Ladies and gentlemen, thank you for standing by. My name is Krista, and I will be your conference operator today. At this time, I would like to welcome everyone to DigitalOcean's Fourth Quarter 2024 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session. [Operator Instructions] Thank you. I would now like to turn the conference over to Melanie Strate, Head of Investor Relations. Melanie, you may begin.

Thank you, and good morning. Thank you all for joining us today to review DigitalOcean's fourth quarter and full year 2024 financial results. Joining me on the call today are Paddy Srinivasan, our Chief Executive Officer; and Matt Steinfort, our Chief Financial Officer. Before we begin, let me remind you that certain statements made on the call today may be considered forward-looking statements, which reflect management's best judgment based on currently available information. Our actual results may differ materially from those projected in these forward-looking statements, including our financial outlook. I direct your attention to the risk factors contained in our filings with the SEC, including our most recent annual report on Form 10-K filed today, as well as those referenced in today's press release that is posted on our website. DigitalOcean expressly disclaims any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements made today. Additionally, non-GAAP financial measures will be discussed on this conference call, and reconciliations to the most directly comparable GAAP financial measures can be found in today's earnings press release, as well as in our investor presentation that outlines the financial discussion on today's call. A webcast of today's call is also available in the IR section of our website. And with that, I will turn the call over to Paddy.

Thank you, Melanie. Good morning, everyone, and thank you for joining us today as we review our fourth quarter and full year 2024 results. We concluded the year with strong momentum and continue to successfully execute on the initiatives we laid out at the beginning of the year. Our accomplishments included: building out our executive and senior leadership teams; significantly improving the pace of product innovation; augmenting our product led sales motion with new strategic go to market enhancements; and continuing to accelerate the early success of our AI/ML platform, all of which together positioned us with momentum heading into 2025. In my comments today, I will briefly recap our fourth quarter and full year results, reiterate our strategy and priorities, share several product innovation and customer use cases across both core cloud and AI/ML that demonstrate the progress we're making against our priorities. First, I will briefly summarize our fourth quarter and full year 2024 financial results. Revenue growth accelerated in the fourth quarter to 13% year-over-year to $205 million with one of our biggest growth levers, net dollar retention improving to 99% from 96% in Q4 of the prior year. Our efforts to improve growth and NDR in 2024 are evident in our Q4 results, as NDR with our traditional cloud services reached 100% in Q4 for the first time since June of 2023 on the back of our rapid product roadmap execution in our investments in several strategic go-to-market motions. From these efforts, we saw increased expansion from our higher spend customers as we continue to focus both our product [Technical Difficulty] go-to-market efforts on these top customers. Our higher spend customers, which has traditionally included our Builder and Scaler cohorts, now represent 88% of total revenue and grew 16% year-over-year in Q4. We have now further…

Thanks Paddy. Good morning, everyone. Thanks for joining us today. As Paddy discussed, we delivered a solid Q4 and full year 2024 on all financial metrics and made meaningful progress on the key initiatives and goals we set in place at the beginning of the year. In my comments, I will review our Q4 results in detail and cover the full year 2024 financial highlights before sharing updated first quarter and full year 2025 financial outlook. Revenue in the fourth quarter was $205 million, up 13% year-over-year. Annual run rate revenue, or ARR, in the fourth quarter was $820 million, as we added $26 million of incremental ARR in the quarter, up from $24 million in new ARR in Q3. Of note, we made a methodology change to how we report ARR, where we now calculate ARR by multiplying the quarterly revenue times 4, rather than the final month of the quarter times 12. We decided to use aggregate quarterly revenue to calculate ARR to reduce potential volatility in this metric given the project-based nature of some of the training workloads customers are running on our AI/ML platform. More details on this as well as a reconciliation between the old and new methodologies can be found in our Form 10-K. Revenue from our builders and scalers, which are our highest spending customer cohorts and represent 88% of total revenue, grew 16% year-over-year, and customer count increased 6% year-over-year. This quarter, we also began to disclose further disaggregation within our Scalers cohort, and are now separately disclosing our largest spending customer cohort, or Scalers+. Or customers that monthly spend is more than $8,333 per month during the quarter, which is more than $100,000 on an annualized run rate or ARR basis. In Q4, revenue from Scalers+, who represent 22% of overall…

Thank you. We will now begin the question-and-answer session. [Operator Instructions] And your first question comes from Josh Baer with Morgan Stanley. Please go ahead.

