Snowflake: Rare Buying Opportunity Alert

Introduction and funding thesis

Final time I’ve coated Snowflake (NYSE:SNOW) following its FY24 Q3 earnings launch, the place I rated the corporate’s shares as a Sturdy Purchase. Essential new product launches, a few of that are already contributing to revenues mixed with stabilizing consumption tendencies and a decreased valuation premium have been my predominant arguments in favor of shopping for shares.

Though the share value response following the FY24 This fall earnings launch proved my earlier Sturdy Purchase advice untimely, I’m nonetheless bullish on the corporate’s prospects with much more conviction than earlier than.

First, my earlier fears of RPO deceleration and stagnation in bigger new account development have been defied by the This fall earnings print. Second, the FY25 steering, which dissatisfied traders appears unusually conservative to me, establishing Snowflake for beat-and-raise quarters. Third, the CEO transition is a constructive in my eyes making ready the corporate for the AI-era.

I imagine that the melt-up within the share value over the previous month has been overdone, and there’s a good alternative now to provoke an extended place or add to present ones. It’s true that vital product launches might be usually obtainable for purchasers for the second half of the yr which means that income might reaccelerate extra visibly in H2. Nonetheless, I imagine that the share value will get well most of its post-earnings losses by that point.

Comforting This fall earnings with ultraconservative FY25 steering

Snowflake reported revenues of $774.6 million for its lately closed FY24 This fall quarter beating the typical analyst estimate of $760.4 million. The magnitude of the beat has been consistent with earlier quarters, regardless of administration feedback on the This fall earnings name that consumption picked up slower popping out of the vacations:

After the standard December-January slowdown consumption picked up once more to pre-holiday ranges, however nonetheless under the place it has been earlier than FY24 when price optimizations didn’t play such an vital position within the software program area. Revenues have grown 32% yoy within the quarter identical to 1 / 4 earlier than, which has been an encouraging signal after a number of quarters of topline development deceleration:

Bettering income development has been pushed by stabilizing consumption tendencies, which has been extra pronounced within the again half of FY24. In Q3, 9 out of high 10, in This fall, 8 out of high 10 clients have grown their consumption by Snowflake sequentially, displaying growing confidence to spend extra. A latest vital change on this entrance has been the restructuring of gross sales reps’ incentives, which is now extra weighted in direction of producing consumption from clients slightly than bookings. 55% of reps are compensated now for driving consumption at present clients, whereas 35% are targeted on new consumer acquisition, with the remaining 10% working hybrid. I imagine directing the gross sales pressure with incentives into this route ought to have a significant impact on growing development in consumption.

One might concern that bookings and new buyer acquisition might fall again on account of considerably reducing focus, however latest outcomes present that’s not case for now. Primarily based on the corporate’s earnings presentation whole variety of clients grew by 546 in This fall, the very best determine in latest quarters:

In the meantime, the variety of Forbes 2000 clients elevated by 14 sequentially defying issues from the earlier quarter that giant buyer acquisition is stagnating.

One other vital part of gross sales development turnaround is Snowflake’s personal developer framework referred to as Snowpark, which permits builders writing code instantly in Snowflake with out the necessity of transferring knowledge in to and out of the platform. Snowpark captures increasingly more workloads from Apache Spark, which has been the go-to software for giant knowledge workflows earlier than the announcement of Snowpark. For knowledge residing in Snowflake utilizing Snowpark ends in vital price efficiencies, higher safety, sooner time-to-market and simpler arrange, which give a wonderful incentive for purchasers to shift workloads from Apache Spark.

Though Snowpark is generally availability for greater than two years, it managed to achieve vital traction solely lately. In response to administration it took time for the Snowflake gross sales workforce itself to get acquainted to the brand new know-how and to find with clients how it may be utilized most effectively. Now it appears that evidently the teachings have been discovered as Snowpark revenues grew nearly 50% qoq within the previous Q3 quarter. Primarily based on analysts feedback the annualized income fee from Snowpark has been round $70 million in December, so it might meaningfully contribute to revenues subsequent yr. Formally, administration guider for 3% contribution equaling round $100 million for FY25, however within the mild of latest momentum this appears overly conservative.

Talking of conservativism, I imagine administration didn’t solely took a conservative stance when guiding for Snowpark revenues, but in addition when guiding for whole income for FY25. Beside the CEO transition this has been the primary cause that shares started a major correction after the This fall earnings launch, so it’s price to take a more in-depth look into this matter.

