acquisition for nan galore SMB customers who want much thief initiating and operating their unreality infrastructure. Cloudways’ managed attack gives america a deeper knowing of SMB customers and their usage of unreality infrastructure. We are taking these learnings and applying them to our broader business, which will alteration our mixed business to amended lucifer customer wants pinch nan capabilities connected our platform.

As an illustration of nan early returns connected nan deal, we person been capable to accelerate Cloudways’ caller customer acquisition by much than 15% for $50 and up customers. This validates 1 of nan halfway premises of nan transaction that galore customers who motion up for DigitalOcean would use from and would beryllium consenting to salary for a managed hosting experience. We are actively moving connected evolving nan DigitalOcean customer onboarding process to amended optimize nan customer starting point. The extremity present is to amended place those customers who are moving aliases intend to tally a business successful nan cloud. The earlier we are capable to place them, nan amended we are capable to prosecute and service them and location is simply a importantly higher customer life worth erstwhile we do and that’s going to beryllium nan attraction for us.

In summary, contempt a difficult situation successful 2022, we strengthened our business done integrated and inorganic initiatives and delivered beardown financial results. We proceed to beryllium well-positioned to seizure stock successful nan $98 cardinal marketplace for developers and SMB’s unreality infrastructure. We are focused connected realizing this breathtaking semipermanent maturation opportunity and done our actions person committed to doing truthful while besides delivering compelling returns connected invested superior sloppy of nan economical climate.

I’d now for illustration to move nan telephone complete to Matt who will supply specifications connected our financial results and our outlook for this year. Welcome aboard, Matt.

Matt Steinfort

Thanks, Yancey. Good morning, everyone and convey you for joining america coming connected our Q4 2022 net call. I americium very excited to beryllium present and to participate connected my first net telephone arsenic DigitalOcean’s Chief Financial Officer. While I conscionable precocious joined nan institution earlier this year, I person already witnessed successful our 4th fourth and afloat twelvemonth results 1 of nan cardinal reasons why DigitalOcean was truthful appealing to maine successful nan first place. I see myself very fortunate to person joined an statement that’s delivering very patient apical statement growth, has a beardown superior building and is generating meaningful and increasing free rate travel connected some an absolute and a per stock basis.

Another entreaty for maine was nan company’s beardown competitory differentiation and ample addressable marketplace pinch ample room to turn and to amended return connected invested capital. I spot a tremendous opportunity up for DigitalOcean arsenic it is positioned some to turn on pinch nan ample addressable unreality marketplace and to seizure further marketplace share. We person a awesome marque and level that is specifically tailored to nan SMB market. The company’s attraction connected simplicity, fantabulous value to worth and beardown customer restitution has enabled it to carve retired a activity position successful this charismatic and increasing conception of nan marketplace extracurricular nan attraction of nan ample hyperscalers.

Third important facet for maine joining connected apical of nan beardown financials and compelling competitory position was nan value of nan guidance squad astatine DigitalOcean. I had antecedently worked pinch nan Zayo Group, which astatine nan clip was a publically traded, multibillion-dollar gross communications infrastructure company, wherever I was nan CFO and he was nan Lead Director. And worked together, we successfully executed a $14.5 cardinal take-private of nan company. From that experience, I person a tremendous magnitude of respect for Yancy and person grown to respect nan executive squad that he has assembled. And I americium very excited to subordinate that squad and to activity alongside him again.

To springiness you a small discourse for nan acquisition guidelines that I bring to DigitalOcean, I person a divers background. I was nan CFO of a ample nationalist company. I was nan Co-Founder and CEO of a Software-as-a-Service institution and person held a assortment of consulting and strategy activity roles. I americium excited to beryllium present and I americium committed to bringing my afloat acquisition to carnivore to thief america execute our semipermanent revenue, profit and rate travel goals.

Before I reappraisal nan financials, I’d for illustration to stock an important study that I hadn’t genuinely appreciated from nan extracurricular and I don’t judge nan marketplace has afloat internalized either. The penetration comes from wrong nan unthinkable customer move that DigitalOcean enjoys that has helped propel nan company’s awesome way grounds of maturation to-date and it will beryllium nan motor that drives america guardant arsenic we execute our semipermanent objectives. From my early conversations pinch Yancey, I appreciated nan ratio of DigitalOcean’s chiefly self-serve go-to-market model. I was impressed that nan institution could walk truthful small connected income and trading and yet pull truthful galore customers done its self-serve fund. Generating much than 10 cardinal unsocial visitors each period and building a immense customer base, numbering 677,000 astatine twelvemonth extremity was beautiful remarkable.

