Artificial Intelligence (AI) Stocks Are Red-Hot, but Here’s 1 to Avoid (for Now) – Yahoo Finance

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Artificial intelligence (AI) isn’t just the hottest segment of the technology sector right now, it’s the hottest segment of the entire stock market. Nvidia is the poster child for AI, and its stock soared 239% in 2023, making it the best performer in the  S&P 500 index. Nvidia is up a further 78% in 2024 already, and with a $2.2 trillion market cap has become the third-most-valuable company in the world. Several other AI stocks have also posted market-beating gains lately — Amazon, Microsoft, and Advanced Micro Devices among them.

However, not all AI stocks are created equal. Snowflake (NYSE: SNOW) trades down 18% this year so far, and it’s trading 60% below its all-time high. The innovative cloud computing company faces slowing revenue growth, and its valuation is still elevated relative to its peers.

Snowflake is set to release a slate of AI products soon, but here’s why its stock might continue to slide in the interim.

A digital rendering of a snowflake that looks like a computer board.A digital rendering of a snowflake that looks like a computer board.

Image source: Getty Images.

Snowflake is expanding its presence in AI

Snowflake’s flagship Data Cloud is a game changer for large, complex organizations that spread their workloads across multiple cloud platforms. It breaks down silos between platforms and brings all the data into one place, where value can be extracted from it far more effectively. Considering that data is the nectar of every AI model, it makes perfect sense for Snowflake to get involved in this emerging industry.

Last year, Snowflake acquired Neeva, which had created a unique search tool powered by generative AI. Every organization is sitting on mountains of valuable data, and Neeva’s tool empowers employees to use natural language queries to find it — in other words, anybody can use it to identify useful trends, not just programmers or technical staff. It was a no-brainer addition to the Snowflake platform.

Sridhar Ramaswamy is one of the founders of Neeva, and he joined Snowflake in the acquisition. He just replaced Frank Slootman as Snowflake’s CEO, which puts a fine point on the company’s pivot toward AI. Prior to taking the top job, Ramaswamy led Snowflake’s AI strategies division and was instrumental in the launch of Snowflake Cortex.

Cortex is a portfolio of AI products designed to enhance the Snowflake platform. It includes a generative AI search tool called Universal Search, which is powered by Neeva’s technology. It also features Document AI, which allows businesses to extract and analyze data from unstructured sources like contracts or invoices. This cuts significant amounts of human labor out of the process of handling those documents.

Then there is Copilot, which ties Cortex and the entire Snowflake platform together. It’s a virtual assistant powered by a large language model, capable of answering complex questions and even helping developers write code.

Cortex is scheduled for general release around the time of Snowflake’s Data Cloud Summit in June, and Ramaswamy says hundreds of customers are already on the waiting list for products like Document AI.

Snowflake’s revenue growth is consistently decelerating

Snowflake’s innovation engine isn’t translating to faster growth, unfortunately, and that’s a big reason the stock continues to slide. Yet in its fiscal 2024, which wrapped up on Jan. 31, it generated a record $2.8 billion in revenue.

That was a 36% year-over-year increase — a result that deserves praise given the challenging economic climate. However, it was a notable deceleration from the 69% revenue growth it delivered in fiscal 2023, and the 106% growth it delivered in fiscal 2022.

Many tech companies are forgoing some investments in growth right now in favor of improving their bottom lines, but Snowflake still generated a net loss of $836 million during its fiscal 2024, which was an increase in red ink from its fiscal 2023. The company might have to substantially cut costs to achieve profitability, and that could crimp its revenue growth even further.

Snowflake did generate $353 million in net income on a non-GAAP (generally accepted accounting principles) basis, which was a 290% year-over-year increase. Non-GAAP results strip out one-off and non-cash expenses like stock-based compensation, though most investors don’t consider those adjusted metrics to reflect a company’s “true” profitability — and rightly so, considering Snowflake distributed more than $1.2 billion in stock to employees during fiscal 2024, which diluted its existing shareholders.

More downside might be ahead for Snowflake stock

The AI opportunity is enormous, and most Wall Street forecasts already measure it in the trillions of dollars. But Snowflake is still months away from widely releasing the products under its Cortex platform, and given how quickly the AI industry is moving, it’s difficult to predict how popular they will be versus competing tools. OpenAI’s latest GPT-4 models, for example, have been available for a year, which gives them a substantial head start.

Analysts aren’t baking much contribution from AI into their fiscal 2025 forecasts for Snowflake, because they expect its revenue to come in at just $3.4 billion. It implies growth will decelerate even further, to 22%.

Plus, Snowflake’s employee headcount jumped 19% in the fiscal 2024 fourth quarter, which suggests its costs probably won’t be moderating anytime soon. That might be bad news for investors waiting for it to reach GAAP profitability.

Finally, based on the company’s $2.8 billion in fiscal 2024 revenue and its current market cap of $50.9 billion, Snowflake stock trades at a price-to-sales (P/S) ratio of 18.2. That’s more expensive than other leading cloud and AI specialists like Microsoft, which trades at a P/S ratio of 13.7, and Amazon, which trades at a P/S ratio of just 3.2. That implies there could be more downside ahead for Snowflake stock.

AI could absolutely lead to a growth acceleration for Snowflake in the future, but with an abundance of opportunities in this space right now, investors might be better off waiting until the company delivers concrete progress before buying the stock.

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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Anthony Di Pizio has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Advanced Micro Devices, Amazon, Microsoft, Nvidia, and Snowflake. The Motley Fool recommends the following options: long January 2026 $395 calls on Microsoft and short January 2026 $405 calls on Microsoft. The Motley Fool has a disclosure policy.

Artificial Intelligence (AI) Stocks Are Red-Hot, but Here’s 1 to Avoid (for Now) was originally published by The Motley Fool

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