Snowflake's Q2 Earnings Beat Expectations, but Stock Faces Downward Pressure

Snowflake's Downward Momentum Outweighs Its Valuation (NYSE:SNOW)

I last covered Snowflake (NYSE:SNOW) in April; I allocated a Hold rating at the time, and since then, the stock has fallen 25% in price, including a substantial drop in price following its Q2 earnings results. Now, I consider the stock more reasonably valued, indicating a potential long-term opportunity, although I consider this to be high-risk, so my personal rating is a Hold. Primarily, I think that while the valuation is more appealing today, it is still high, and its growth rates are slowing down, which indicates potential ongoing downward momentum, which is further supported by negative revision trends. Snowflake benefits from a multi-cloud strategy, which allows it to operate seamlessly across the major cloud players, Amazon Web Services, Microsoft Azure, and Google Cloud. I believe this is the big selling point for Snowflake, and it does differentiate it significantly from its big tech competitors. Also, the company structures its pricing based on consumption, where customers pay for the actual amount of computing and storage they use, making it more attractive to many customers and opening up a wider addressable market. For example, startups, smaller companies, or businesses with unpredictable workloads can benefit from this model-it allows them to start small and scale as their data needs grow. Management is also heavily investing in AI and machine learning, which are seen as key growth areas. Partly as a result of these AI initiatives, it has also raised its FY25 guidance product revenue to an anticipated 26% YoY growth. The company has also strengthened its collaboration with NVIDIA to integrate advanced AI tools into its platform, including using NVIDIA's NeMo for containerized AI model development and NIM for API enhancements, which simplifies model training and deployment for developers. Furthermore, Snowflake recently showcased its Telecom Data Cloud, which includes AI and ML innovations and partnerships with leading telco companies, aiding smart capex optimization, predictive network maintenance, and data enrichment. Over 70 global ecosystem customers, including major telecom players like AT&T and Virgin Media Ireland, are using Snowflake's Telecom Data Cloud to drive innovation and operational efficiency. These are all reasons to be bullish on Snowflake, but there are also valid concerns at the moment that the company's valuation is too high. In my opinion, despite its strong operational positioning, Snowflake is vulnerable to further downside momentum (it has fallen over 50% in price in the last 5 years). This is primarily a result of valuation factors but also negative revisions. In Q2, Snowflake reported YoY revenue growth of 29%, and it beat the EPS normalized estimate by $0.02. Product revenue was also a 30% increase compared to the previous year, and it maintained a strong net revenue retention rate of 127%. The company raised its full-year product revenue guidance to reflect an anticipated 26% YoY increase. For Q3, Snowflake expects product revenue between $850M and $855M, which represents 22% YoY growth. Snowflake is primarily not profitable at the moment because it is paying out high amounts of SBC, which is beneficial to attracting and retaining talent and arguably bodes well for the company as it is growing its free cash flow so substantially. Furthermore, its revenues are growing fast, but they have slowed down recently, with YoY revenue growth of 32.85% versus 102.26% as a 5Y average. The decline in growth here can be outlined in the net revenue retention rate decline over the years: That being said, growth is still robust and, despite slowing down, is showing continued accretion to SNOW overall. Margins are also improving for Snowflake, with the levered FCF margin currently at 38.6%, up from 24.74% as a 5Y average, and the net income margin up from -73.79% as a 5Y average to -30.80% as of the latest data aggregated by Seeking Alpha. Therefore, it is fair to assess that the company is moving in the right direction, albeit the rate of its advance is slowing down. The thesis that negative sentiment is due to slowing growth rates is further supported by its consensus EPS revision trend: Therefore, the valuation for SNOW stock is very high and could be deemed not sustainable, despite the fact that the valuation is lower than it has ever been since its IPO. As Microsoft is the most highly valued firm below Snowflake, it is worth comparing both of their future revenue growth estimates. Due to the fact that MSFT is expected to deliver substantially lower revenue growth than SNOW over the next couple of years, SNOW's valuation looks slightly more tolerable in light of this. However, because of the contraction in estimated growth rates compared to historically, I think the valuation for SNOW is currently a high-risk factor. I believe that despite the fact that SNOW is currently arguably fairly valued, further downward momentum and valuation multiple contractions are potentially likely as a result of reduced growth rates lowering sentiment, even if this is potentially unwarranted now that it is valued almost equally to Microsoft. I believe SNOW's PS ratio could expand to 13.5 over the next 12 months in a base case based on sentiment expanding after the current downward momentum from Q2 results, indicating a potential market cap of $58.05B in roughly 12 to 18 months' time if the January 2026 revenue estimate of $4.3B is priced into the stock early. Snowflake revised its margin expectations downward in Q1, lowering its non-GAAP operating margin guidance from 6% to 3% and its adjusted free cash flow margin from 29% to 26% for FY25. In Q2, it maintained its operating margin guidance, and it generally performed well, but the stock falling following the results indicates continued issues with investor