Q3 2023 DigitalOcean Holdings Inc Earnings Call
Hello. Good afternoon, My name is Jeremy and I will be a conference operator today at this time.
I would like to welcome everyone to the digital Ocean Q3, 'twenty 'twenty earnings Conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.
To ask a question during this time simply press star followed by the number one on your telephone keypad. If you would like to withdraw your question Press Star one.
Now I'd like to turn the call over to Rob Bradley Vice President of Investor Relations.
Thank you Jeremy and welcome everyone. So digital Ocean <unk> third quarter 2023 earnings call. Joining me today is Yancey Spruill, Chief Executive Officer, and Matt Stein, Our Chief Financial Officer.
Before we get started I want to cover our safe Harbor statement.
During this conference call, we will be making forward looking statements, including our financial outlook for the fourth quarter and full year as well as statements about our goals and business outlook industry trends market opportunities and expectations for future financial performance and similar items.
All of these statements are subject to risks uncertainties and assumptions.
You can be more information about these and the risk factors section of our filings with the SEC.
And everyone that our actual results may differ and we undertake no obligation to revise or update any forward looking statements.
Finally, we will be discussing non-GAAP financial measures on our call and reconciliations between our GAAP and non-GAAP financial results can be found in our earnings press release, which was issued earlier this afternoon and in the Investor presentation, which can be found on our investor website.
With that let me turn the call over to our CEO Yancey Spruill empty.
Thanks, Rob Good afternoon, and thank you all for joining us today.
Pleased to share our solid Q3 results, representing another quarter with an attractive balance of growth and profitability.
This afternoon, I will share an update on the search for our next CEO some broader macro observations that have been informed by customer and partner interactions and briefly recap some of the exciting product announcements that we've made recently.
I will also highlight a recent customer win that gives us enthusiasm for our productivity trajectory before turning the call over to Matt to go over the financial results and updated financial outlook.
On the CEO transition front, the search process is well underway.
And the board is making good progress in our recruitment of a new CEO.
There has been very strong interest from numerous leading technology executives.
We are confident that we will hire an.
And outstanding executive with extensive cloud infrastructure expertise.
The board of directors is deeply engaged with several candidates and we will continue to move these candidates through the interview process as the search progresses.
It is still too early to communicate a specific timeline for the hiring of a new CEO, but the board is working with focus and deliberate speed to fill this critical role.
Third quarter results were encouraging as the business delivered solid performance for both the top and bottom line perspective.
Revenue grew 16% year over year to $177 million.
Our first quarter, having lapped the Q3 2022 pricing actions and as we indicated we.
We have started to see at the tail end of Q2, we continue to see positive signs through Q3 and in early Q4 that there are abating trends from the growth headwinds from our cohort that we have seen over the past 12 months to 18 months.
Our margin profile for the core digital Ocean business was very strong for the quarter and enabled us to absorb the incremental cost from our paper space acquisition.
While remaining within our targeted range of adjusted EBITDA and free cash flow margins.
The combination of a stabilizing revenue growth rate and the efficiency, we have created in our core business is.
Having us to deliver robust free cash flow margins.
As we look to accelerate our topline growth rate, we continue to build distinct revenue growth drivers through product and infrastructure investments.
A big portion of our focus over the past several months has been on our ongoing efforts to deliver on our product roadmap and continue to add critical capabilities that enable our customers to build and scale their own businesses.
Through numerous interactions with customers prospects and partners, we continue to fine tune and evolve how we can best serve customers as they navigate the complexities of the cloud markets.
The consistent sentiment from our customers is that simplicity is foundational to our value proposition and relying on digital ocean to remove the complexities of the cloud is a productivity multiplier for that.
We are focused on enhancing our platforms performance reliability security and scalability, which enables us to retain and grow the spend of our customers and positions us to win new customers.
Over the past several months, we have delivered an increase in velocity of product releases and announcements as we focus on meeting our customers' evolving needs.
In September we launched manage Kafka, a new fully managed database service managed cost is a critical tool for businesses, whose model involves significant data streaming.