What I hadn’t appreciated afloat though was nan durability of nan resulting customer maturation model. DigitalOcean is simply a compelling unreality level wherever developers and mini business tin travel to trial and research arsenic they activity connected their ideas and their ambitions. While nan full number of customers astatine immoderate constituent is awesome and meaningful, focusing connected that statistic by itself masks nan elegance and nan spot of nan DigitalOcean model. Our customers commencement their lifecycle simply arsenic testers of our platform, spinning up a azygous droplet, exploring our platform, trying things retired for a mates of months. Thousands of these testers travel to our level each period done our nonstop trading and promotional investments and a regular information of these testers get traction and go existent ongoing customers, sticking connected our level and continuing business pinch america for longer than 3 months.

While not each of our testers spell connected to go semipermanent customers, nan costs of acquisition is truthful debased that it’s worthy nan finance to springiness them vulnerability to our level arsenic they whitethorn travel backmost to america down nan roadworthy to trial retired a caller thought aliases business. Once a customer has gone beyond nan tester phase, they go our learners, spending little than $50 per period arsenic they proceed to activity connected their ideas. There are hundreds of thousands of these learners connected nan DigitalOcean platform, 468,000 of December of 2022. While these learners person humble walk individually, they are comparatively unchangeable arsenic a group, pinch 20% year-over-year gross and pinch humble churn. The mean learner has been connected our DigitalOcean level for 48 months.

And this is wherever nan penetration comes in, that this ample group of learners who are nan stated target assemblage erstwhile nan institution was founded, is nan feeder for but not nan driver of nan worth and maturation astatine DigitalOcean. From this ample and unchangeable excavation of learners, a regular watercourse of customers each week and each period and each year, find occurrence pinch their ideas and their businesses statesman to grow. And pinch their maturation comes larger request for unreality infrastructure and much walk pinch DigitalOcean. As these customers turn to go builders who walk betwixt $50 and $500 a period and past scalers who walk complete $500 a month, they go stickier and stickier pinch faster gross growth, little churn and much merchandise attachment arsenic they scale. Collectively, these builders and scalers correspond only 21% of our customer guidelines to thrust 86% of our revenue. And arsenic customer tiers grew gross 30% and 45%, respectively, successful 2022.

Importantly, while nan complaint of maturation of nan wide number of customers has slowed down complete nan past respective years, nan graduation complaint of learners to builders and scalers has steadily accelerated connected some percent and absolute terms, fueling DigitalOcean’s growth. As a result, location are 321% much builders today, generating 320% much gross and 423% much scalers today, generating 472% much gross contempt our learner pool, having only 140% of nan customers and 181% of nan gross it had 5 years ago. These larger customers are nan superior attraction of nan maturation investments Yancy shared. Our investments will thief support our ample and patient excavation of learners while nurturing our existing customers to support them arsenic they turn into nan higher spending cohorts.

We will besides proceed to activity to migrate likewise mature and increasing SMB customers straight connected to DigitalOcean from different unreality providers. These finance initiatives whether enhancing our retention offering aliases expanding our nonstop income efforts are very focused connected expanding our expertise to service this increasing guidelines of customers arsenic their unreality infrastructure requirements grow pinch their business. Given nan value of nan customer maturation model, we will statesman disclosing customer accounts, ARR and gross maturation rates astatine this much granular level and will nary longer beryllium focused truthful overmuch connected full customer count successful our regular disclosures.

I’d for illustration to now displacement my comments to our financial capacity successful 2022, aft which I will supply much discourse for our expanded stock repurchase programme and our 2023 financial outlook. As Yancey indicated, 2022 was a very unsocial year. The institution was capable to present beardown results contempt a number of macro headwinds. It delivered 30% positive apical statement maturation pinch meaningful improvements successful some profitability and rate travel while completing a highly accretive acquisition of 1 of our largest customers.

Beginning pinch nan apical line, we delivered $576 cardinal of gross successful 2022, which was up 34% year-over-year. We ended nan twelvemonth pinch $659 cardinal successful ARR, which was besides an summation of 34% year-over-year. Through improved procurement processes and amended server utilization, GAAP gross margins accrued to 63%, up 300 ground points from 2021. Through disciplined operating disbursal management, we saw a important summation successful non-GAAP operating income, delivering 18% successful 2022, up from 12% successful nan anterior year.

Adjusted EBITDA improved to 34% from 32% arsenic we prioritized and focused our maturation investments successful ray of nan anticipated ongoing apical statement pressures. Capital ratio besides improved, pinch superior expenditures arsenic a percent of gross coming down from 36% backmost successful 2020 and 25% successful 2021 to 21% successful 2022. This improved superior ratio has been deliberate, and we person assurance that we will proceed to thrust further ratio improvements moreover arsenic we put to turn revenue. As grounds of our continued committedness to maturation investments, we expanded our geographic scope into different charismatic marketplace by opening a caller information halfway successful Sydney, an finance that has already begun to lend to maturation successful 2023.