After posting revenues of $2.8 billion for FY24 Snowflake administration guided for little greater than $3.4 billion for FY25, which might equal a yoy income development fee of twenty-two%:

This could imply continued vital slowdown from FY24 ranges simply because the yoy income development fee started to point out indicators of stabilization within the This fall quarter. Administration acknowledged within the This fall earnings name that they primarily based their forecast on extra muted FY24 consumption tendencies, despite the fact that the second half has been considerably higher:

“I feel we’re undoubtedly being extra conservative this yr given the consumption patterns we noticed in ’24. And as we mentioned at our Analyst Day final yr, we would have liked to see consumption patterns extra consistent with what we noticed pre-’24 to get to our longer-term purpose. And in consequence, we have determined to forecast this yr primarily based upon the consumption patterns we noticed in ’24.” – Mike Scarpelli CFO on This fall earnings name

As consumption patterns didn’t appear to deteriorate going into the FY25 Q1 quarter this equals a built-in buffer, I imagine this could setup the corporate beat-and-raise quarters all through FY25.

On the product forint I already talked about that Snowpark income steering appears overly conservative for FY25. Nonetheless, what acts like one other buffer is the truth that potential revenues from these merchandise, which can hit basic availability this yr (e.g.: Snowflake Cortex, Snowpark Container Providers, Unistore) aren’t factored into the FY25 gross sales information in any respect. As most of those merchandise will hit basic availability in the course of the yr this must be a supply of additional income upside.

Lastly, one other signal that latest income tendencies are monitoring nicely is the numerous enhance in RPO within the This fall quarter that reached nearly $5.2 billion rising a really robust 41% yoy:

Though this has been partly the results of longer than traditional commitments from clients, just like the 5-year $250 million report deal within the quarter, it’s nonetheless an vital signal that confidence in direction of Snowflake is growing.

Trying on the estimated present portion of RPO, which outstrips the results of multiyear offers we are able to see the identical pattern than within the case of revenues for the This fall quarter:

cRPO grew ~29% yoy in This fall roughly on the similar fee than within the earlier two quarters. As bookings don’t essentially translate to consumption on Snowflake’s platform within the shut future, they aren’t an correct forecaster of revenues, however the pattern is encouraging.

To sum it up, the admittedly overconservative steering from administration (not factoring in upcoming product launches into steering, conservative estimate for Snowpark, calculating with common FY24 consumption tendencies as an alternative of most up-to-date tendencies) and the constructive pattern in bookings level into the route that Snowflake might simply beat gross sales estimates over the upcoming quarters. This coupled with latest correction within the share value supplies a hardly ever occurring shopping for alternative for my part.

Dangers of falling in need of FY25 steering

Nonetheless, let’s not neglect that there are additionally draw back dangers for attaining these objectives, which I need to focus on within the following. First, within the case of Snowflake new product launches don’t essentially imply growing revenues as generally these allow price financial savings for purchasers. An vital instance for that is Iceberg tables, which might enter basic availability round June. Iceberg tables allow clients to retailer their knowledge in an exterior cloud storage exterior of the Snowflake platform thereby avoiding storage prices. On this case the shopper is accountable for the administration and safety of the information saved in these tables. Snowflake connects by way of an exterior quantity to Iceberg tables and permits clients to make the most of its providers even on knowledge in an exterior cloud atmosphere.

On the one hand, this has the potential to convey new enterprise to the Snowflake platform. Alternatively, clients can have the choice to lower their storage prices with Snowflake in the event that they suppose they’ve various to handle and safe their knowledge. At the moment, 10-11% of Snowflake’s revenues are derived from storage providers, so part of these might be at stake with this innovation. Administration assumes clients will make the most of this service slightly within the case of recent workloads, so it shouldn’t have a major influence on topline development.

One other function, which has been launched to Snowflake’s largest clients in Q3 is tiered storage pricing, which is a quantity discounting methodology for Snowflake’s largest clients (minimal annual $1.2 million spent on the platform). Snowflake did this already earlier than asserting this function, nevertheless this can be a extra clear and official manner of doing it. This may negatively influence revenues in FY25 to some extent, which impact has been extra muted in FY24 because it has been solely launched lately.

In response to Mike Scarpelli, CFO these efficiency enhancing initiatives for purchasers might end in 6.2-6.3% income development headwind for Snowflake this yr. The danger issue on this case is that clients will make the most of these price financial savings to a bigger extent within the present cautious IT spending atmosphere pressuring topline development to a higher extent. So, it’s vital to trace the results of those initiatives intently.

One other vital threat issue for Snowflake is competitors, which primarily consists of the massive cloud suppliers’ personal providers (Amazon Redshift, Google BigQuery, Azure Synapse) and Databricks. Within the case of cloud migration workloads from on-prem options like Teradata or Hadoop Snowflake tends to compete with the hyperscalers, whereas within the case of workloads regarding knowledge scientists the competitors is Databricks. Even Snowflake admits that within the case of those workloads Databricks has a really aggressive providing, however I imagine that with the brand new tech-savvy CEO Snowflake might emerge as a powerful competitor on this area as nicely.