Great. Thanks for the question. At your recent Deploy Conference, you talked about several customers that were disappointed with their experience with the hyperscalers and ended up migrating to DigitalOcean's platform. I was hoping you could expand on that and touch on what types of customers you're targeting, what types of workloads? And then I have a follow-up.

Yes, thank you, Josh, for the question. So, yes, what we highlighted during the conference was a handful of customers that are looking at alternatives primarily for two reasons. One is, the simplicity of running a fairly sophisticated workload on a hyperscaler. It's not an easy undertaking. You need specialists for many of the nuances like storage and networking and compute and so forth and also the total cost of ownership, especially if you have spiky workloads and you're unwilling or unable to commit to really long-term contracts at a substantial amount of minimum commitment, then it becomes a really onerous thing to keep running your workloads on some of these hyperscalar clouds. So what we are offering as part of the migrations program that I was just talking about is a couple of things. One is, the ability to get our partner ecosystem involved to facilitate smooth transition of the workloads, but more importantly, provide a super compelling, scalable platform which is far easier for most of the mainstream workloads to run and operate on the solution platform. So we're seeing all kinds of customers, Josh, and we are staying true to our target customer segments, which is tech native, digital native cloud application software companies that are running globally distributed workloads that are typically network and bandwidth intensive. Some of them require very bursty spikes in their traffic patterns, so that need to be supported in a very elastic manner. And what attracts them to us is our core value proposition of being simple yet scalable, but most importantly, a very approachable cloud that really cares about them.

Thanks, Paddy. And just wondering on the EBITDA guidance, I mean, initial EBITDA guidance for this year was 36% to 38%, you ended at 42%. I was hoping you could kind of provide a just high level of the main drivers of that degree of outperformance and then how we should think about that level of conservatism in the initial 2025 guide for EBITDA? Thanks.

Great question, Josh. So I think we said this publicly last quarter that with all the new executives that had come on and with the acknowledgement that we needed to accelerate the product roadmap, we built in some cushion in Q4 for the R&D team in particular to surge resources that they wanted to bring in contractors, etc. And what we were able to do was, we took a real hard look at the spend that we have and we were able to reallocate resources and Bratin and team did a phenomenal job of prioritizing on the top initiatives and getting the key products out. And so we didn't need that surge. You'll note that from a full year and even for a first quarter the guide is still pretty wide on EBITDA. And so what we're signaling is a little bit of -- well, don't get super fixated on what EBITDA is one quarter versus the next because we may be pulling expenses ahead or maybe we find deficiencies and we don't need to. But what I would focus on is our commitment. We raised the free cash flow guide from our preliminary indication to -- from 15% to 17% to 16% to 18%. And that's what we're managing more aggressively towards. And I view EBITDA as a -- it'll be a little bit more -- it'll move a little bit more, but we're very committed to driving improvements in gross margin. We're very committed to driving operating efficiencies and improving the leverage we have in the business. But at the same time, if we see an opportunity to accelerate a product capability that drives revenue, we'll do that. And that might have a near-term impact on EBITDA margins, which is why we provided a wide guide in fourth quarter and why we provided a wide guide for 2025.

Your next question comes from the line of Gabriela Borges with Goldman Sachs. Please go ahead.

Hey, good morning. Great to see the NDR numbers. Thanks for taking my question. Paddy and Matt, I wanted to follow-up on the math you've given us in the prior quarter on how much ARR you're able to capture per dollar of GPU-related CapEx. Maybe just refresh us as you move up the stack from IaaS to PaaS, are you able to generate more revenues per dollar of CapEx? And Matt, maybe you can comment on the gross margin profile of the AI services business as you move into more differentiated services? Thank you.

