It doesn't take long to hear the phrase "data is the new oil" when investing in the tech space. While this analogy shouldn't be taken too literally, it isn't that far-fetched. Businesses are generating mountains of data, and, if harnessed correctly, data can provide valuable insights into consumer behavior, business execution, and efficiency metrics.
However, processing and storing that data can be a monumental task without outside help, which is where Snowflake (SNOW -1.99%) thrives. With its data cloud offering, nearly any entity can find the tools it needs to produce actionable insights. The industry Snowflake operates in is an emerging and important one. But is it investible?
A robust data platform that customers love
Snowflake's software has multiple verticals that ensure its customers have a complete solution. First, it allows businesses to store data effectively through multiple cloud providers, allowing customers to scale their needs quickly. It also provides the cybersecurity necessary to protect this data.
After the data has been stored, data scientists can run different queries and harness the power of machine learning and artificial intelligence to create actionable insights. Additionally, these data streams can be harnessed to fuel applications, ensuring that these programs are fed with the most up-to-date information possible.
One area where Snowflake resonates with customers is its pay-as-you-go model. Instead of signing one expensive contract for a service that may not be fully utilized, Snowflake realizes revenue on its contracts based on usage. Additionally, the service can be turned off and on as needed, but discounts are achieved when companies commit to continuous use of Snowflake's software.
Customers also love Snowflake as a company. For the fifth year in a row, Snowflake posted a 100% Dresner customer satisfaction score. It also has a net promoter score of 72, which indicates its customers actively promote the product to peers.
Snowflake has a great solution that customers love, and its financials also back up this fact.
An expensive stock for a top-tier business
Snowflake has grown like a weed since going public. In its second quarter of fiscal year 2023 (ending July 31), Snowflake posted impressive year-over-year (YOY) revenue growth of 83%. However, this rapid growth rate is the slowest Snowflake has grown its revenue in its time as a public company.
SNOW Revenue (Quarterly YoY Growth) data by YCharts
Does that mean investors need to be worried? Not at all. As companies mature, it becomes increasingly difficult to continue posting rapid revenue growth simply because there aren't enough customers to support that growth. Snowflake's management also recognizes this, as product revenue growth is projected to be 61% for the upcoming quarter. Still, analysts expect Snowflake to grow its revenue by 30% in FY 2024, so Snowflake still has a lot of room for growth.
Revenue growth is critical for Snowflake because it's currently unprofitable.
In Q2, Snowflake lost $208 million in operating profits for a loss margin of 42%. A significant chunk of this comes from stock-based compensation, which isn't a cash expense. Snowflake's charges associated with stock-based compensation totaled out to $214.3 million this quarter, enough to offset its loss.
Obviously, if Snowflake stopped its stock-based compensation, it would either lose employees or have to pay them in cash, which would still translate to Snowflake's earnings.
But paying employees with stock does mean Snowflake is free-cash-flow (FCF) positive. In Q2, Snowflake generated $54 million in (FCF), allowing it to add that cash to its balance sheet. As economic headwinds develop, Snowflake's positive FCF state will be vital, providing a steady stream of cash to fund operations and make strategic acquisitions.
The most significant risk to Snowflake's stock is its valuation. When Snowflake went public, it traded for more than 150 times sales. That's an absurd valuation, and it contributed to the stock's mighty fall from its high (Snowflake is down 55% from its all-time high).
However, through revenue growth and a price correction, Snowflake now trades at a more reasonable, but still very expensive, 34 times sales. To maintain this valuation, Snowflake will need flawless execution for multiple quarters and to deliver good guidance. If it doesn't, the stock will likely get whacked, opening up a fantastic investment opportunity.
Snowflake's platform, growth, and customer satisfaction are top-notch, contributing to the high stock valuation. Investors need to be careful purchasing Snowflake's stock here, but the long-term opportunity is undeniable (Snowflake pegs its market opportunity at $248 billion by the end of 2026), and the company believes it will be producing $10 billion in revenue by 2030.
I'm a cautious buyer of Snowflake's stock now, as I don't want to miss out on a great company. However, I will be opportunistically buying, as the stock's valuation is a considerable risk.
