SAPGF - Snowflake: Huge Market Opportunity But Not Without Risks

2023-07-21 10:19:18 ET

Summary

• Snowflake Inc. is a leader in the data warehousing space, and is looking to expand into other areas like data lakes.
• The company has a huge growth opportunity, not just from landing new customers, but also expanding the usage of existing customers.
• As a leader in the data warehousing space, Snowflake is able to compete meaningfully with other competitors like Amazon AWS Redshift and Databricks.
• While there is a huge and significant market opportunity for Snowflake, I highlight competitive risks and risks from AWS that may threaten the investment case.
• My 1-year price target for Snowflake stock is $115, implying a 35% downside from here.

I have done a deep dive research into Snowflake Inc. ( SNOW ) in Outperforming The Market, which many members have found to be particularly useful.

Given the popularity of that deep dive into Snowflake, I will be sharing more fundamental research into Snowflake, which will go through the basics like what is data warehousing and data lakes, what the company does, the key elements of its platform and its value proposition to customers. I will also go through Snowflake's growth strategy and partnership strategy as well as an evaluation of the competitive landscape, market opportunity and finally end off with the valuation of the company.

I'll first start off with a brief description about Snowflake as an introduction to the company.

Brief description

Snowflake was founded in 2012, and in 2020 it went public as one of the largest software IPOs in history.

Its co-founders, Thierry Cruanes and Benoît Dageville, are currently still in Snowflake, serving as the company's Chief Technology Officer and President respectively. Frank Slootman was hired in 2019 to be the CEO of Snowflake and successfully took it public, as he did with both Data Domain and ServiceNow earlier.

So, what is Snowflake?

Snowflake is a 100% cloud-based data management company. In 2014, when Snowflake came out of stealth mode, the core use case for Snowflake was mainly data warehousing.

However, since then, customers have gradually used Snowflake's platforms for other workloads like data lake, data science and machine learning, cybersecurity, application development, data engineering, amongst others, which can be found below.

Snowflake theoretically has infinite scalability as its platform is operating on public cloud infrastructure that is provided by Amazon's ( AMZN ) AWS, Microsoft's ( MSFT ) Azure, and Alphabet's ( GOOG ) Google Cloud Platform. However, as I will elaborate in a later section, this also poses risks as they are also competitors in certain cases.

By using low-cost cloud-based architecture, Snowflake has a differentiated offering in the data management space as it provides a differentiated way to store, process and manage data at scale.

What is data warehousing?

When a business needs to do reporting or data analysis, it will have large amount of data from many sources and a data warehouse is basically a centralized repository of digitally stored information.

Over time, data warehouses have evolved from being hosted on-premises to increasingly being hosted in the cloud as the amount of data has grown tremendously, which makes hosting data warehouses on-premises much more expensive and difficult to scale.

As the global data warehousing market is expected to reach $51 billion by 2028, growing at a CAGR of 11% during the period, we are seeing growing adoption and demand for data warehousing as it helps enhance data quality and confidence given that data is converted to a common format. This helps fuel reporting given more consistent data formats and more complete data, and it brings stronger insights to businesses as a result of robust and consistent historical data.

What is a data lake?

As explained earlier, data warehouses store data that is structured and help bring about analytics for the data. As a result, there is a defined purpose for the data in a data warehouse.

However, data lake differs from a data warehouse in two main areas.

The first difference is that data lakes allow for the storing of large amounts of data, whether they are structured, unstructured, or semi-structured.

The second difference is that for data lakes, companies do not need to know beforehand what the intended purpose for the data is.

The data lake market is expected to grow at a CAGR of 24% , reaching $24 billion by 2029.

Key elements of Snowflake's platform

Some of the key elements of Snowflake's platform include the following:

Firstly, the Snowflake platform allows for scalability, and that is essential for all customers given that they would want to grow with a customer with the ability to scale. As highlighted above, the use of multiple public cloud providers allows for this scalability and ensures that data volumes can keep growing without compromising performance.

Secondly, Snowflake allows for diverse data types, which includes structured, semi-structured, and unstructured data. The Snowflake platform allows for these different data types to be integrated and optimized.

Third, the Snowflake platform is easy to use and the pricing follows a consumption-based model. As such, customers pay for what they use, and they can use the platform easily without needing to hire specialized data scientists.

