Snowflake (SNOW 1.31%) has been a high flier in the market for some time. While the stock used to trade at more than $400 per share, it's down to around $170 now. Furthermore, the stock is well off the $245 it was first available for public purchase when it debuted in September 2020.
With Snowflake down that much, some investors may think about picking up some shares, as it looks like a decent value. But is that the case, or is Snowflake's stock still costly? Let's find out.
Generative AI could be a business boost for Snowflake
Snowflake's products are centered around a concept it calls the data cloud. The premise behind the offering is that its clients generate a lot of data but can't efficiently store or process it. With Snowflake's help, users can store structured, semi-structured, or unstructured data on whatever cloud provider they want. Then, they can use that data to power predictive AI models, feed data into other applications, or sell the data set to another party that is interested in it.
AI has been a big theme for Snowflake's stock, as massive amounts of data are necessary to train AI models. In fact, Nvidia and Snowflake recently announced a partnership to accelerate generative AI proliferation to businesses of all sizes using their own data. Without Snowflake's product (or one of its competitors), this idea isn't feasible.
But, if generative AI impacts the marketplace as many companies expect it will, then Snowflake will be positioned to take market share as this transition occurs.
However, Snowflake will have to generate a lot more revenue to dig itself out of the hole it has dug.
Snowflake is a long way from profitability
To put it bluntly, Snowflake's financials are a bit of a mess.
In the first quarter of fiscal year 2024 (ended April 30), Snowflake's product revenue rose 50% year over year. While that's not bad, its second-quarter guidance of just 34% growth concerned investors. However, Snowflake has a history of lowballing its guidance and then outperforming expectations, so it's reasonable to expect that Snowflake could report 39% on earnings day.
| Quarter | Product Revenue Guidance Growth | Actual Product Revenue Growth |
|---|---|---|
| Q2 FY 2024 | 34% | N/A |
| Q1 FY 2024 | 45% | 50% |
| Q4 FY 2023 | 50% | 54% |
| Q3 FY 2023 | 61% | 67% |
| Q2 FY 2023 | 73% | 83% |
Data source: Snowflake.
Still, one obvious trend is the steady decline in product revenue growth. As Snowflake is getting larger, it's becoming more difficult for the company to maintain its rapid growth. This is a problem because Snowflake's operating expenses continue to rise.
| Quarter | YOY Operating Expense Growth |
|---|---|
| Q1 FY 2024 | 48% |
| Q4 FY 2023 | 55% |
| Q3 FY 2023 | 55% |
| Q2 FY 2023 | 43% |
Data source: Snowflake. YOY = Year over Year
Clearly, the trend has been for increased operating expenses. However, its revenue growth doesn't support this any longer. As Snowflake's growth slows, investors will need to watch Q2 results to see if Snowflake continues this trend of operating expenses outgrowing revenue. If it does, that's an immediate red flag.
It's also in a significant hole. If Snowflake were close to breaking even, it would be different if its expense and revenue growth were slightly out of line. However, Snowflake's Q1 operating loss margin was 44%, so it has a long way to go before any sense of profits is near.
Despite this alarming trend, Snowflake's stock trades at a high premium.
SNOW PS Ratio data by YCharts.
While 24 times sales is much cheaper than it used to be, that's a high valuation for a stock with slowing sales growth. There are plenty of other software stocks with higher growth, better profitability, and a lower valuation, making Snowflake an interesting stock to compare to others.
If Snowflake's growth kick-starts back to above the 50% threshold, it could justify this price. But if it guides for another quarter of 30% growth, don't be surprised if the stock gets slammed. Because of that, I don't think Snowflake is a great stock to purchase right now. While it has a great product, there are just too many questions with the finances right now, so this is a stock investors are better off being patient with rather than rushing in just because the stock price is down.