However for small and medium business customers. It often comes with increased complexity.
With our new fully managed Kafka as a service offering companies can focus on their development environment and not be slowed down by complex processes.
Customers have provided strong positive feedback about manage kafka, citing that it is allowing them to focus their time and resources on their customer facing activities.
Referring to their increased productivity as a game changer.
In September we also introduced premiums general purpose droplets <unk>.
Extending the premium features of enhanced CPU memory and storage to offer improved performance to a broader way of cloud native applications.
Our first generation premium dedicated droplet saw broad adoption and drove strong <unk> growth when launched at the beginning of 2021 as customers expanded their computing capabilities and migrated certain workloads to this premium compute offerings now.
Now we've taken it one step further and expanded the opportunity for more customers to use. These enhanced features with this new premium general purpose offered.
And just a few weeks ago, we introduced introduced scalable storage for Postgresql and Mysql manage databases to help customers better utilize their cloud spend by scaling to meet their storage requirements without needing to similarly scale their compute and memory configurations.
This introduction as a deliberate effort to better enable customer productivity on our platform.
By introducing scalable storage, we are better serving our customers as they can monitor and optimize their utilization they get the best return on their investment.
On the paper space front, we continue to be very excited by the addition of their AI and ml capabilities in.
And the expanded market opportunities that this business creates for digital ocean.
While we are still only a few months into the integration process the demand for paper space and services has been very strong.
And we continue to learn more about the market and how customers are leveraging our capabilities to develop and grow their businesses.
To give you a sense for one such use case I'll provide an overview of one of the exciting customers. We recently added to the paper space platform Company is gnomic, which was founded in 2022 to improve the explain ability and accessibility of artificial intelligence.
To date Gnomic has released two products and open source AI model GPT for all which is which is the third fastest growing repository and Github history and Atlas a tool that allows users to visualize unstructured datasets used to build large language models.
Nomex selected digital Ocean to access high performance compute along with their into along with their our intuitive software customer support and reliability.
Theyre cofounder was quoted as saying our team loves paper space.
Far more intuitive than other compute providers. It allows us to spend less time managing infrastructure, a more time building great products for our customers.
Their testimony to digital oceans combination of simplicity reliability and support along with the current demand environment that we see excite us for the opportunity ahead.
The rfps that we are seeing span across multiple verticals for multiple applications and demonstrates the opportunity for new customers to join our platform to not only build their AI applications, but also to scale their products, while utilizing the breadth of our Ias and paas capabilities.
In summary, we're making good progress with our efforts to bring on a new CEO and during this transition our business is seeing stabilizing revenue trends, while continue to deliver significant free cash flow.
We are seeing very encouraging signals that our topline growth rate, Greg is stabilizing relative to the last six quarters of deceleration.
We continue to work to Reaccelerate, our growth rate through targeted product and go to market initiatives.
The improved operating leverage we have created in the business over the past year is enabling us to make strategic investments, while still delivering compelling free cash flow margins.
We remain excited about our near and long term potential in the large and expanding 100 billion addressable market for SMB cloud infrastructure in which we compete.
As we approach the end of the year I'd like to thank each and every member of the digital Ocean team for their commitment to our customers and for delivering these solid results.
With that I'd like to turn it over to Matt to provide details on our financial outlook results and our outlook for the balance of the year.
Thanks, Nancy and welcome to all of you who are joining us on today's earnings call as we review our solid Q3 results.
In Q3, we continued to execute our strategy of accelerating the achievement of our long term margin targets in the core digital Ocean business, while positioning the company for accelerated future growth through both organic and inorganic investment in our platform. Despite the ongoing macro headwinds.
We have driven these margin improvements by achieving the savings that we had identified at the beginning of this year, which included improvements in our gross margin as we grew into capacity investments made in 2022 and the achievement of identified savings in both head count and non head count related expenses.
As we have continued to execute on these savings we have increased our overall profitability and free cash flow margin significantly, allowing us the flexibility to make targeted investments in growth <unk>.