Yes, both great questions, Gabriela. And yes, so the -- what we've found is, in particular, if you think of the GenAI product, and this has been a great learning for us and also very, very supportive of our strategy. Somebody comes in and they want to build a chatbot and they build -- they come in with their knowledge base and they come in and they want to hook up with another model. They can certainly take advantage of our GenAI capabilities and the GenAI capabilities have way higher margins on their own than do the bare metal or more the infrastructure layer. But the thing that is probably most compelling to us is how much other revenue that will drive through of cloud services. Because for every chatbot you have, you need somewhere to store your knowledge base, so you need storage, you need bandwidth to get that, to communicate with the models, and you need a lot of our other database infrastructure. So we think that the amount of pull-through revenue that we're going to get from the GenAI services is orders of magnitude more than the actual GenAI revenue itself. And so that's very, very compelling. The margins, again, on the infrastructure layer, as we've said and is very clear in the market, the margins aren't spectacular, gross margins on just core GPU as a service. And it's very price transparent in the industry. There's a lot of competition to get kind of initial workloads. And the costs, even though there are new entrants, AMD is out with new capabilities and a lot of others are working on capabilities in addition to NVIDIA, it's still a fairly one vendor dominated industry and the costs are super high. So we expect that to come down over time. And we expect to be able to leverage more of that infrastructure for inferencing over time, which will drive more consistent and higher margin revenue. But I think that the path that we're on is towards more of our revenue coming from the higher platform, higher layer services. And those higher layer services not only on their own have better margins, but they pull through higher margin cloud revenue as well.

Thank you.

Your next question comes from the line of Mike Cikos with the Needham & Company. Please go ahead.

Great. Thanks for taking the questions guys. Great to see the improvement in the NDR that you're talking to as well. I guess first question I had for you was related to the AI/ML. Great to see the growth there still remaining triple digits north of 160%. Is there any way to give us a little bit more as far as the size of that AI/ML ARR base today, what it represents as a percentage of the total ARR? And then the second piece on that point would be, how do we think about the ARR composition today? Is the vast majority of that coming from the Scalar+ cohort? I know we have these new disclosures and you guys are seeing broad based adoption, but just interested where the revenue dollars specifically are coming from for that piece. Thank you.

Yes, on the first question, Mike, and thanks for the questions, we're not disclosing the specific ARR for AI for very clear reason on our side. The revenue is kind of intermingled with, like I was speaking to Gabriela, when we get a little bit of GenAI revenue, we're getting a lot of pull through revenue in other parts of the business. And we also don't manage the business as a, like we were, there's AI product group and there's other product groups. It's kind of commingled in terms of others' compute or some of the other capabilities. So we believe that, like we have infrastructure as a service and we have platform as a service, we have managed hosting, AI is just another one of our products and so we're not going to disaggregate at the product level. In terms of the amount of AI that's with the Scalars. Recall that when we acquired Paperspace several years ago, it came with a lot of customers. It was like 15,000 customers or something like that. And they had a run rate that was largely small customers that looked a whole lot like the DigitalOcean customer base. So we have a pretty deep set of customers that are smaller, they're on the AI platform, a lot of them leveraging the legacy Paperspace, kind of notebooks capability. And a lot of the new customers that are coming on in, that Paddy talked about, 90% of the customers that adopted the GenAI product out of the gate are existing customers, and their mix looks a lot like our existing customers. So I'd say there's a healthy chunk of the AI that's in the Scalars+, but it's not all of it. And it's not -- the vast majority of it is not in that yet, but there is a healthy chunk.

Thank you for that. Can I just tack on maybe one more on the gross margin? I know that we have the Atlanta data center coming online in Q1, which we're all looking forward to, but can you help us think about how gross margins are likely to move through the course of the year with that Atlanta data center? And then we obviously have the news that the useful server lives are being extended a year. How do we put those two pieces together when we think about how calendar 2025 looks? Thank you.

It's actually not going to move a ton. It'll be a little bit of -- probably see a little bit of a dip in gross margin in the beginning of the year and it'll pick back up, which is very consistent to what happened before when we did Sydney. You get some upfront expenses where you haven't fully ramped it clearly with revenue yet. So you'll see a little bit of a gross margin dip, but we don't see a fundamental shift in kind of the range of gross margin that we're in right now. And in fact, Bratin and the teams are working aggressively to drive gross margin improvement over the multi-year period as we continue our data center optimization strategy and we just look for ways to better utilize the infrastructure that we have. So I think gross margin, you'll see a little bit of a drop in the beginning of the year. It'll come back and I'll keep pointing back to, but again, we're very confident in our 16% to 18% free cash flow margins for the year. So it'll all kind of wash out to better margins as we get gross margins there -- sorry, better pre-cash flow margins as we get through the year.

Your next question comes from the line of Patrick Walravens with JMP Securities. Please go ahead.

Oh, great. Thank you. So Paddy, you've been here a year, right? What has gone better than you thought it would and what has proved a little more difficult?