As Yancey mentioned, free rate travel and free rate travel per stock are our North Star metrics, and this is existent now much than ever successful this challenging economic. We person made awesome advancement connected these captious metrics. And arsenic Yancey and nan squad person often said, we’re conscionable getting started. Free rate travel successful 2022 was $78 million, which was 13% of revenue, a 217% summation from nan anterior year. On nan backmost of nan beardown capacity successful 2022 and our announced costs simplification initiatives, we person assurance successful our plans to propulsion guardant our longer-term free rate travel target and exit 2023 pinch free rate travel margins successful nan precocious 20s.

One of nan different cardinal priorities successful my first period astatine nan institution has been to find nan astir due superior building for nan company. Based connected this work, I’m excited to stock much item astir nan superior allocation strategy that we announced today. Given nan reality of nan near-term macroeconomic environment, successful conjunction pinch nan maturation of our business model, we are conservatively bracing ourselves for nan imaginable that our maturation complaint will beryllium successful nan debased to mid-20s successful nan years ahead.

In ray of this maturation profile, we are taking contiguous actions that will some boost our margins successful 2023 and position america to make yearly free rate travel margins of 30% positive successful nan coming years. Our continued gross maturation and expanding rate travel margins, mixed pinch our sizable rate balance, will consequence successful our building important rate successful nan coming years. We will usage this rate to some money ongoing investments successful our products and level and prosecute further accretive M&A. But moreover aft those investments, we are projecting to person worldly excess rate fixed our beardown rate travel generation. Our scheme is to return a meaningful information of this excess rate done a regular stock repurchase program. We judge an ongoing buyback programme creates a compelling investor thesis for DigitalOcean erstwhile mixed pinch our attraction connected driving operational excellence and profitable growth, and together, will thrust full shareholder return.

In support of this superior allocation strategy, I’m pleased to stock that our Board approved an expanded stock repurchase programme that allows america to repurchase up to $500 cardinal of our banal successful 2023. We are committing to purchasing a minimum of $230 cardinal successful 2023, and we are authorized to repurchase up to different $270 cardinal based connected marketplace conditions and our comparative finance alternatives astatine nan time. We expect to support an ongoing repurchase programme successful spot beyond 2023 and expect further repurchases successful 2024 of up to 125% of nan free rate travel generated there. We’re excited astir this superior allocation model arsenic it will substantially accelerate free rate travel and net per share, while some allowing america to put successful our business and enabling america to stay wrong our semipermanent target leverage scope of 2.5x to 3x nett leverage to adjusted EBITDA.

To adjacent my commentary, I’ll supply our outlook for nan first 4th successful nan afloat twelvemonth 2023. But earlier I do, I’d for illustration to stock immoderate discourse for really we thought astir guidance successful ray of nan uncertainty and headwinds facing nan package marketplace astatine large. Given nan various macro uncertainties, our yearly guidance scope will beryllium a spot wider than we person historically provided, which we judge is due successful this environment. The debased extremity of our scope represents our existent run-the-business trajectory, adjusted downwards somewhat to bespeak nan continued challenged growth. The precocious extremity of nan scope assumes we spot coagulated incremental traction passim 2023 from our cardinal maturation initiatives that Yancy explained earlier.

I’d besides for illustration to item that opening pinch this net call, we will beryllium guiding to and reporting adjusted EBITDA arsenic our halfway profitability metric. This will intimately align pinch our outer guidance to 1 of our cardinal soul metrics arsenic we measurement nan business internally successful this metric, and we judge it appropriately demonstrates nan capacity of nan business. In position of circumstantial guidance for Q1 2023, we expect gross to beryllium successful nan scope of $163 cardinal to $165 million. For nan first quarter, we expect adjusted EBITDA margins to beryllium successful nan scope of 31% to 32% and non-GAAP net per stock to beryllium $0.28 to $0.29. With nan announced costs simplification actions implemented and down america by nan 2nd half of nan year, we expect that we will exit nan twelvemonth pinch adjusted EBITDA margins successful nan debased to mid-40s.

For nan afloat year, we expect gross to beryllium successful nan scope of $700 cardinal to $720 million. We expect adjusted EBITDA margins to beryllium successful nan scope of 38% to 39% and non-GAAP net per stock to beryllium $1.65 to $1.69. In 2023, free rate travel will summation arsenic a consequence of our improved profit separator and little superior expenditures, driving 21% to 22% free rate travel separator for nan afloat twelvemonth excluding nan onetime costs associated pinch our workforce simplification and transaction costs. Like adjusted EBITDA, free rate travel will ramp passim nan year, and we expect free rate travel separator to attack 30% by nan 4th quarter.

That concludes my remarks, and I’ll now move it complete to nan usability to statesman our Q&A session.

Question-and-Answer Session

Operator

[Operator Instructions] Your first mobility comes from nan statement of Jim Breen from William Blair. Your statement is open.

Jim Breen

Thanks for taking nan question. Just connected nan gross procreation side, connected nan gross maturation side, tin you conscionable talk astir immoderate of nan much circumstantial things you’re seeing that benignant of caused you to benignant of push retired gross guideline for 2024? And past conscionable connected nan buyback, really assured you successful nan free rate travel procreation successful lawsuit are opportunities for M&A and utilizing that cash? Thanks.