During the first three quarters, we have continued to invest in organic growth by our product roadmap. As you described and in July we invested inorganically and the acquisition of paper space, which meaningfully increases our total addressable market.
With our strong balance sheet, our continued focus on improving operating leverage and our commitment to share repurchases. We have made material progress driving earnings per share increasing 22% year over year as.
As we approach 2024, our strategy remains the same.
We'll continue to drive operating leverage while balancing investment across organic and inorganic growth opportunities and share repurchases with.
With that context in mind I will review the highlights in the third quarter.
Revenue in the third quarter was $177 1 million, which was an increase of 16% year over year, and 4% quarter over quarter and our first full quarter that lapsed the price increase we implemented in early Q3 2022 <unk>.
Contributing to this growth was cloud ways, which grew 11% quarter over quarter and the addition of paper space. The AIA platform. We acquired in early July which contributed $3 million to our results for Q3, and which surpassed the $1 million in monthly revenue Mark in September.
Profitability was very strong as we delivered $75 8 million of adjusted EBITDA of 43% margin for the second consecutive quarter.
Adjusted EBITDA margin improvements are the result of improving gross margins as we grew into the incremental data center and bandwidth capacity investments that we've made in late 2022, and the ongoing benefit of the efficiency improvements that we had identified in Q1 of this year and have been realizing throughout the year.
Free cash flow was also a highlight in the quarter as we generated $56 million, which was 32% of revenue.
This 500 basis point improvement from Q2 was the result of both lower capital expenses and working capital timing.
Given the working capital timing dynamic coupled with our anticipated near term paper space investments, we expect free cash flow margin in Q4 to be lower than Q3 levels.
While free cash flow margins can be lumpy quarter to quarter, we continue to be confident in our full year free cash flow margin expectations.
Finally, non-GAAP earnings per share was <unk> 44.
Which is a 22% year over year increase as we've increased our profit margins, while having simultaneously reduced our shares outstanding through our systematic share buyback program.
Yes.
As expected net dollar retention declined in Q3 to the mid nineties coming in at 96% as we lapped the price increase that was implemented in July of 2022.
Fortunately, despite the difficult year over year comp in Q3, we did continue to see evidence of the ongoing stabilization of market demand that had started to show signs of bottoming in Q2.
As it has been for most of 2022 churn remained stable at historical levels around 11%, 12% for each of the months in Q3, which is consistent with historical churn levels in early 2022 prior to the market slowdown.
Contraction, which has historically been in the 12% range in early 2022 showed improvement as we progress through the quarter ending at 15% after starting the quarter at over 16%.
We also saw positive signs of expansion in Q3, which was the final metric. We said we needed to see for stabilization as it continued to decline in Q2, albeit at a decelerating rate.
In Q3 expansion stopped declining for the first time in over a year and it was fairly consistent at 23%.
While we have not yet seen a meaningful improvement in India. We are encouraged by the relative stability of the key component metrics in Q3.
We expect <unk> to improve in Q4 and early 2024, driven in part by the continued strength of the cloud wins business and more favorable year over year comparisons.
From a customer perspective, our durable customer acquisition and graduation model remains solid despite the challenging growth environment.
We graduated 4000 builders and scalar is on our platform in the quarter and we now have more than 154000 on the digital auction platform.
These customers who spend more than $50 per month with digital Ocean continued represent 86% of our overall revenue and remain a key focus of our product sales and customer success investments.
Average monthly revenue per customer or <unk> was $92 six.
Which was an increase of 6% year over year, which like endear faced a difficult year over year comp as we lapped the price increase from last July.
Before providing guidance for Q4 and for the full year 2023. It is important to understand where we are in the 2020 for planning process. We are working diligently to finalize our plan and budget for 2024 with a focus on delivering double digit growth with healthy profits and free cash flow margins are.
Our strategy will remain the same in 2024, we will continue to drive operating leverage in the core digital ocean business, while investing to take advantage of the compelling market opportunity, we have with paper space.