So, at the moment Snowflake excels in creating an easy-to-use knowledge platform for knowledge engineers, which is the muse of an organization’s knowledge technique. This consists of managing the information, constructing pipelines and making ready knowledge for evaluation. Utilizing this knowledge for analytical workloads, which help administration selections is the following vital step. At this level Databricks is a powerful competitor, but when a buyer already has a major a part of its knowledge ecosystem construct up in Snowflake it’s a sensible determination to make use of it for analytical workloads or for coaching ML/AI fashions as nicely. Particularly that the product providing of the corporate is turning into more and more aggressive on this subject as nicely.

CEO transition: Proper individual on the proper time

Along with publishing This fall earnings Snowflake introduced that Frank Slootman, the just about legendary CEO of the corporate for the previous 5 years is stepping down and can be changed by former Neeva Founder and CEO Sridhar Ramaswamy. After Slootman’s success at ServiceNow, which has been adopted by the same success story at Snowflake traders might have been dissatisfied about his determination even when he continues to imagine the place of the Chairman of the Board. Nonetheless, I imagine Snowflake has made the precise step because the deep technical experience of the brand new CEO in search and AI is useful within the present atmosphere.

Sridhar Ramaswamy and Snowflake crossed their methods when Snowflake acquired Neeva, an ad-free search engine startup final yr. Ramaswamy has been the pinnacle of Google’s promoting enterprise for a few years and managed to develop it along with his workforce from $1.5 billion to over $100 billion. Nonetheless, ha wasn’t glad with Google’s advert practices, which created a battle between the pursuits of customers and the shareholders of the corporate. He determined to give up, and created his personal firm, Neeva, the place he might do search in the way in which he imagined. Regardless of creating an ad-free, related search expertise powered by AI the corporate didn’t handle to draw sufficient subscribers to remain afloat. Nonetheless, the technical experience residing inside has been an important integration alternative for Snowflake, which continued with the latest appointment of Sridhar as the brand new CEO.

Initially, Sridhar has been charged with main the event of Snowflake’s absolutely managed AI/ML service, referred to as Cortex, which can be usually obtainable to clients round June. It took his workforce 7 months till Snowflake Cortex hit personal preview lately, which is a tremendous efficiency for my part. Cortex is a core platform layer and permits clients to make use of LLMs to carry out completely different duties (e.g.: analyzing, querying, translating, and so forth.) on their knowledge residing in Snowflake. Moreover, there are a number of ML-based features obtainable as nicely, which could be utilized by way of writing a easy code in SQL. Among the many many new product launches this might be the one that pulls probably the most consideration from clients and contributes probably the most to gross sales development already this yr.

Having Sridhar as the brand new CEO positions Snowflake strongly for the present AI are for my part, it has been the precise transfer on the proper time.

Valuation

FY24 elementary knowledge Snowflake closed the yr as Rule of 66 firm, when including 38% yoy product income development and 28% FCF margin. There usually are not many public corporations within the SaaS area that reached these highs. For instance, there may be CrowdStrike (CRWD) closing FY24 as a Rule of 67 firm, or there may be Datadog (DDOG) coming in considerably shy as a Rule of 55 firm. What’s fascinating is to check the valuation of those corporations with one another for which I’ve chosen the ahead Value/Gross sales ratio:

From the chart above we are able to see that over the previous two years Snowflake had the heftiest price ticket by far till the start of 2024 with a ahead P/S ratio above 16 for more often than not. Within the mild of robust long-term development prospects this has been justified for my part. Nonetheless, after the latest This fall earnings launch the correction of the share value introduced the P/S ratio down to fifteen.2, whereas the valuation of the 2 rivals remained secure throughout this timeframe.

As I’ve proven above the latest earnings launch didn’t level to any significant deterioration in Snowflake’s medium-/long-term development prospects, it has been the CEO transition and the overconservative steering of administration that would have unsettled traders. Primarily based on this, I imagine the correction presents shopping for alternative from a valuation standpoint as nicely. Buyers can purchase Snowflake’s shares at a barely decrease valuation than that of Datadog, regardless of Snowflake having considerably greater FCF margin and stronger income development. Snowflake fundamentals are slightly similar to CrowdStrike’s, whose shares commerce 31% greater primarily based on the ahead P/S a number of.

I imagine this mispricing received’t final lengthy as Snowflake will handle to perform consecutive beat-and-raise quarters over FY25 as upside dangers dominate draw back dangers by a major margin.