Fourth, the Snowflake platform allows for seamless and secure collaboration, as live data can be shared within an organization or to external parties without needing to move the data. Also, the platform ensures the data is secure.

Lastly, the Snowflake platform allows customers to use advanced optimizations to adjust their consumption to match their needs. As such, by using the Snowflake platform, customers do not need to tune or manually organize data before using or analyzing it.

Thus, these are the reasons why I think Snowflake has seen strong adoption and growing use:

1. Ease of use.
2. Built for scalability as it is built on major cloud providers.
3. Low-cost entry point as a result of its consumption-based model.
4. Benefits over traditional data warehouse competitors.

Value proposition to customers

At the end of the day, customers of Snowflake are looking to become businesses driven by data and as such, the Snowflake platform enables companies to end silos of data, to make data management simpler and encourage secure access to data to drive insights and opportunities for customers.

In addition, Snowflake allows its customers to consolidate all their data into its platform, where that data is then converted into an analytics ready format to generate both accurate and fast business decisions. This also means that Snowflake helps customers ensure that there are no data silos, which can be costly to organizations.

As a result, Snowflake's platform enables customers to generate the best insights from their data across the organization, and also including data from their partners, customers and suppliers to bring a whole new level of insight to the organization. This has the end goal of helping customers generate unrivalled analytical insights for optimal business decisions and improve the customer experience.

Snowflake allows its customers to experience the benefits of a multi-cloud strategy, as its customers can optimize for the best features as well as functionalities that each public cloud provider provides, while at the same time diversifying its exposure to any one public cloud provider to lower business risk.

As compared to on-premises data warehousing solutions, Snowflake is an optimal solution given it reduces the time and money a company spends on managing its own infrastructure.

Partnership strategy

Snowflake adopts a partnership strategy to ensure that it has a comprehensive platform that brings end-to-end solutions to its customers.

Snowflake has formed strong partnerships with a wide range of players, including technology partners, system integrators, data providers, channel partners, amongst others. Snowflake's system integrator partners help the company to make it easier for customers to adopt and migrate to Snowflake's platform, while its technology partners add strategic value to customers by bringing tools like machine learning, business intelligence tools, which adds to Snowflake's platform capabilities.

I expect that as management continues to focus on expanding its network of partnerships, this will help not only attract new customers, but also drive consumption of existing customers within its platform.

Growth strategy

Snowflake's growth strategy is rather simple.

Firstly, it needs to continue to innovate and bring value added features to its platform to ensure that it maintains its differentiation through differentiated capabilities.

Secondly, it needs to acquire new customers. As organizations worldwide move towards cloud-based data management strategies, Snowflake will benefit from growing its customer base. When it first IPO-ed, the company only has about three thousand customers, but today, it has more than eight thousand customers.

The focus is not just in acquiring new customers, but also to acquire larger organizations and those with massive amounts of data. This will drive long-term growth for Snowflake. As can be seen below, Snowflake has seen a larger growth of 80% year-on-year growth for its larger customers, with more than $1 million in product revenues, while its overall customer base grew by 29% year-on-year.

Third, after acquiring these customers, the next job is to drive increasing usage from its own existing customers. The acquisition of new customers means that these customers can over time, use more of the platform by storing, processing and sharing more data. At the end of the day, this is a function of the relationships build with customers, as well as the value they get out of the Snowflake platform.

As can be seen below, Snowflake has a best-in-class dollar-based net revenue retention rate ("NRR") of more than 150%. This dollar-based NRR includes the expansion of revenues from existing customers, as well as cancellations from customers.

Fourth, Snowflake can grow by expanding its geographical reach outside of North America, into geographical regions like EMEA, Asia-Pacific and Japan, and Latin America.

Lastly, as elaborated earlier, the Snowflake platform is enhanced from the partnership strategy it employs. Thus, to continue to grow, Snowflake needs to grow its partnerships.

Snowflake market share

As can be seen below, Snowflake is a leader in data warehousing, with SAP SE ( SAP ) Business Warehouse and Amazon Redshift as the other two big players. However, the two main leaders are Snowflake and AWS Redshift

Snowflake vs. Amazon Redshift

According to Gartner, Snowflake has a more favorable rating compared to Amazon Redshift. I dig deeper below.

Redshift is a better fit for organizations that are already using AWS, as the use of its data warehouse will ensure both are tightly coupled.