As we shared last quarter. Despite the continued market pressures. We believe we have a solid foundation for double digit topline growth for 2024 with our steady self served funnel generating around 5% growth.
Good ways generating around 3% growth in paper space, producing at least 3% growth.
Key to growing faster than this we will be getting endear above 100% at some point in 2020 for which we are working aggressively to accomplish.
We look forward to providing more specifics on our planet. Our next earnings call in February when we report our Q4 and full year results.
In terms of financial guidance for Q4 of 2023, we are targeting revenue to be $178 million.
For the fourth quarter, we expect adjusted EBITDA margins to be in the range of 36% to 37% and non-GAAP earnings per share to be 36 to 37.
Based on approximately $100 million to $101 million and weighted average fully diluted shares outstanding.
For the full year, we are targeting revenue to be $690 million.
Given the strong performance driving margin improvement in our core digital Ocean business. We continue to project adjusted EBITDA margins to be in the range of 38% to 39% for the full year. Despite our increased investment in our paper space AI ml business.
We project non-GAAP earnings per share to be in the range of $1 52 to $1 54 with weighted average fully diluted shares outstanding for 2023 of $102 million to $103 million.
And finally, given the strong progress we have made on improving margins in our core <unk> business for the full year 2023 full free cash flow will be 21% to 22% of revenue consistent with our initial February guide despite the incremental investments, we're making into a paper space business.
That concludes our formal remarks, and we'll now open the call up to Q&A.
Alright, perfect. Thank you at this time I would like to remind everyone in order to ask a question Press Star then the number one on your telephone keypad I'll pause just for a moment to compile the Q&A.
All right. Our first question comes from the line of Raimo <unk> from Barclays. Raimo. Please go ahead.
Thank you and congrats on a great quarter, and it's nice to see the stabilization and improvement.
My first my first question is on paper space.
Can you kind of.
Talk a little bit about what you're seeing in the customer base in terms of how you see the adoption did because like at the moment for us AI, there's a lot of big companies and co pilots and stuff like that can you talk a little bit about like practical use cases, how like smbs.
Using this and what are you seeing there in terms of excitement about that and then I had one follow up on financials. Thank you.
Well.
The customer base I think gnomic that we provide an example is a good example of it.
So there are a diverse array of use cases verticals.
People targeting.
Building large language models for specific use cases, creating tools that enable people to use AI productively.
These are tech enabled businesses.
I don't know that we would call them smbs, because I think they have aspirations to grow very rapidly.
Supporting a broad set of use cases, but the good news is the.
The value proposition that we offer and the complementary aspects of the paper space platform, which is built around simplicity is making it easy for people to come onto the platform and I think thats been a distinguishing characteristic for us over the life of digital ocean and exciting to see that value proposition.
The weighted heavily as we move into the AI opportunity.
Okay Perfect and then a quick question quick question on the free cash flow. So obviously very strong performance this quarter.
You called out Capex, and working capital a little bit as factors to here, but.
How do you think about that those two factors that you mentioned Dara in terms of like in theory use some of that could be driven forward or was it just timing. Thank you.
Thanks Raimo.
There are still staying with our full year guide for this year, 21% to 2%.
We will have some of the working capital.
Catch up in the fourth quarter, it's looking at free cash flow margin on a quarterly basis is tough just because it's a lot of influenced by timing of payments. So that will normalize in the fourth quarter and then in the fourth quarter were also given some of the equipment purchases. We made when we acquired paper space that are coming in we expect that.
To hit Port partially in the fourth quarter as well so again, the full year guide of 21% to 22% and still is still the right way to be thinking about it and it's great that we have the margins as high as we do this.
This quarter, which is evidence again of the core <unk> business as we said we were going to drive.
Free cash flow margins into the high <unk> and approached 30 by the end of the year and we've done that and we're using that as a.
Amines and funding.
The growth opportunity that we have to drive more revenue in the vapor space business and yet we're still able to come in at 21%, 22% for the year, So and we're really happy with the progress we made.
Excellent Yeah, I know many good performance. Thank you.
Yes.