Yancey Spruill

Well, successful position of nan maturation outlook, fixed what we’re seeing currently, and nan outlook that we group for this year, we’ve decided to push retired nan expectations for $1 billion. Again, that $1 cardinal target was integrated and inorganic. So it’s – but conscionable to beryllium cautious successful facing nan realities of what we’re looking at, that’s nan ground for pushing retired nan outlook by a year. It’s besides nan rationale for accelerating nan margins, arsenic I said successful nan script, we spot nan 2 arsenic related. And frankly, if you look astatine really we looked astatine nan position of increasing northbound of 30% done 2024 to get to that first $1 cardinal and ramping nan free rate travel separator versus our existent outlook pinch nan acceleration of margins, we’re really going to make much free rate travel successful nan adjacent mates of years that we would person nether a higher maturation scenario. So we’re very comfortable pinch nan outlook and nan separator mix. And it’s very important that you each understand that’s precisely really we deliberation astir it.

In position of – I’ll remark connected nan free rate travel confidence. The measurement we look astatine it is we prioritize integrated finance and making judge that complete nan adjacent respective years, we are taking attraction of building retired our level products, etcetera. We’ve allocated a reasonable magnitude of – a meaningful magnitude of superior for M&A – accretive M&A. And I deliberation nan M&A we’ve done complete nan past twelvemonth aliases 2 years, whether it’s nan Cloudways successful nan $350 cardinal scope aliases smaller azygous merchandise institution emerging from seed shape is nan model for america from an M&A standpoint. So we’ve allocated a reasonable magnitude of superior for that. And we task astatine these higher margins person a beautiful important magnitude of excess free rate flow, and we’re turning a information of that – a meaningful information of that to investors. So it’s a very balanced approach. It’s focusing connected growth. It’s focusing connected optimizing operations for free rate travel margin. It’s focusing connected allocating superior to inorganic initiatives and is focusing connected returning superior to shareholders.

Jim Breen

Great. Thanks.

Operator

Your adjacent mobility comes from nan statement of Gabriela Borges from Goldman Sachs. Your statement is open.

Gabriela Borges

Hi, bully morning. Thank you. I want to inquire you astir cyclical versus structural. I deliberation we tin admit each your commentary connected nan macro for 2023, your commentary connected debased to mid-20s maturation rate. Has thing changed structurally astir your expertise to turn complete 30% organically long-term? Is location immoderate logic – erstwhile you opportunity debased to mid 20s, is that a longer word structural maturation complaint aliases is that a cyclical target based connected what you’re seeing coming arsenic well?

Yancey Spruill

It is not a semipermanent target. It’s very circumstantial to our guidance for this twelvemonth and nan realities of what we’re facing this year. And again, it’s an integrated maturation complaint for this year. There isn’t a alteration different than what we discussed earlier. Nothing changed competitively that we’ve seen. We proceed to thrust – we – arsenic I mentioned, location is much volatility pinch smaller customers successful position of their growth. And I deliberation that’s a large facet of nan little aggregate growth. And past our larger customers, arsenic I mentioned, we enactment very adjacent to them. We’re investing successful much talented process to prosecute pinch moreover deeper numbers of those cohorts. And they are very accordant successful our general surveys, which we’ve conducted and successful our anecdotal – regular daily conversations pinch them. They are undergoing nan aforesaid thing, everybody is undergoing successful nan tech market, which is location are maturation challenges. They are successful optimization mode, etcetera, and that’s led to – and we’re helping them pinch that.

And frankly, we connection a worth – a compelling worth proposition fixed nan capabilities and nan value point, worth is really high. So I deliberation we’re having awesome conversations. So location is nary existent alteration different than everybody is conscionable seeing a little maturation environment, and we’re moving done that pinch our customers. But arsenic you – arsenic Matt laid out, nan larger customers, erstwhile they break done connected our platform, they are increasing incredibly healthy. Three grip – almost 4 grip for nan moreover larger customers. And truthful I deliberation them doing that connected our level speaks to nan worth proposition successful this situation and nan truth that our costs proposition is truthful compelling.

So nary change. Smaller customers are much volatile. But arsenic you see, we still person a ample capable pool. We’re still adding capable and nan excavation is sufficiently ample that we’re still accelerating graduation connected our platform. So we consciousness very bully astir wherever we are. And I deliberation arsenic things moderate, 1 point I’m really excited astir pinch this newer rate travel profile, erstwhile things do reaccelerate, if they do – if they don’t, we evidently person compelling margins now, we’re going to position for moreover greater operating leverage successful nan future. So we consciousness bully astir wherever we are. It’s decidedly a challenge, different situation than we thought a twelvemonth aliases 2 years ago. But I deliberation our economical exemplary is proving very compelling successful nan midst of each nan uncertainty.