Yes. Hello, Patrick. Good morning and thank you for the question. Yes, super early for you. Appreciate you dialing in. What has gone better than I expected? I think our product innovation and our ability to really understand what our customers need at a deep level has been going better than I expected in the sense that when we look at the adoption, the reception from our customers and our hypothesis that our customers really, really want to stay with us. And we were saying that now we have green shoots to prove that it is the case. If we take care of them, they're going to expand with us. So I think that has been really awesome. The thing I wouldn't -- so the whole AI landscape, the way it is unfolding has been really interesting. And I'm super encouraged by the fact that we are staying very disciplined to our AI strategy, not getting caught up with deploying too much capacity and running after the GPU forms business model and things like that. It has been a really good learning experience for us and slowly but surely are -- some of our hypothesis in the AI space have also started bearing out in the sense that the cost of adopt -- so the two biggest impediments as I talked about in my remarks where, one, it is too complex and number two, it is too expensive for our customers, right? So we can really help with the complexity by making it super simple, especially with open source models. It gives us a lot [indiscernible] degrees of freedom to make it even more easier for our customers. And then number two is, make it super affordable. And that's exactly what we have started doing with the on-demand fractional access to GPUs and also our token-based serverless endpoints with the GenAI platform, especially with the open source model. So that has also started growing really well for us. So I would say those were the two key learnings for me over the last year.

Your next question comes from the line of Wamsi Mohan with Bank of America. Please go ahead.

Hi, thanks for taking my questions. It's [[indiscernible] filling in for Wamsi today. I have two. First one for Paddy. You launched a lot of products in 2024. Paddy, can you talk about the areas of investment in 2025? And thanks for disaggregating the Scalers+ at 22% of revenue. How do you see that percent, that cohort growing in 2025? And to do that, are you happy with the go-to-market investments you've made, or do you need to hire more salespeople? And I have a follow-up for Matt.

Okay, thanks. Great question. So I'll try to go very fast. So what are our product priorities for this year? So I'll break it down into core cloud and AI. On core cloud, we will continue our journey in terms of meeting our larger customers where they are in terms of their more sophisticated needs in terms of whether it is more management capabilities or security capabilities or networking, richer variety of droplets that are very specific single-purpose droplets and things like that. So we still have some amount of work to do to meet the needs of our larger customers and pave the way for larger workloads to move to DigitalOcean from other clouds. From an AI perspective, we'll continue to fortify our infrastructure layer, which is honestly quite robust and very scalable and highly appreciated by our customers now. GenAI platform is where we are going to have a lot of innovation to make it super, super simple for everyday software application company to consume and build agents into their applications. And finally, on the agentic layer, we have announced or we have launched in the last couple of months the site reliability engineering copilot through cloud-based first and then we'll make it available more generally. And it is our intention to keep pumping out more AI agents that solve real business problems. Rather than just doing things for R&D sake, we want to solve real world customer problems for our customers. And in terms of go-to-market, as I mentioned in my prepared remarks, we have already bolstered our -- the way we do customer engagement with our customers. And as we go through the remainder of the year, I'll give you more updates in terms of additional go-to-market motions that we are standing up. The good news for us is, we have tens of thousands, if not hundreds of thousands of customers that we can go and merchandise our expanding product platform capabilities and get a bigger chunk of the share of wallet. So as much as it is important to keep hunting for new logos for which we have a very efficient self-service product led growth funnel, a lot of our go-to-market efforts are intended or aimed at expanding the share of wallet with our existing customers, which is a very different, significantly more efficient go-to-market motion than trying to find a bunch of new logos. So we'll do a combination of both and I'll keep reporting our progress throughout the rest of the year.

Thanks for all the details there, Paddy. Matt, just a quick follow-up. On payables, it looks like sequentially it was up meaningfully. Is that because of the Atlanta data center investments or do you get a new contract that is driving that up? And what would ARR be under the old method in fiscal 4Q? Thanks for taking my questions.

Sure. So from a payable standpoint, it's definitely a function of us getting ready for Q1 for the Atlanta data center. Bratin and team did a phenomenal job of being able to accelerate some of the readiness of some of the services. And so we bought a bit more equipment earlier than what we had expected. And so, we were able to -- and still able to do that within the confines of our free cashflow that we delivered. So it was all about getting Atlanta ready to go and off to a good start. And from an ARR standpoint, I don't have the numbers specifically in front of me, it's in the reconciliations in the 10-K. It would have been higher in fourth quarter had we reported the December times 12 if we had not changed the approach. What we think is, again, we've got to remember, we're a consumption-based business. In a lot of cases -- even our AI is consumption-based. It's not like committed contracts. And so, if you measure the consumption at any given time and you multiply it by a number, you're going to get oscillations and variations based on whatever's going on at that period in time. So it's a more, I'd say, steady metric if you just average it over the quarter. And so despite the fact that it made us look like we had lower ARR, that's, I think, the right thing to do for the market to give you a metric that's, I think, more steady and less volatile. And that's why we did it.