Alright. Our next question comes from the line of Mike <unk> from Needham <unk>, Mike. Please go ahead.
Hey, guys. This is macro AJ on for Mike Cecos over at Needham.
Thanks for taking our questions.
I know.
You hit on this a little bit, but kind of coming from a different angle.
Is there anything one time.
Or anything.
I guess that sticks out as far as shifts in timing of expenses.
That you would call out.
The reduction to the implied for Q EBITDA guide.
Timing of the expenses related to the EBITDA.
The sequential decline in EBITDA I mean.
This is again.
Yes.
Per space being onboard that's clearly, causing some.
A couple of basis point impact on the on the margins is just a different margin business given its not at scale.
And then as we invest to grow the business into next year, both the core digital Ocean business and.
The paper space business, it's there's nothing kind of onetime in nature.
The guide for EBITDA is 38 to 39 for the year is the right way to think about it.
I don't get caught up in the margin kind of.
The quarter over quarter margin fluctuations that you got to think about it over a longer period.
Got you that's helpful. Thank you.
And then.
Any way as the customer base and showing any potential signs of greater caution given news on the broader macro or are digital native pressures in the SMB space.
I think what we said is we're pleased with churn is.
The relatively stable now for several quarters as we move through the year, we saw improvement in contraction as we move through Q.
Three.
That continues at a better level than it was six months ago.
And we're seeing stabilizing signs and expansion and so I think those are the biggest telltale signs for up for us as it relates to what our customers and new customers and existing customers are seeing that.
Things seem to be stabilized.
Great. Thanks, so much for the color.
Our next question comes from the line of Josh Baer from Morgan and Stanley Josh. Please go ahead.
Great. Thank you congrats on a good quarter.
Was hoping you could break out some of the.
Some of the metrics around paper space contribution to IRR and just how to think about the contribution to the different customer cohorts.
So from an IRR standpoint.
Well I think we said what it was $2 8 million in the quarter, it's going to be just a little over three we're going to end up around six for the year.
The year, so from an IRR standpoint.
Going to be.
But the north of 12.
Because thats, where the quarter is ending to from a customer account standpoint, it added about I.
I'm going to say 12000 customers in total to the customer base and again the average revenue per customer there is a lot bigger so closer to average is 900 ish.
So they tended to be added to the.
To the scalar.
Segment in the building segment.
Great. Thank you.
Apologies if I missed this just looking at Capex as a percent of revenue that's pretty low understand that can be lumpy.
It is a priority to invest in paper space, but how.
How should we think about the trajectory of of that Capex spend in.
And is it a good leading indicator for your demand and topline growth.
No I don't think its a good leading indicator of the demand because it is lumpy.
We were originally tracking to be about 15% for the year and what we said with paper spaces will be closer to 17.
17%.
And capex as a percentage of revenue for the year and some of Thats just its lumpy I mean, we ordered.
Gear right out of the gate when we buy when we bought paper space and we increased that amount because we're seeing a lot of really good demand and just the supply chain around Gpus, it's unpredictable and and so we didn't get everything that we ordered in Q3 in Q3, and we're going to get started to get some of that in Q4, and then we'll start to get some more of it in <unk> and <unk>.
Early next year. So it's really is working capital and.
And the timing of that Capex purchase, but it's not a that's why we're saying for the full year, we're still sticking to the 21% to 22% free cash flow and still the target.
Around 17% Capex as a percentage of revenue for the year.
Got it thank you.
Our next question comes from the line of Patrick <unk> from JMP Patrick. Please go ahead.
Oh, great. Thank you very much and it's nice to see that business stabilizing. So my question is on <unk>.
Paper space.
How are your GPU cloud data centers different than your traditional CPU cloud data centers that you had with digital ocean.
What's that.
GPU cloud data center footprint looks like today, and where are you going to taken obviously, it's been a big issue in the industry lately.
Well GPU.
Sure.
Servers have heat different heat consumption much higher heat consumption.
So the physical footprint is.
There is less dense than you might with standard compute I think that's one of the principal differences.