sentiment, potentially a result of its high valuation. The margin pressures have, in part, been the result of increased spending on AI initiatives, which are likely to mean short-term profitability pressure but long-term margin expansion as long as the company can effectively capitalize on the partnerships, investments, and AI capabilities. Furthermore, Snowflake is expanding overseas, which opens up execution risks in how its offerings are adopted in new markets, particularly in Asia, where needs and tastes are widely different from those in the West. As well as integration risks, Snowflake is likely to face ongoing competition from well-established local players, and I believe JVs and collaborations in its diverse markets are foundational to its ongoing success abroad. To adopt and drive success, Snowflake is appointing local leadership. For example, HyoungJun Kang is the Country Manager for Korea. It's also arguably wise to be aware of another, smaller company than the big tech firms in my operational competitive analysis above, which, I believe, is arguably the biggest competitive threat from a smaller company. Databricks is not publicly traded, but it offers a unified analytics platform that combines data engineering, data science, and machine learning, which directly competes with Snowflake's offerings. Databricks integrates the best features of data lakes and data warehouses in its "lakehouse" architecture, and it has a strong emphasis on AI and ML with strategic cloud service providers like Microsoft Azure. Therefore, Databricks is undoubtedly one of the companies to keep an eye on that could take market share from Snowflake if competitive pressures move in its favor. Snowflake is arguably at an inflection point based on valuation, especially after Q2 results. However, this only really looks good based on its PS ratio, as its profitability on the income statement is still weak. That being said, this is largely a result of its SBC, meaning it does have strong free cash flow. Despite the upside potential here, I do think there are sentiment risks that come with the contracting growth rates at the moment, which could mean that even though the valuation looks reasonable right now, it still falls in price. Therefore, as I think the risk is too high, my rating is a Hold instead of a Buy at this time.

Snowflake: Beat Q2 Earnings, Here's Why The Stock Is Melting (NYSE:SNOW)

The data storage company's forward guidance and deceleration in year-over-year revenue growth have raised alarms. This is something I have been pointing out since I last wrote on SNOW in May. Snowflake's forward guidance, while upped slightly, did little to calm concerns about the durability of their growth. Analysts from Morgan Stanley noted that while the results were solid, they were not enough to raise investor confidence (they definitely made me more bearish), since product revenue growth is slowing and GAAP losses are still heavy via their heavy stock-based compensation program. Snowflake's current valuation bakes in expectations of continued high growth, yet the forecasted revenue slowdown makes me really concerned about whether the high P/E premium makes sense here. The company's (P/E) ratio is still well above industry the sector median, but growth is now far less special than it was even just a few fiscal years ago. With this in mind, I think Snowflake's continues to be a strong sell. The disconnect between the company's valuation and the growing risks associated with their maturing customer base makes the stock's current valuation unsustainable. Since I last covered them in May, Snowflake's stock has seen a steep drop-off, falling by 27.86%. Before earnings, a large portion of this drop reflected growing concerns among investors about Snowflake's reliance on small and medium-sized businesses (SMBs), many of which are now struggling due to rising interest rates and an economic slowdown. Like their smaller clients, the company has been increasingly vulnerable to a slowdown and is now facing more headwinds as their net revenue retention rates have dropped -- from 142% to 127% over the last few fiscal quarters. While this is still a solid NRR, the decline is concerning. Despite raising their full-year guidance, Snowflake's 2Q 2025 results did little to reassure the market. Analysts have pointed out that while there is a massive opportunity for the company to grow their AI-related products, this might not be enough to counterbalance the immense competitive challenges from larger cloud service providers like Microsoft Corporation (MSFT) and Amazon.com, Inc. (AMZN). Snowflake is simply melting from an NRR perspective as competitors turn up the heat. Again, the actual results were above expectations. Snowflake's quarterly results appear strong initially, as the company beat both top and bottom-line expectations. The Non-GAAP EPS of $0.18 exceeded estimates by $0.02, and revenue came in at $868.82 million, surpassing forecasts by $18.67 million. The quarter's results, though technically a "beat" through revenue growth, have decelerated to growth of 30% year-over-year (growth was as strong as 106% YoY back in FY 22). I'll talk more about this in the valuation section, but the company trades at a really high P/E for 30% growth. This is why I'm doing follow-up coverage. The devil is in the details on this one. My goal is to point out the red flags and explain the problems before they metaphorically snowball. Snowflake's stock-based compensation, or SMB, has seriously hurt the credibility of their financials. The company reported $356 million in stock-based compensation, increasing from $299.7 million in the same period last year, up 18.78% YoY! Although this is common in the tech industry, the compensation remains high and represents approximately 38% of Snowflake's operating expenses. Ouch. While Stock-based compensation helps in attracting and retaining top talent, it's also a burden when