Gabriela Borges

That’s helpful. The follow-up I person is connected really you reasoning connected OpEx priority. We person each thought DigitalOcean arsenic being beautiful disciplined and thoughtful astir your investing base. And truthful springiness america a sense, wherever did you find incremental efficiencies connected nan workforce simplification and nan gait of finance successful your nonstop income unit are you readying to accelerate nan gait of finance successful nonstop sales? Thank you.

Yancey Spruill

Yes. Well, we person invested an accelerated – moreover arsenic we exited nan twelvemonth connected nan income side. As we’ve spoken to previously, we person a narrower group of incremental maturation initiatives really astir enhancing our instauration astir storage. We person a number of different caller products that are either astir to launch. They are successful beta now aliases will arsenic we attack nan mediate portion of nan year. We funded those done reprioritization successful nan first half of past twelvemonth arsenic we slim down priorities, arsenic I mentioned earlier. So connected that broadside of nan business, we consciousness for illustration we’ve raised nan barroom connected maturation initiatives. I deliberation nan hurdle complaint is higher, and that’s really we slim down nan priorities.

In position of nan operating structure, wherever we recovered efficiencies, it’s really astir mounting this business up. We’ve gotten to 650 – $660 cardinal of tally rate. And for illustration astir businesses, what sewage you there? Is it going to get you to $1 cardinal aliases $2 cardinal successful gross complete time. And truthful we took this opportunity to benignant of rethink really we work, simplify organizational structure, importantly, globalize our business, and we’ve seen unthinkable occurrence moving talent astir nan world and that’s portion of nan activity. And truthful – and past location was a number of different things that aren’t moreover connected nan group side. They are really contributing much of nan efficiencies this twelvemonth and going forward. Just evaluating wherever we’re spending our money, what do we need, what do we not need. And frankly, I deliberation it’s what everybody successful nan tech ecosystem is doing correct now. And you adhd each those up, and that’s a meaningful contributor to nan boost successful our free rate travel and operating metrics that you’ll spot this year.

Gabriela Borges

Thank you for nan detail.

Operator

Your adjacent mobility comes from nan statement of Tim Horan from Oppenheimer. Your statement is open.

Tim Horan

Thanks guys. Focusing connected revenue, it seems for illustration you are looking for a beautiful large ramp for nan 2nd half of nan year, because you’re for illustration 1% sequential successful nan first quarter, and benignant of request much for illustration 5% sequential for nan adjacent 3 quarters to deed nan debased extremity of nan guidance. Are you readying connected immoderate value increases, aliases are these caller products going to thrust that? Just talk astir really we are going to spot that acceleration. Thanks.

Yancey Spruill

The debased extremity of nan guidance reflects thing different from wherever we are – really we are executing now. And nan precocious extremity reflects incremental initiatives. We person talked astir contributing whether it’s – location is immoderate monetization actions, location wouldn’t beryllium definitive value increases, but arsenic bundling packaging are successful nan mix, which will person nan nett effect of pricing leverage, retention capabilities coming online mediate of nan year. And it’s immoderate of nan near-term initiatives we person arsenic good arsenic our finance – incremental investments successful sales, our partner capability, our wrong income capability. So, those are contributing near-term. We person our Sydney information center, which I mentioned came online successful Q4 is ramping very nicely. So, it’s a big of things, galore of which were successful formation arsenic we into this year, already successful marketplace and immoderate adjacent to coming into marketplace and others coming successful Q2, Q3. And you adhd each that up, and that’s really you get to nan precocious extremity of nan range.

Tim Horan

Got it. But to beryllium clear, I mean annualized successful nan first quarter, you were benignant of astatine much good beneath nan debased successful nan guidance. So, location is simply a bunch of things that are hitting that, it’s conscionable nan timing, much hitting nan 2nd quarter, 3rd 4th to benignant of thrust nan gross growth, to beryllium clear.

Yancey Spruill

The debased extremity of nan guidance reflects thing really changing incrementally from those – contributing from those initiatives. The precocious extremity of nan guidance reflects much publication from those initiatives. The mediate is simply a equilibrium of nan two, and we will spot ramping. It’s important, though, a number of those initiatives are successful flight. So, they will beryllium mostly disposable arsenic we – complete nan adjacent fewer weeks, exit this 4th arsenic we get into Q2. So, location is plentifulness of clip for this twelvemonth for those to contribute. Some of those are monetization, pricing, packaging, bundling options, etcetera. And truthful you will spot a ramp done nan year. And our guidance reflects a cautious outlook successful nan aggregate towards nan – reflecting immoderate of nan macro uncertainties that we are facing.

Tim Horan

Thank you.

Operator

Your adjacent mobility comes from nan statement of Jim Fish from Piper Sandler. Your statement is open.

