This is turning out to be a good year for technology stocks. Investors seem to have regained their confidence in the sector on the back of cooling inflation and the Federal Reserve’s reduction in the pace of interest rate hikes, which explains the 19% gain in the Nasdaq-100 index.
The stock market rally has rubbed off positively on shares of Amazon (AMZN) and DigitalOcean (DOCN). While Amazon stock is up 21% so far this year, DigitalOcean has gained 44% as of this writing. Both stocks are trading at attractive valuations even after their impressive gains so far in 2023. Let’s see why these stocks are built for more upside.
1. Amazon
Amazon had a forgettable 2022 thanks to a tepid e-commerce market and a slowdown in the cloud computing business, which eventually led the tech giant to slash jobs from lucrative areas of its business. Revenue increased just 9% last year to $514 billion. The company posted an adjusted loss of $0.27 per share as compared to a profit of $3.24 per share in the prior year. However, 2023 is expected to be a turnaround year for Amazon as far as its bottom line is concerned.
The company’s top-line growth is also expected to gather momentum, growing in the high single digits in 2023 and then in the double-digits from next year. A slight improvement in the e-commerce market’s prospects, robust growth in cloud spending, and Amazon’s growing influence in the advertising business are some of the reasons the company’s fortunes should start picking up.
For instance, Amazon should benefit from easier comps in the e-commerce business in 2023. The global e-commerce market grew by just 7.1% in 2022 following a 16.8% increase in 2021. The market is expected to grow at a slightly better pace of 8.9% in 2023.
Meanwhile, global cloud infrastructure spending is anticipated to jump an impressive 23% this year, according to Canalys. Amazon’s 32% share of this market makes it the leader in the cloud infrastructure services space and puts the company on track to make the most of the solid growth opportunity available there.
Investors, however, should note that emerging tech trends such as generative artificial intelligence (AI) could help Amazon record faster growth in 2023 and beyond. Generative AI company Stability AI, which is known for its popular text-to-image model Stable Diffusion, has made Amazon Web Services (AWS) its preferred provider of cloud services. Stability AI will use AWS to scale and build its generative AI model.
Given that the generative AI market is expected to clock rapid annual growth of 34% through the end of the decade, demand for cloud-enabled AI services should increase at a nice pace. Mordor Intelligence estimates that the cloud AI market could grow at 22% a year through 2027, and Amazon’s share of this market means that it could become a big beneficiary of this terrific growth.
That’s why investors who haven’t bought Amazon stock yet may want to act before it’s too late. The stock is trading at just 2 times sales, a discount to the S&P 500’s price-to-sales ratio of 2.4. So, investors are getting a bargain on this tech stock right now, especially considering the potential acceleration in its top and bottom lines.
2. DigitalOcean
DigitalOcean is another fast-growing company that investors may want to add to their portfolios before it’s too late. That’s because the stock now sports a sales multiple of 6.5, which is higher than the reading of 4.9 at the end of 2022. Even so, DigitalOcean’s valuation is still quite a bit cheaper than it was a year ago.
Additionally, the stock has a forward price-to-earnings ratio of just 22.7, which is lower than the Nasdaq-100’s forward multiple of 25.7.
DigitalOcean is a cloud computing infrastructure provider that offers on-demand infrastructure and tools to business entities, enabling them to build and scale applications across multiple servers without having to compromise on performance.
The infrastructure-as-a-service and platform-as-a-service markets that DigitalOcean serves are expected to clock a compound annual growth rate (CAGR) of 26% through 2026, creating a $195 billion addressable revenue opportunity for the company. DigitalOcean reported $576 million in revenue in 2022 — up 34% over the prior year — indicating that it is benefiting already from this fast-growing market.
DigitalOcean forecasts $710 million in revenue in 2023, or a 23% jump over last year. The company also aims to deliver earnings of $1.67 per share, which would be a jump of 77%. However, a combination of higher customer spending and an increase in DigitalOcean’s customer count could help it outperform these expectations.
The company reported average revenue per user (ARPU) of $80.27 in the fourth quarter of 2022, a 22% jump over the year-ago quarter. Meanwhile, there was an 11% year-over-year increase in the company’s customer base over the prior-year period to 677,000. Of these customers, 468,000 are learners, whom DigitalOcean classifies as those customers who have been using its platform for at least three months and have spent at least $50 on its offerings.
These learners generate ARPU of $15 for DigitalOcean. The company has been witnessing an uptick in the graduation rate of these learners into higher-paying tiers such as builders and scalers. Builders spend between $50 to $500 on DigitalOcean every month with an ARPU of $135. Scalers have a much higher ARPU of $1,974 as they spend over $500 a month for DigitalOcean’s services.
So, a massive pool of learners should pave the way for robust long-term growth at DigitalOcean as they graduate into higher tiers. DigitalOcean’s earnings are expected to clock a CAGR of 52% over the next five years, which is not surprising given the strong margin growth that it has been enjoying.
The company’s non-GAAP operating margin increased to 18% in 2022 from 12% in 2021 and just 6% in 2020. Further growth in DigitalOcean’s ARPU through the successful conversion of more learners into builders and scalers should help it improve its margin profile.
As such, DigitalOcean looks like an enticing growth stock to buy right now since it could sustain its hot rally.
— Harsh Chauhan
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Source: The Motley Fool