[Operator Instructions] Your next question comes from the line of Mark Zhang with Citigroup. Please go ahead.

Oh, great. Good morning, team. Thanks for taking our questions. Maybe just -- thanks for the additional discussion on the Scalars. But how should we think of the behaviors of the Scalars+ versus the non-plus in terms of the pace of upsell, cross sell going forward? And why are we really see a more accelerated pace of growth in a non-plus Scalars cohort, just given the product and go-to-market, I first hear you guys have already implemented. And what can drive at least like past the -- or outpace the growth of builders? Thanks.

Thanks, Mark, for the question. The reason that we broke out the Scalers+ and the $100,000 plus customers is that the single biggest question we got from whether it was analysts or direct conversations with investors is, do we have a graduation problem? Like, do our largest customers leave us and those are your most valuable customers and you got a leaky bucket that's leaking from the most valuable part of the customer base. And I'd say there was an element of truth to that in that we certainly were struggling with those customers over the past several years, not meeting their needs, as well as we could have or should have. And that was causing a lot of the depression and NDR driving us below 100. With Paddy's arrival, with [Rutten's] (ph) arrival, with the pace of product innovation that we have, it's very, very squarely focused on those large, large customers for us. Again, a large customer for us is probably not a named account for the hyperscalers, but it's material for us. And what we've done is, as we said, we're going to focus on that cohort, we're going to make sure we're listening to them, we're going to rapidly give them the capabilities they need to scale on our platform and we've done that. And the response has been very, very positive where now we're talking about migrations for those customers bringing workloads either back to us or to us for the first time from the hyperscalers. And so it's been a dramatic turnaround. And we'll talk more about this in Investor Day in April, but if you look at the NDR improvement, if you look at the year-over-year revenue growth improvement, it's been dramatic within those top customers. And as Paddy and I have said, we think we have a tremendous wallet share opportunity with our customers. And clearly, as you pointed out, well, the Scalers, the customers below that $100,000 plus aren't growing as fast. Okay, well, we haven't gotten there yet. Some of those we're trying to with our new go-to-market motions, how do we pick and find the ones in that -- the customers in that cohort that have the highest propensity to spend, where we've got the lowest wallet share, and how do we go after those in a scalable way? I'd say what you're seeing right now is not low-hanging fruit because it's very difficult and it's requiring a lot of effort and these are important customers, but we're going after the biggest rocks first. The biggest rock was the top-spending customers and we're getting to the other layers as we progress through the year.

And the only thing I'll add is, the Scalers and Scalers+, they all look the same. These are the very similar looking customers. So that's the best news because now we can go and get and start working on the Scalers, as Matt just talked about, and get as many of them graduated into Scalers+ and keep expanding their share of wallet. And as we've been maintaining, Mark, there's a tremendous wallet share opportunity because they're all running substantial workloads, just not on us. So that's a great opportunity for us to go earn the trust of these customers and get more of their workloads.

Your next question comes from the line of Raimo Lenschow with Barclays. Please go ahead.

Hey, thanks for squeezing me in. One simple one at the end. What do you see out in the market in terms of the end amount, et cetera, and how is that helping you for this year? Thank you.

I'm sorry, could you repeat the question, I didn't catch?

Oh, I was just asking for what are you seeing in terms of end demand? If I look at the small business index, et cetera, that all starts looking better. Does that help you? Do you see help coming there from that one or is that all neutral for you? Thank you.

Yeah, so Raimo, thanks and nice to hear from you. From an end user demand perspective, we have not modeled any major variation in our guidance or our plans. So we are expecting it to be stable and just like how it has been over the last few quarters. And from our NDR improvement perspective, I mean, obviously there's a lot that we have done to control our own destiny and earn the right to keep our customers and keep them expanding on our platform. But hopefully the macro and the end user demand stays neutral to even positive, but we have not baked any of that into our projections.

Okay, thank you.

And ladies and gentlemen, that does conclude our question-and-answer session. And with that, that does conclude today's conference call. Thank you for your participation and you may now disconnect.