Jim Fish

Hey guys. Thanks for nan questions. I wanted to touch upon really nan past 1 here. With nan finance down nan nonstop income force, but benignant of a pullback successful spending successful different areas of nan business, conscionable tin you talk astir really you are mounting quotas and what you are expecting for quota-carrying capacity ramp and what gives you benignant of nan assurance successful this alteration from a self-serve exemplary to a much nonstop led model. This nonstop led exemplary will really consequence successful an uptick of take fixed really we deliberation astir nan emblematic size of your installed guidelines and really they tin presume DigitalOcean and erstwhile successful different areas of tech, we person seen others effort to move from benignant of self-serve to direct, not spell well. Really my mobility is what gives you assurance this nonstop income unit displacement will consequence successful incremental uptick here?

Yancey Spruill

Well, location is 2 points I would make. First of all, fto maine explain what finance income means, what you said earlier. One, it’s wrong sales. So, we have, arsenic you pointed out, a ample cohort of customers. We person seen important occurrence complete nan past fewer years, adding wrong salespeople, expanding nan number of group who we delegate to accounts. And they are moving straight pinch those accounts to optimize them connected nan platform. That’s led to ARPU acceleration multiproduct adoption, amended usage of nan cloud, amended – and we person helped our customers scale. So we person seen a batch of occurrence there. In fact, we added beautiful meaningfully successful Q4 to that squad truthful that we tin spell moreover deeper, galore thousands, 10 positive thousands of customers that we are really talking to now versus benignant of low-single digit thousands this clip past year. So, that’s a very important distinction. It’s really nan enhanced support, customer occurrence wrong income motion. We person already demonstrated that exemplary very successfully. And past our partner channel, arsenic I mentioned, location is simply a big of integer agencies, hundreds of thousands of them astir nan world managed hosting providers. As an example, Cloudways is 1 of them. And we activity – we person formalized and tailored an offering to them. And we person seen that stood that up and arsenic we sewage done past year, and we expect that to spot meaningful traction. We already person tons of agencies connected nan level organically done integrated self-serve even, and we are looking to heighten that done bigger efforts done this partner pod capability. So, those are – I would opportunity they – and for this year, they wouldn’t beryllium bigger than nan magnitude of gross we make from self-serve, but they person been very complementary and ramping very rapidly. Ours is ever going to beryllium a business, As Matt eloquently laid out, nan excavation of customers that tests and travel to DigitalOcean to trial and study is massive. And that we are ever going to build nan ecosystem astir that because that ecosystem is driving truthful overmuch of our maturation done nan graduation from sub-$50 to greater than $50 and past greater than $500 customers.

Jim Fish

If I could follow-up connected that, I mean how, Yancey, do you guys scheme to equilibrium having your ain soul agency present pinch Cloudways versus benignant of these outer integer agency partners arsenic it could perchance create clash and past erstwhile do you expect that retention percent to really double? Is it a 2023 thing, aliases is it benignant of much of nan 2024, 2025 goal?

Yancey Spruill

Thanks. The second, we haven’t group a target for nan date. We conscionable want to make meaningful progress. And I deliberation arsenic we adhd features and functionalities complete nan – and it’s important, we are making progress. We substantially accrued nan consequence times cycles per 2nd of retention successful Q4. We evidently added SnapShooter from an acquisition earlier this quarter. We will person much features and functionality coming online. So, nan 2x is simply a longer word target. That’s really we benchmark against different folks successful cloud. We haven’t put a day connected it. We conscionable want to beryllium making progress. And arsenic we make advancement and accelerate that, that’s going to beryllium a important boost to our maturation rate. On nan first one, location is conscionable nary transmission conflict. Again, this is simply a $100 cardinal marketplace for SMB unreality developer [indiscernible] for cloud. It’s a large market. We did a batch of diligence erstwhile we looked astatine Cloudways astir whether location would beryllium transmission conflict. We person seen nary churn connected our level from companies who do akin things to Cloudways since nan acquisition. So, location is nary interest connected our extremity astir that aft a important magnitude of diligence connected this taxable and taxable earlier signing nan transaction. And past obviously, we person owned nan institution now for fove months, conscionable has not been an issue.

Operator

Your adjacent mobility comes from nan statement of Michael Turits from KeyBanc Capital Markets. Your statement is open.

Eric Heath

Hey. Good morning. This is Eric Heath connected for Michael. Yancey, you talked about, it seems Cloudways being much resilient than halfway DigitalOcean. Is location thing different astir Cloudways, whether nan customer base, worth merchandise that makes it a spot much of a resilient business? And past a speedy follow-up.

Yancey Spruill

Yes. It’s a mobility we inquire each nan time. I don’t cognize that we person a solution connected that. And truthful I don’t want to estimate connected that correct now. But location is nary mobility that nan business has been rather resilient. They do person a higher percent of those $50 and up customers and we do. We are mid-teens, nan bequest woody and Cloudways is successful nan mid-20s. So, I deliberation that’s an facet of it. But it’s a – and arsenic I person said successful nan script, we are taking a batch of learnings and applying them to nan full company. So, really excited to make a ample acquisition for illustration that for us, our largest successful nan mediate of 2022, a twelvemonth of a ton of uncertainty and to person it play retired arsenic it’s playing out, we are really excited astir wherever we are and nan prospects ahead.

