When Berkshire Hathaway Inc. (BRK.A, Financial) (BRK.B) invested in cloud software company Snowflake Inc. (SNOW, Financial) ahead of its initial public offering in September 2020, many investors found it surprising given that cloud computing is not Warren Buffett (Trades, Portfolio)’s strong suit. A few months later, Snowflake CEO Frank Slootman, in an interview with Yahoo Finance, revealed Berkshire executive Todd Combs had been in constant touch with the company and that Berkshire’s insurance operations had been using its cloud computing products for years. Given this relationship, it seems reasonable to assume Combs played an important role in Berkshire’s investment in the company.
While the Oracle of Omaha has kept the stake at around 1.90% since then, the stock may be of good value following its fourth-quarter and full-year 2023 financial report.
On March 1, Snowflake reported 54% year-over-year growth in revenue to $589 million for the three months ended Jan. 31. Regardless, its shares tanked more than 7% in after-hours trading as investors shifted their focus to the lackluster guidance for the current quarter. Snowflake expects revenue growth to decelerate to around 45% in the first quarter of fiscal 2024, below analysts' expectations.
A closer look at the company’s fundamentals suggest any pullback in its stock price may be an opportunity for long-term investors.
The unique business model offers a long runway for growth
With companies of every size and scale embracing cloud computing, a staggering amount of data is being moved to the public cloud. In order to seamlessly access this data, companies would need to invest millions of dollars to set up data warehouses, purchase expensive equipment and maintain the data centers. Snowflake eliminates these costs with its cloud-native solutions, such as data lakes and data warehouses. The company bills customers for the use of computing, storage and data transfer consumption. The usage-based pricing model has attracted thousands of clients because of its cost efficiency. Unlike paying subscription prices for a packaged deal, where storage and computing capacity need to be purchased together, Snowflake gives the option to pay for usage, allowing companies to manage their needs better. One other key feature of the company's platform is that it supports all the major public cloud architectures, allowing customers to seamlessly shift between their preferred cloud computing service providers without having to worry about spending money to transform the architecture of data lakes and data warehouses.
In fiscal 2023, Snowflake's total customer base expanded to 7,828 from 5,967 a year ago, registering 31% growth. Customers that contribute more than $1 million in annual revenue increased by 79% year over year to 330, which is an indication of how the company continues to attract high-value customers, aided by the strength of its product suite.
According to data from Statista, only 30% of corporate data was stored in the cloud back in 2015. By the end of 2022, that number had grown to 60%. This exponential growth highlights the massive amounts of data that are being transferred to the cloud every year, which expands the addressable market opportunity for Snowflake.
The data lake business looks prime to benefit from the growing number of companies using artificial intelligence and machine learning. AI models need to be fed a large amount of raw, unstructured data to get the best results, but data warehouses fail to perform this task seamlessly. Data lakes, in comparison, can be used to store both structured and unstructured data to feed AI models and enables easy and fast access to data in whatever form required by the end user. The massive investments in AI committed from leading tech giants have already triggered a wave of investments across business sectors and geographies, and the demand for data lakes will grow as a result. Snowflake is well positioned to make the most of this development.
The increasing competition in the public cloud space is also a positive development for Snowflake. With Amazon.com Inc. (AMZN, Financial), Microsoft Corp. (MSFT, Financial) and Alphabet Inc. (GOOG, Financial) battling it out for market share, competition in the cloud industry has reached new highs. Customers who want to move from one service provider to another face massive obstacles as a transition will only be possible after spending years and millions of dollars to build the necessary data warehouse and lake architecture to support a new public cloud architecture. Partnering with Snowflake solves this problem as its architecture offers the much-needed flexibility for users to easily switch between providers or use multiple providers simultaneously. With companies wanting to remain flexible at a time when leading public cloud companies are rolling out innovative features, Snowflake is poised to gain traction.
A great business trading at a premium
Snowflake has yet to turn profitable despite racking up impressive revenue growth in the last three years. The company, however, is cash flow positive, having generated $205 million in free cash flow in the fourth quarter alone. This is a good sign given that it is still growing in leaps and bounds, which leaves ample room for the company to not just be cash flow positive, but consistently profitable. As product investments trend lower in the coming years, Snowflake’s operating margin will significantly improve. At a forward price-sales multiple of 24, Snowflake is certainly not cheaply valued.
Takeaway
Snowflake’s revenue growth could decelerate in the coming quarters, which might result in lower stock prices as well. The company is well-positioned to grow in the long term, aided by favorable industry trends and its differentiated product offering. A good value opportunity could arise if the stock gets cheaper, potentially leading to lucrative returns in the long run.
