Snowflake (SNOW), an artificial intelligence (AI) data cloud company, is gearing up to release its third-quarter earnings for fiscal year 2025 after the close this Wednesday, Nov. 20. Notably, Snowflake stock is down over 35% year-to-date. The dip comes as part of a broader trend, with enterprise software companies feeling the heat of a challenging economic environment. Many businesses are scaling back IT spending, tightening budgets, and scrutinizing investments more carefully.
The challenging economic environment has squeezed enterprise budgets. However, Snowflake's core business remains solid. The company continues to grow its product revenue at a double-digit rate, attract high-value customers, and retain them. While these strengths point to Snowflake’s long-term growth potential, near-term hurdles could make it difficult for SNOW stock to rebound quickly. Let’s explore these challenges in more detail.
The Positives
- Solid Fundamentals and Growing Demand: Despite macroeconomic pressures, Snowflake continues to deliver solid growth. The company anticipates Q3 product revenue of $850 million to $855 million, reflecting a year-over-year increase of approximately 22%. This metric is crucial, since product revenue is a key indicator of Snowflake's growth trajectory. The company's focus on innovation is evident from its nine new product announcements in Q2, and the introduction of over 15 product features to general availability. Snowflake's product suite remains competitive, catering to enterprises seeking robust data solutions powered by AI.
- Robust Customer Base and RPO Growth: Snowflake's customer base continues to expand, with significant gains in high-value accounts. In Q2, the company’s remaining performance obligations (RPO)—a measure of future contracted revenue—rose to $5.2 billion, marking an impressive 48% year-over-year increase. Snowflake closed two deals exceeding nine figures each during the quarter, demonstrating its ability to secure large enterprise commitments. To drive future growth, Snowflake has introduced sales incentives to increase consumption and attract new customers. Management has expressed optimism about these initiatives, which are expected to have a more substantial impact in fiscal 2026.
- AI-Driven Momentum: The growing adoption of AI across industries is playing to Snowflake’s strengths. The company’s Cortex AI solution has gained traction. Further, Snowflake’s management said that more than 2,500 accounts were using Snowflake AI weekly. Snowflake’s AI capabilities enhance its existing offerings and position it to capture a larger share of the growing AI market.
Additionally, Snowflake is ramping up sales, marketing, and brand awareness investments to fuel customer acquisition. These efforts will likely support long-term growth as businesses increasingly rely on data-driven insights.
The Negatives
- Slowing Growth and Margins: While Snowflake's product revenue continues to grow, the rate of expansion has slowed. In Q2, product revenue grew 30% year-over-year, down from 34% growth in Q1. This sequential deceleration has raised concerns among investors about the sustainability of its growth in the current economic climate. Snowflake's gross margins have also taken a slight hit. In Q2, the adjusted product gross margin stood at 76%, a modest decline from the prior year. The increase in GPU-related costs and the rollout of new features like Arctic—a tool for optimizing data storage—have added to the company’s expenses.
- Declining Net Revenue Retention Rate: Another area of concern is Snowflake’s net revenue retention rate (NRR), which measures the company’s ability to retain and grow revenue from existing customers. As of July 31, 2024, Snowflake’s NRR was 127%, reflecting a consistent sequential decline since the second quarter of fiscal 2024. This moderation indicates customers are scaling back on spending or optimizing usage amid tighter IT budgets.
Market Sentiment and Analyst Views
Analysts remain cautiously optimistic about Snowflake’s prospects. Of the 41 analysts covering the stock, 25 maintain a “Strong Buy” rating, three suggest “Moderate Buy,” 11 recommend “Hold,” and two suggest “Strong Sell.” The consensus rating is “Moderate Buy,” reflecting overall optimism about long-term growth, despite some caution over short-term headwinds.
The Bottom Line: A Mixed Outlook for SNOW Investors
Snowflake’s long-term growth story remains intact, driven by strong product innovation, a growing customer base, and the expanding role of AI in enterprise data management. However, short-term challenges, including slowing product revenue growth, margin pressures, and declining net retention rate, could all delay a swift recovery in SNOW stock.
