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Snowflake: A Great Company That Is Way Overpriced

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On September 16, Snowflake (SNOW), a data storage and query company, did its much hyped IPO. And, no one was disappointed by the hype. The company is growing at a blistering pace and has high profile investors. These two key factors, along with a small amount of stock being issued, helped drive the price of the stock to nearly 3x the IPO price. Now, the stock is considered one of the richest companies trading on the stock market and some are saying to simply stay away. But, is there opportunity in a significantly rich stock, or should you wait to get into the stock once the market has settled down?

Here are the key bullet points that you should consider when you think about Snowflake:

  • Snowflake, executing beautifully, is growing at blistering pace of about 120% annually.

  • High profile investors have helped to push up valuations.

  • Limited supply of stock issued may have contributed to sharp rise in price.

  • Long-term prospects are that the company will continue to grow however, the current valuation is unwarranted.

  • Pressure on the NASDAQ and other indices will weigh on stock price.

The IPO price was a mere $120 the night before the issuing. It never even traded at that price but, instead jumped to above $200 to start, topped $300 and has since settled down.

What’s with the growth rates?

The company is growing, to say the least. They have an Annualized Run Rate (ARR) of between $480M - $500M and have added some 125% revenue growth to their books since February. These are huge numbers that may continue for a while. And, Snowflake has a retention rate of 158%, meaning that when a company uses its services it is more likely to stay with them and then add on services as time goes by. That is where the hype starts with Snowflake... but, it does not stop there.

Granted, Snowflake is a company that is growing and expanding. However, despite the growth rates, the current market valuation for Snowflake is $72 billion whereas in a private offering by the company in February, Snowflake was valued at a mere $12 billion, a huge $60 billion gap. Not much has changed structurally with the company to warrant such a big increase. Even still, if the stock was priced at its IPO level, that would be closer to $30 billion and a lot closer to the reality of what the company could sustain as a valuation. So, there’s a lot baked into this stock price and buying now is high risk.

Enter into the equation the world’s most renowned investor: Warren Buffett. The first thing to know about Mr. Buffett is that he has largely shrugged off tech stocks with the 80-something year old saying he basically does not understand tech. But, perhaps Mr. Buffett could not pass up the blistering growth rates because all of a sudden, however, he is in the stock at its IPO price with an agreed purchase of some 6 million shares. Getting a seal-of-approval from Mr. Buffett is usually good for about 8% - 10% bump in the stock price. But, the stock jumped from the $120 IPO price to over $300. There’s more at play than just Mr. Buffett’s involvement, despite how noteworthy this is.

There was a limited number of shares issued at about 28 million total (excluding the 6 million issued to Mr. Buffett who famously loves to hold stock positions forever, with minor exceptions). Snowflake raised all of $3 billion in its stock offering. They are not short of cash sitting on some $1 billion. And, they have not mentioned in their S-1 filing what they plan on doing with the funds issued.

In fact, just about a year ago, the CEO at the time said that there was no reason why Snowflake would go public. He was fired shortly afterwards and the new CEO, with a knack for taking companies public in short order, was hired. It is almost as if the only reason the company went public was simply to go public.

There is a time lock on the issued IPO shares so there will not be a great deal of selling in the company’s stock by these investors. This is going to add to the stock’s price remaining lofty for some time. But, there are external factors that may weigh on the stock, such as the selling in the broader market from both election uncertainty and the economic uncertainty due to the COVID-19 pandemic.

Until the election in November gets out of the way, and investors have an idea as to what Washington is going to look like - and what the economic relief package might look like because of that - the markets have been selling more and more lately. But, after this key milestone is passed, it is possible that there will be more sustainable buying in the markets to support the overall market.

Something else to consider is competition. Amazon, Microsoft and Google are all direct competitors to Snowflake. What is interesting about Snowflake is that it is both a data storage and query company. But, Snowflake has no infrastructure for data storage. The company leases that out to, of all companies, Amazon, Microsoft and Google, the company’s direct competitors. But, what this does do is allow itself to focus on the more elaborate service it provides, data query. This is the revenue behemoth that is pushing the growth rates for the company. And, with the retention rate of 158%, customers are not only signing on, but adding more and more service (keeping cost of service sold lower). This is helping the bottom line for the company.

In the meantime, I would love to own this stock. I just would not be interested in owning this stock at this price. If the market were to sell-off over the next few weeks into the election, and Snowflake’s stock did the same, then this could be a good buying opportunity. But, Snowflake’s stock may stay elevated for a long time as many investors will not be able to sell their shares until the lock-up period expires.

When looking at Wall Street’s stance, only one analyst has posted a recent review. Summit analyst Srini Nandury rates SNOW a Sell, and his $175 price target implies a 32% downside from current levels. (See Snowflake stock analysis on TipRanks)

To find good ideas for stocks trading at attractive valuations, visit TipRanks’ Best Stocks to Buy, a newly launched tool that unites all of TipRanks’ equity insights.

Disclaimer: The content is intended to be used for informational purposes only. It is very important to do your own analysis before making any investment. The author has no position in the stock mentioned.