We're still evaluating and as Matt mentioned in the 2020 for planning process around.
What the level of investment pacing and that May include how to think about evolving the datacenter infrastructure for both companies are for the combined company.
And incorporate the fact that it's going to be a mix of GPU and standard compute CPU going forward I don't think any decisions have been made on that we've been fortunate in some of the papers space data center footprints are very close with proximity including in one particular.
Particular case in the same building.
And we will see how we evolve that as the demand we're learning a lot obviously the demand is incredibly strong and we're seeing what our.
Where we're playing in that market, how we're going to grow it.
And how we're going to need to add to the capacity footprint to support that growth not just in terms of buying service, but the physical inputs and.
And to make decisions on that.
We get into next year.
Alright, great. Thank you. Thank you.
Our next question comes from the line of Jim Fish from Piper Sandler Jim. Please go ahead.
Hey, Thanks. This is quentin on for Jim Thanks for taking my questions.
First you've seen significant product launches in that kind of call. It non core compute side of digital ocean with storage and managed Kafka kind of at the most recent months can you talk about how the team is thinking about bundling or potentially packaging those noncore compute with maybe compute and paper space coming on and how we kind of can adapt.
Some of the go to market motions with us.
We've incorporated some of the effort for combined customer some of the feature functionality security and other tools that make it easy and seamless across the board to use.
AI in the standard products.
I think bundling.
Some of them.
Items that I highlighted scalable storage the premium droplets reflect.
This concept of bundling, which we've been talking about for a year to two years with investors that as a real opportunity for us to as we learn more about customer use cases and industry verticals.
The decoupling of compute from network bandwidth and storage is a key theme that we keep hearing.
And security and other attributes of the product set and so I think having a strong foundation now with standard and AI compute.
Strong foundation, and bandwidth and security and other capabilities are in storage, it's giving us the building blocks to be able to do bundling and unbundling to better meet our customers' needs as we it was we highlighted today with the recent launch of scalable storage.
If a use case needs more storage, but doesn't need more compute let's give them that option.
More efficient growth path for customers, So I think thats going to be a continuing theme.
And.
As we get into next year, we'll have more to say about sort of more integrated product bundling as it relates to both AI and standard compute but thats certainly the concept of bundling and packaging.
Pretty significant opportunity for us.
Makes sense and then obviously you talked a little bit about wanting in the search for a new CEO, you're wanting a year that has that kind of core cloud experience, but as you think about kind of the skills. In the background are you looking for someone with more technical background or are you looking for an operational our sales kind of leader, maybe any sort of color you can give on that.
Underlying skills would be helpful.
Yes. The board is very engaged right now and finding a CEO as we've described in the prepared remarks, it's an active process. That's a deliberate process, but it's moving with as fast as possible without sacrificing the screens needed to canvass the market.
There's not a timeline to announce anything and we sort of spoke to were clearly looking for somebody with cloud experience, but not going to speak any more to the <unk>.
To the processor to the candidate for beyond that.
Got it thank you.
Our next question comes from the line of Kingsley Crane from Canaccord Genuity Kingsley. Please go ahead.
Alright, thanks for taking the question.
We noticed on cloud ways website.
No longer offers infrastructure services from SMB cloud competitors like Vulture.
All including options for public cloud like AWS and GCC. So are you actively converting customers over to digital infrastructure is primarily a new business dynamic.
It's mostly a.
Our new business dynamic we still have.
Cut to support customers on each of those platforms.
But from a from a go forward basis, we still offer the options to go multi cloud through the Hyperscale orders are through through our platform.
But we continue to support partners that drive.
Opportunities through some of those.
Providers and clearly we have a.
The healthy installed base of customers that are leveraging other providers as well.
That's a change that was made.
Earlier this year in Q2.
Okay very helpful and the second one would be.
The momentum behind the <unk> accelerator program, how important of a customer ramping mechanism as it's become for you and is there an opportunity to include paper space as part of the program.
