In this Brief, we will consider Snowflake, which is a fairly boring, utility-like data platform that allows companies to manage and interpret their data in a relatively unique way.
By relatively unique way, I mean that Snowflake represents the "next layer of abstraction" in the ongoing evolution of the data management and interpretation industry, which has existed since the dawn of the agricultural revolution, which necessitated meticulous records and alphanumeric systems.
A more modern genesis of platforms like Snowflake would be IBM's data tapes.
I share this to communicate the nature of Snowflake. In this vein, I recently shared thoughts on the nature of Snowflake via a post on X, and I shared these thoughts below (so as to communicate Snowflake's very basic and boring nature):
"Snowflake is just a boring software application layer atop AWS Azure GCP data center infrastructure and raw storage/computeDB is this as well. While boring, it's also served its customers phenomenally well as evidenced by its 99th percentile growth, 99th percentile NRR, and continued healthy additions of global 2000 customers and customers broadly. Snowflake is no more exceptional than a SentinelOne, Crowdstrike, Monday, or Datadog.
It's just a solid, if boring, software company that should be bought and sold as such. Over the last three to four years, however, it's been bought and sold as if it's the next Nvidia, hyperscaling from 2018 to 2024, which is a once in a generation event. But Snowflake was never and will never be this. Today, it's finally being very properly priced, and that's the extent of what's going on. There's no existential threats for Snowflake causing its stock price to decline. It's still the same boring software application layer atop AWS compute/storage it was in 2020, 2021, and 2023. And that's waht it will be for the decade ahead. Its declines have everything to do with its valuation and very, veyr little to do with its competitive positioning, which remains fine, okay, whatever."
While Snowflake is actually a fairly boring data management business, the indisputable, data-based reality is that it's arguably the best SaaS business of the last 20 years, except for perhaps Crowdstrike, and the reality is that Snowflake just reported a fantastic quarter, data substantiating which can be seen in the charts below.
Snowflake Grows Sales At 33% In Q1'24 (Calendar Year); Snowflake Grows Sales 6.9% Sequentially, Or 30.5% On An Annualized Basis
Calendar Year Q1'24 Snowflake Investor Presentation
Below, we can see that Snowflake grew its customers at a likewise very healthy rate, and it grew its very large, Global 2000 customers at a notably healthy rate.
Snowflake Customer Growth
Calendar Year Q1'24 Snowflake Investor Presentation
And, lastly, it grew its large $1M customers at 30%, as the chart below illustrates.
Calendar Year Q1'24 Snowflake Investor Presentation
And it grew spend with its existing customers, as its "best out of all public SaaS companies" NRR metric conveys.
Calendar Year Q1'24 Snowflake Investor Presentation
We can see the tendency for Snowflake customers to spend more on the platform that's illustrated in the above NRR chart in the chart below which illustrates the "average trailing twelve month product revenue" for Snowflake's largest customers.
Snowflake Customers Spend More With Snowflake Over Time (Note That There's Year Over Year Dilution For The Very Largest Customers Via New Customer Additions, So Stable Spend = Growing Oldest Cohort Spend)
Snowflake 2024 Investor Day
Before I share a view of Snowflake's current valuation, let's first review Snowflake's long term operating model.
In Snowflake's 2024 investor day, the company's CFO shared that its 2023 free cash flow margin of 29% was far higher than anticipated and that Snowflake actually expected a free cash flow margin of about 25% by this time in the company's development.
I believe this supports a free cash flow margin long term that's higher than 30%, but, for the sake of factoring in a margin of safety and being conservative, the valuation exercise below uses 30%.
Valuation Exercise
Assumptions:
And here are the results of the valuation exercise:
Notably, I assumed zero percent dilution from here, in light of the company's free cash flow generation and cash hoard, and its ability to neutralize SBC dilution using this cash.
This was, in some sense, factored into the original assumptions by using a 20% annualized growth rate. As we know, dilution slows the growth of free cash flow per share.
Snowflake has guided for 30% annualized growth in the past, though it walked back that guidance recently. But it's worth noting that they expected that level of growth and just grew at an annualized rate of 30.5% during a transition in the company's business model and during a time when equity markets think the sky is falling for Snowflake.
Turning to total expected returns...
As we can see, this relatively conservative model (in which I used 30% long run free cash flow margins and an annualized growth rate that's 66% of company's guidance), produces 15.6% returns. At $122/share, returns were touching 20% using these assumptions.
I think Snowflake will actually grow slightly higher than 20% annualized, and these data based realities support that belief:
"We’ve spent a fair bit of time analyzing what we’re seeing, and I’ve spent a good chunk of time myself looking as well, and we like the fundamentals of what we’re seeing in AWS. The new customer pipeline looks strong. The set of ongoing migrations of workloads to AWS is strong. The product innovation and delivery is rapid and compelling. And people sometimes forget that 90-plus percent of global IT spend is still on-premises. If you believe that equation is going to flip, which we do, it’s going to move to the cloud. And having the cloud infrastructure offering with the broadest functionality by a fair bit, the best securing operational performance and the largest partner ecosystem bodes well for us moving forward."
-Andy Jassy, CEO, Amazon Q1 2023 Earnings Call
Disclosures:
L.A. Stevens has not rated Snowflake.