Snowflake may be a better fit for organizations with fewer users using the warehouse, organizations just starting using a data warehouse, or those that have unstructured data. In addition, with its partnership, Snowflake is better for organizations that want to share data with partners. Lastly, Snowflake is good for organizations without any time or resources to managing the data warehouse. I highlight some of the differences in the database features for Snowflake and Amazon Redshift.

Snowflake vs. Databricks

While Snowflake has drawn huge amount of attention in the public markets, Databricks is another company making waves in the private markets.

Snowflake revolutionized the data warehouse with its offering of a software-as-a-service ("SaaS") that is highly scalable and not requiring any maintenance. However, Databricks is also a contender in the space as it has a single platform that combines data warehouses and data lakes.

I highlight some of the differences between Snowflake and Databricks below.

I think that while both companies have some things in common , Databricks is more focused on data lakes while Snowflake is more focused on data warehouse. Snowflake is easier to use than Databricks, but Snowflake is better for SQL-like business intelligence applications and provides optimal performance, while Databricks supports multiple programming languages. As a result, many organizations are using Databricks for data lakes and Snowflake for data warehouses.

Other competitors

In terms of Snowflake compared to other big tech players in data warehousing, we can see the advantages of Snowflake compared to Azure and Google Cloud's offerings.

Growing and significant market opportunity

While the current addressable market for Snowflake is in data warehousing, the company has a much broader total addressable market it is trying to address as Snowflake moves into market adjacencies. This includes data engineering, data science, cybersecurity, amongst others.

Competition

Snowflake has ambitions in a larger addressable market opportunity outside of data warehouse.

As such, it is interested in areas like data science, data integration and data lakes, which all represent significant additional market opportunity if Snowflake is successful.

However, I highlight below how competitive these individual segments are as there are many competitors within these segments.

For the data warehousing market, Snowflake is a leader in the data warehousing market and there are many legacy architectures within the data warehousing space where Snowflake is able to disrupt.

However, in the data science, data integration and data lakes space, these markets are filled with innovative players and many of which are companies that are well-funded or with significant capital going to them.

That said, Snowflake's advantage here would be their relationships acquired from their leadership position in the data warehouse market.

Risks from AWS

As highlighted before, Snowflake's platform is operating on public cloud infrastructure that is provided by AWS, Azure and Google Cloud Platform.

In addition, Amazon Redshift is a competitor.

Another important fact is that almost 85% of Snowflake's revenues comes from AWS-hosted workloads. Microsoft Azure is a small but growing portion for Snowflake, while Google Cloud is tiny.

The relationship between AWS and Snowflake is one of enemy and friend. Snowflake has emerged as one of the largest customers of AWS, but at the same time, the largest competitor of AWS Redshift.

I argue that this relationship is a net positive for both AWS and Snowflake.

AWS gets way more from Snowflake's compute and storage infrastructure spend on AWS than what they lose in terms of the lost AWS Redshift revenues.

In addition, Snowflake is a dream customer for major cloud providers like AWS and Azure.

Lastly, I would note that in 2020, Snowflake committed spending with Microsoft and AWS, from 2020 to 2025. Snowflake expects to spend $550 million on Azure while the company will be spending and committing $1.2 billion for cloud infrastructure spend with AWS.

Valuation

I reiterate my intrinsic value and entry price for Snowflake, which can be found in my deep dive research.

Given that Snowflake is growing at a 27% CAGR, I am using a blend of 70x 2024 P/E and 12x 2024 P/S assumption for Snowflake to derive my 1-year price target. I put a two-third weight on the P/S method and one-third weight on the P/E method given Snowflake earnings are still inflecting.

My 1-year price target for Snowflake is $115, implying a 35% downside from here.

Conclusion

I think that while Snowflake Inc. is clearly gaining share within the data warehousing space, the incremental business opportunity that it highlights in its $248 billion total addressable market is promising but filled with competitors that are innovators or are well-funded. The ability of Snowflake to attract new customers and expand revenues from existing customers is certainly impressive and it still has a long runway for growth, in my view.

All that being said, competition in the space is tough, with several big tech players having a data warehousing offering that competes with Snowflake. In addition, the stock is very richly valued.

My 1-year price target for Snowflake is $115, implying 35% downside from here.

For further details see:

Snowflake: Huge Market Opportunity, But Not Without Risks