So there's certainly an opportunity to include paper space as part of the program in the hedge program is something thats been a part of the company for a long time and as we as we look for ways to accelerate the business and drive more adoption through the self serve funnel and that's certainly one of the areas that we continue to invest in but.
It's certainly an opportunity to bring in both cloud way than paper space into into that kind of a program.
Great. Thank you.
Our next question comes from the line of Jason Ader from William Blair. Jason. Please go ahead.
Yes. Thank you.
Wanted to ask.
Go to market strategy.
Adjacent zinc, we can't really hear you can you.
Speak a little louder.
Yes.
Is that any better.
Okay Alright.
<unk>.
Yes.
I was asking about the go to market strategy and just as you look out, especially over the next couple of years.
How would you frame sort of where you've been.
What youre doing now in terms of maybe some changes and then where you want to go just from an overall go to market standpoint, because I know you've been very much sort of.
Kind of bottom up driven historically.
Yes.
Good question Jason.
The self serve funnel has been the primary vehicle for adding new customers.
Do you think about net new logos clearly the endear drives revenue growth from the cohort, but in terms of driving.
New go to market around acquiring new customers has been primarily through the self serve funnel and as we said it delivers a very healthy.
And the 33% to $35 million range of new revenue, we've invested over the past call. It several years to try to expand.
The go to market channels to include more of a direct sales motion, where we would target customers that are on some of the larger clouds that maybe at the smaller end of their customer base.
We're the <unk>.
Improved customer service and more of.
The direct exposure to the company and ability to talk with the customer service people would be attractive also the economics.
It would be a cost savings and when simplicity is valuable to them. So that's something that we've invested in I would say that's still very early innings.
And one of the things that we've learned over the course of this year and through the slowdown or some of the product enhancements and capabilities that you would need in order to attract the customer off of one of the larger hyperscale or and so thats clearly feeding into our product roadmap and the capabilities that we're working to develop right. Now there is also the opportunity to expand.
The partner.
Channel, we have a lot of partners on our platform today.
And web agencies and developers building websites for other other companies, but historically, we've treated them very much just like our customers. So they come on and they have their own requirements in.
And we meet those requirements, because we didn't treat them really differently as a partner and we're investing too.
To expand the capabilities there because that's a great source of potentially us reaching parts of the market, we might not otherwise reach you wouldn't wouldn't self identify and come to our platform. So we're.
We think as you think about it over the next several years that the ratio of new new sales too.
To self serve should be.
Great to get it to be 50 50.
We've got a ways to go to get there we are still very nascent I'd say in the channels outside of the self serve motion that's been the foundation of the company's growth.
Great. Thanks for that background, just one quick follow up on that it would be helpful. I think for investors as you go forward just to provide some proof points on.
Some of those.
Newer channels.
Maybe anecdotes of.
Customers that you've taken away from the hyperscale or as et cetera, just because I think that would be helpful for everyone to kind of just understand how that motion is working.
Great skill suggestion, Jason. Thank you. Thank you.
Yeah.
Yeah.
Our next question comes from the line of <unk> Patel from Jpmorgan. Please go ahead.
Hey, guys I'm on for pendulum, Laura Thanks for taking my question.
Any early feedback on the manage cost of service.
Maybe some use cases, there and do you think it could be a tailwind to growth next year.
Well as I mentioned the feedback has been very good very positive we have lots of businesses on our platform that are big data streaming.
Whether it's ecommerce or gaming or other businesses, where there's a lot of data and a lot of data streaming which is.
The use case or a principal use case that is highly aligned and very productive or more productive on kafka than other services. So it's a natural fit for our customer base and the feedback has been great because again.
Others have copco, but it's not built with simplicity as we cited in the in the script. The feedback has been very positive.
As it is a productivity enabler for our customers because they don't have to spend as much time, managing kafka, which other solutions are more complex and that's giving them more productivity to focus on their customer facing.
Activity. So we absolutely it's it won't be material or significant this quarter as the adoption ramps.
<unk> launched late last quarter, or just recently, but we will see that becoming a more meaningful contributor as we move through 2024.