it comes to profitability and shareholder value because it dilutes existing shareholders and adds to operating losses. With the stock priced for perfection based on their forward P/E, investors are a little uneasy about forward guidance for the next year. This is a stark contrast to the company's earlier rapid expansion. During the earnings call, CFO Mike Scarpelli said that the company is projecting that 3Q 2025 product revenue would be between $850 million and $855 million. The company's non-GAAP operating margins are projected to decline from 8% this year to just 3% the following year due to what, I believe, is the exorbitant level of stock compensation being awarded. When the stock-based compensation is annualized, Snowflake is paying over $1.4 billion (with a B) against their $3.3 billion in yearly revenue, or roughly 42% of their total earnings. This is an unsustainable percentage that dilutes shareholders like crazy and also pressures the company's margins. I don't see why this is necessary. I think Snowflake's valuation is increasingly difficult to justify, particularly in light of their forward P/E ratio, which is at 193.84, much higher than the sector median of 23.2. The market is pricing in incredible future growth, but the company's growth metrics are already showing signs of heavy deceleration. Snowflake's forward revenue growth is projected at 27.99% compared to the sector median of 6.52% according to metrics from Seeking Alpha. Again, remember revenue used to grow at 106% YoY in FY 22. On the profitability front, I am concerned about the company's margins. The company's net income margin is seriously negative, standing at -31.73%, largely attributed to the extensive stock-based compensation that drags on their bottom line. Even after the 28% drop since I covered them in May, I think there is even more room to fall. If shares were to come down to a forward P/E of even 50 (this is still over double the forward P/E) this would represent a 74.20% downside from where shares are at today (and even after their precipitous fall). In their 2Q investor presentation, the company highlighted how AI data cloud connectivity is important since AI cannot function effectively without a data strategy. Snowflake, since the space has grown exponentially in the past 4 years, has a ton of market opportunities they can grab. Snowflake's AI data cloud, as the company claims, is designed to enable data sharing and integration. Don't get me wrong, Snowflake's AI data cloud's growth metrics are compelling, with a 34% year-over-year increase in customers utilizing data-sharing capabilities. According to Sridhar Ramaswamy during the earnings call: In the first half of this year alone, we brought as much product to market as we did all of last year. We are making Snowflake the best cloud for computation, collaboration, and application of all data. And we are leveraging the power of AI to make all of these easier to create, maintain, and use. This is what our team is aligned around. And I can tell you, that our customers are adopting the new capabilities at an incredible base. We are also seeing broad adoption of our products across our customer base. As of the end of Q2, more than 2,500 accounts were using Snowflake AI on a weekly basis. We expect that option to continue to increase and revenue contribution to follow. We're continuing to responsibly invest in AI and machine learning to deliver enterprise AI that is easy, efficient, and most of all, trusted. Snowflake estimates their total addressable market (TAM) is projected to reach $342 billion by 2028 (earnings presentation), showing a considerable potential to capture growth in the data cloud and AI-driven analytics sectors. However, even with this enormous TAM, I think that Snowflake is not executing at a level that justifies their high valuation and growth expectations. A great TAM is only part of making money off an opportunity. You have to actually create value for customers and then capture it. I don't think they are doing this as effectively given their slowing growth. The AI revolution is just starting and at a $3.3 billion run rate you should not be slowing down (look how big Microsoft's AI business is). I think this is an execution issue. Despite a leadership change earlier this year, the company continues to grapple with the same issues -- high costs, slowing growth, and unprofitable operations after stock comp which management controls. I think this raises questions about whether the new management can steer the company toward sustainable growth while effectively managing expenses. I think competitors like Palantir Technologies Inc. (PLTR) are also capitalizing better on the opportunities in the data analytics and AI space than Snowflake. Palantir, for instance, has successfully integrated their platforms with AI and data-driven decision-making processes for better growth and profitability firm-wide. Palantir's commercial enterprise growth is accelerating. Snowflake's is slowing. I think the stock is melting. That is a fairly unique phenomenon in AI right now. Snowflake's recent quarter highlights many investors' concerns regarding the tech company's long-term growth and profitability. Despite their strong market potential, the company's high costs, slowing revenue growth, and unprofitable operations, as well as excessive stock-based compensation, make their current valuation difficult to justify, in my view. Competitors like Palantir are outpacing Snowflake and leveraging market opportunities far more effectively. Unfortunately, I am skeptical about the company's future because of their inability to control costs and improve profitability despite their large TAM. I think Snowflake's current valuation just does not make sense. Given these challenges, Snowflake remains a strong sell. In my opinion, the company's growth prospects are melting despite what appears to be a relatively solid quarter on the surface.