Eric Heath

Great. And past conscionable quickly connected that. I mean portion of nan thesis, I deliberation of bringing Cloudways was to benignant of trim that churn that you benignant of often spot pinch those customers successful nan first 90 days aliases 1 year. Is location immoderate advancement you are seeing connected that front, number one? And past number two, conscionable funny if you are seeing immoderate advancement aliases opportunities to cross-sell Cloudways to benignant of that broader DigitalOcean base?

Yancey Spruill

Yes. So, we person been very focused successful this first respective months connected nan customers who travel to DigitalOcean who weren’t champion suited for a do-it-yourself exemplary and negociate was a amended opportunity for them. We person changed a batch of our onboarding flow. And I mentioned much than 15% boost successful nett caller customer acquisitions from Cloudways successful nan first fewer months, that’s a large reason. So, we are efficaciously capturing much worth than a twelvemonth ago, 2 years ago, we mightiness person been missing retired connected aliases having churn because we conscionable weren’t nan champion match. The marketplace size for managed is astatine slightest arsenic large arsenic benignant of our halfway model. So, that’s really breathtaking to person a thesis for an M&A transaction and successful months into it are already confirming that. So, we consciousness bully astir that. We are moving connected different cross-sell motions that conscionable person been later successful privilege and are starting to kicked successful now and look guardant to updating our investors arsenic we move done nan twelvemonth connected that theme. But again, very excited astir nan advancement to-date and moreover much excited astir what’s to come.

Eric Heath

Great. Thanks Yancey.

Operator

Your adjacent mobility comes from nan statement of Wamsi Mohan from Bank of America. Your statement is open.

Wamsi Mohan

Hi. Yes. Thank you. Good morning. Yancey, bully to spot nan profitability propulsion in. But I was wondering if you could remark connected nan costs actions you are taking astatine afloat tally rate, that should beryllium driving 800 bps of EBITDA betterment and you are guiding 400 ground points to 500 ground points of EBITDA description successful ‘23. As you look forward, are you converting nan incremental dollar of gross astatine nan same, amended aliases worse operating leverage ex these costs initiatives aliases restructuring scheme that you are taking? And what’s nan semipermanent maturation floor plan for expenses?

Matt Steinfort

So Wamsi, it’s Matt. Nice to talk to you again. The – if you look astatine nan full tally complaint effect of nan costs savings that we are projecting, it’s $60 cardinal a twelvemonth connected an yearly basis, $35 cardinal of which is non-headcount related, $25 cardinal is headcount related. And arsenic Yancey said, we person seen opportunity to reprioritize immoderate of nan investments that we are making successful nan business to attraction connected nan higher maturation and higher return initiatives, and that’s what’s enabled america to thrust those costs out. Again, we are besides taking advantage of nan globalization of our institution and moving our assets guidelines to much intimately lucifer nan benignant of nan gross guidelines of nan company, which is astir 70% international. So, we deliberation location is simply a batch of opportunity for america to proceed to optimize that, while still making very, very effective and beardown investments that person bully return connected invested capital. So, we spot incremental operating leverage. Part of nan situation for this twelvemonth is it’s nan costs are going to travel successful complete nan people of nan year, and it’s going to return a while for those costs effects to manifest themselves successful our margins. And truthful that’s why successful my remarks, I tried to guideline a small spot towards really we deliberation that we are going to exit nan year. And we think, again, from an EBITDA separator standpoint, we should beryllium exiting nan twelvemonth successful nan debased to mid-40s. And from an EBITDA separator – and from a free rate flow, we should beryllium approaching nan 30% by nan extremity of this year, and we expect to spot further separator betterment going forward.

Yancey Spruill

Yes. If I tin conscionable adhd 1 constituent to that. If you deliberation astir – if we return a measurement back, what does it mean for Matt to opportunity we will exit this twelvemonth astatine 30% free rate travel margins, conscionable – it was conscionable 3 years ago, we had antagonistic 25% free rate travel margin. So, you are talking astir a 55% summation successful 3 years, arsenic nan business has gone from astir $240 cardinal of gross to $650 cardinal aliases – a small complete $700 cardinal successful revenue. To talk astir free rate travel conversion, good complete $0.50 connected each incremental gross dollar. So, I conscionable want to make judge we are clear. We are very focused connected incremental leverage successful nan business, and we person already delivered it. And I deliberation you are going to spot a important betterment successful that this twelvemonth moreover successful a little maturation environment.