Okay. Thank you and then on paper space. It seems like it's doing well are you still baking in less than $5 million in contribution for banks for the second half of this year.
I think what we said is.
I mean, we've disclosed the actual revenue.
And for the third quarter, and we said that the run rate is a $1 billion in September so to just extrapolate that puts you at about six.
Okay. Thanks for taking the questions.
And our next question comes from the line of <unk> Mohan from Bank of America <unk>. Please go ahead.
Hi, This is Matt ESR, we said taking a question on behalf of Juan Thank you for taking the question.
I was wondering if you could talk more about.
The underlying drivers in terms of the mix in terms of the Rps growth, especially for the upsell and attach and how are you thinking about like the trajectory for the RP.
So.
The ARPA growth again year over year. We said was was 6% which was was low relative to historical based on.
Compound.
Price.
Given the price changes, but if you look at the products that we announced during this year.
The Piceance you talked to a number of them, but we have launched a number of them earlier this year and we have a roadmap.
It is designed to appeal to a larger set of our customers.
Products and capabilities like integrated identity, and access management, I am or role based access control.
Virtual private cloud certain certain capabilities that really resonate with some of the customers that have gotten to more scale on our platform, that's really where the focus is in our and our development in the near term that enables us not only to continue to kind of take big share of our own customers workloads as they grow.
So we don't have to move off to the cloud and other cloud providers, but it also enables us as I mentioned earlier to accelerate the direct sales if youre trying to poach.
Customers smaller customers off the larger providers. These are some of the same capabilities you need so that's really where the focus is on driving <unk> as is on being able to provide the capabilities that enable our customers to continue to scale on our platform as we.
<unk>.
It could get better meet and deliver on their requirements.
If I could follow up could you guys talk more about like what's the health of the SMB customer at the moment and is there any improvement in the usage trend.
Yes.
We talked about this earlier, if you look at that from a macro standpoint.
I think what's been going on in the market our customers have not been growing as fast their own businesses as they were historically.
And we see that through the expansion that they get with US a year ago, we were seeing expansion from our customers that we are growing in the high thirty's and we've seen that be declining month over month for well over a year.
Down into the 'twenty, two 'twenty, 3% range, but thats stabilize and so our customers the decline in their growth appears to be to be stabilizing in a similar vein.
Because we're seeing that.
That stabilization expansion, while we also saw with the customer base over the beginning of this year was that they were optimizing their spend and that they were reducing the amount that they were in <unk>.
<unk> and software and that causes contraction.
While with the contraction is still elevated relative to historical it's around 15% right now historically it was pretty consistently around 12.
That has been stable for the.
The past two quarters and actually has started to improve so we think that just like.
We saw the downturn, perhaps earlier than others because of the usage based nature of our platform, we don't have renewal cycles and when.
And when a customer needs to spend less with us they just spend less and so we saw the impact early and we will likely see the.
Return early because it's because of the nature of the business.
Thank you congrats on the quarter.
Alright, perfect and our final question comes from the line of Michael <unk> from Keybanc. Michael. Please go ahead.
Hey, guys Billy on for Michael just a quick follow ups that last question.
You see some of the.
Meeting metrics kind of stabilizing in the business anything you'd call out that was notable in different verticals or customer segments.
No actually thats something that we spend a lot of time assessing.
Assessing and the nice thing one of the nice things about the digital ocean customer basis. It's so diverse 70% of the revenue comes from outside the U S. There is no single vertical there is no single use case there is no single.
Region that drives a disproportionate amount of our our business, we really track kind of broad SMB in startup and developer trends and and so the recovery in the stabilization has been.
It has been pretty consistent across all of them, but we don't see kind of laggards and we don't see any of that.
Kind of race to add it's.
Part of the appeal is it's a very very diverse and distributed customer base.
Great. Thank you.
Thank you all for joining us we're excited to two <unk>.
<unk>.
Very solid quarter with a lot of encouraging trends and I. Appreciate your time. This evening and hope you have a good rest of the day.
That concludes today's call have a pleasant day.
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