Snowflake (SNOW 0.39%) stock has seen some volatile swings since the company went public in September 2020. While the data services specialist's shares once traded above $400 each, it's seen some big pullbacks in conjunction with macroeconomic shifts and some business-specific developments. The company's share price is now down roughly 30% from market close on the day of its initial public offering, and down 56% from the lifetime high it reached in November 2021.
While the stock has explosive upside potential, it also comes with significant risk factors that could derail the bull case. If you're considering investing in Snowflake stock, or already own shares, read on for a look at key dynamics that could shape where the stock heads next.
Green flag: Snowflake could be an important AI player
Snowflake provides a platform for combining, storing, and analyzing data. With the company's data-warehousing tools, customers are more able to combine data sets from different cloud platforms.
In order to train artificial intelligence (AI) models to deliver high-quality performance, it's typically necessary to feed in relevant data. Because large companies today typically generate data from applications run on multiple cloud infrastructure services that are walled off from each other, it must first be combined before it can be effectively utilized by AI systems.
Customers pay Snowflake according to a consumption-based model. This means that as projects are launched and scaled, the company is set up to significantly expand the amount of business that it does with customers. Snowflake recorded a 151% net revenue retention rate in the first quarter, representing a 51% average year-over-year spending increase among clients that were using its services.
In the quarter, more than 1,500 of the company's customers used its platform for data science, machine learning, and AI, up 91% compared to the prior-year period. Snowflake is already seeing some encouraging utilization of its platform for services in these categories, and use is on track to scale dramatically going forward.
Red flag: Valuation comes with elevated risk
While Snowflake grew product revenue by 50% year over year to reach $590.1 million in the first quarter, that represented a substantial step down from the 84% growth that it posted in last year's quarter. Additionally, the company expects continued growth deceleration through the remainder of the year.
Management is now guiding for annual product revenue of $2.6 billion, representing growth of 36% annually. Notably, this is significantly lower than the guidance for growth of 40% and product revenue of roughly $2.7 billion that management had issued earlier in the year.
SNOW PS Ratio (Forward) data by YCharts
With the company valued at 21 times this year's expected sales, Snowflake has a hugely growth-dependent valuation at a time when sales momentum is slowing and there are significant macroeconomic risk factors on the horizon.
Growth stocks have enjoyed some strong rebound momentum across the first half of 2023, but there's a risk that macroeconomic pressures will once again create more bearish conditions for companies in the category.
After taking a breather on rate hikes with their last meeting, Federal Reserve officials have indicated that the central banking authority will serve up more interest rate increases this year in order to continue combating inflation. It's also possible that the U.S. economy will shift into a recession this year or next, which could put additional pressure on Snowflake's sales growth.
Should you buy Snowflake stock?
Snowflake has established itself as an early leader in a tech niche that will likely become increasingly important. The ability to access and analyze data is at the heart of the AI revolution, and the company's platform is providing solutions that could play a key role in the foundation and scaling of artificial intelligence models. For risk-tolerant investors looking for AI stocks that have the potential to deliver big wins over the long term, Snowflake could be a worthwhile portfolio addition.
On the other hand, the company's highly growth-dependent valuation means the stock probably won't be a good fit for those without above-average risk tolerance. While Snowflake has intriguing long-term expansion avenues, macroeconomic pressures are already dampening its sales growth, and there's a significant amount of speculation involved in charting the business's trajectory.