Wamsi Mohan

Okay. Thank you. And arsenic a follow-up, tin you admit nan specifications connected nan learners and builders, scalers that you gave. What is driving nan betterment from learners to builders, graduation rates successful ‘22? How overmuch was that was – really overmuch of that was a push versus propulsion effort? And really are you expecting that to inclination successful ‘23? Thank you.

Yancey Spruill

So, awesome question. I deliberation arsenic we person added much products complete nan past fewer years, managed databases, negociate Kubernetes, enhanced our marketplace, our serverless portfolio. We person enhanced our infrastructure, compute web and retention solutions. We person added much capacity to nan platform. And truthful what that’s enabled america to do, and this is why retention is truthful important, these investments. As companies grow, their needs for unreality evolve. And if you look astatine america 3 years to 5 years agone pinch nan slimmer merchandise set, we couldn’t seizure arsenic overmuch stock of wallet arsenic their unreality walk grew. We are now capable to, complete nan past fewer years, done our investments, capturing much stock of wallet, pushing out, for example, nan clip a institution whitethorn spell multi-cloud and surely capturing much of nan applications they are needing arsenic they turn their businesses. I deliberation that’s a main benignant of from nan merchandise side. And past arsenic I talked astir earlier, our finance successful wrong income and enhancing our customer work worth proposition has helped facilitate that by making customers much aware, building a really bully musculus and moving intimately pinch customers. So, it’s nan harvester of nan merchandise strategy and past our go-to-market strategy, which has been driving that acceleration successful ARPU.

Matt Steinfort

And conscionable 1 point to add, and we included this information successful nan net position supplement. But if you look backmost each nan measurement to 2018, nan portion of nan powerfulness of this exemplary and nan elegance of this exemplary is really accordant and improving nan graduation complaint has been and really consistently we person been adding builders and adding scalers. You look backmost complete nan past 5 years that it’s conscionable up and to nan right. You can’t moreover spot a blip during nan – aliases immoderate effect during nan pandemic. You don’t spot really immoderate changes different than nan caller acquisition of Cloudways and nan pricing action of July. It’s an incredibly durable model.

Wamsi Mohan

Thank you.

Operator

And your last mobility comes from nan statement of Vinod Srinivasaraghavan from Barclays. Your statement is open.

Vinod Srinivasaraghavan

Hi. Thanks for taking my mobility here. Just want to follow-up connected nan past one. You mentioned exiting nan twelvemonth and approaching 30% for free rate travel margins. Is it besides adjacent to opportunity you will exit nan twelvemonth astatine aliases approaching nan norm of 50?

Yancey Spruill

Yes.

Vinod Srinivasaraghavan

Great. And past I want to talk astir early take of Cloudways arsenic good for your different customer cohorts. Can you possibly benignant of break down customers spending $50 to $500 first, those who are spending complete $500, are you seeing immoderate different behaviour pinch nan driblet successful trends truthful far?

Yancey Spruill

Sorry, are you speaking conscionable specifically to Cloudways?

Vinod Srinivasaraghavan

Yes, conscionable pinch Cloudways. Is it much conscionable broad-based take among your base, aliases are you seeing, let’s say, your largest customers aliases your smaller ones adopted much than others?

Yancey Spruill

Adopting Cloudways?

Vinod Srinivasaraghavan

Yes.

Yancey Spruill

Well, arsenic I mentioned earlier, you are seeing a boost successful nan $50 and up, particularly erstwhile considering that 15% aliases amended boost to nett caller customers. A important percent of those are $50 and up customers successful position of nan synergies we referred to. I don’t person nan data, whether it’s nan $500 and up. But again, a halfway facet of nan thesis, group who want to negociate work perfectly are going to tally a business. And truthful they person aspirations to turn really rapidly. And it’s a awesome clip arsenic they are looking to group up their unreality infrastructure to inquire them, do you want to do it yourself aliases do you want to negociate experience, which by nan way, is astir 2x nan value to spell managed and they often will take to manage. And truthful we spot that arsenic a compelling, fundamentally a merchandise extension, really nan full DigitalOcean programs platform. So, we would expect it to skew higher ARPU complete clip and to thrust our ARPU conscionable reflecting Cloudways arsenic astir a 4th of their customers are $50 advertisement up versus nan bequest woody was astir 15%. So, it’s going to surely amended nan operation of builders and scalers connected our platform.

Vinod Srinivasaraghavan

Thanks and congrats again.

Operator

And this concludes our question-and-answer session. I will move nan telephone backmost complete to Yancey for immoderate closing remarks.

Yancey Spruill

Thank you for joining america this morning. I dream it’s obvious. We are incredibly excited astir nan advancement we person made successful transforming our institution DigitalOcean successful to a durable high-growth business and a free rate travel instrumentality successful bully times and successful bad. We look guardant to continuing nan speech successful nan coming weeks and months up arsenic we activity difficult to recognize this constricted imaginable of our business. Have a awesome remainder of nan day.

Operator

This concludes today’s convention call. Thank you for your participation. You whitethorn now disconnect.