Snowflake Inc. (NYSE:SNOW) shares are up 33%, but its P/S still looks reasonable

Snowflake Inc. (NYSE:SNOW) shares have continued their recent momentum, rising 33% in the past month alone. Unfortunately, this past month’s gains did little to offset losses from the past year, with the stock still down 16% during that time.

After the steady rally in price, you could be forgiven for thinking that Snowflake is a stock to steer clear of at a price-to-sales (or “P/S”) ratio of 16.2x, considering nearly half of the companies in the US IT industry have P/S ratios below 2.6x. However, the P/S may be quite high for a reason and it requires further investigation to determine if it is justified.

See our latest analysis for Snowflake

How has Snowflake been doing recently?

With revenue growth that is superior to most other companies recently, Snowflake has done relatively well. It seems that many expect the strong revenue to continue, which has raised the P/S. However, if this is not the case, investors may be caught paying too much for the stock.

Want to find out how analysts think Snowflake’s future stacks up against the industry? If so, ours is free report is a good place to start.

Is enough revenue growth predicted for Snowflake?

The only time you’d really be comfortable seeing a P/S as steep as Snowflakes is when the company’s growth is on track to significantly outshine the industry.

In retrospect, last year delivered an extraordinary 30% gain to the company’s top line. Happily, revenue is also up 233% overall from three years ago, thanks to growth over the past 12 months. Shareholders would therefore certainly have welcomed these medium-term growth rates.

As for the outlook, the next three years should generate 24% annual growth, as estimated by analysts who track the company. Meanwhile, the rest of the industry is only expected to grow by 13% per year, which is noticeably less attractive.

With this information, we can see why Snowflake is trading at such a high P/S compared to the industry. It seems that most investors expect this strong future growth and are willing to pay more for the stock.

The key takeaway

Shares in Snowflake have experienced a strong upward swing recently, which has really helped boost the P/S ratio. In general, we prefer to limit the use of the price-to-sales ratio to determining what the market thinks about a company’s overall health.

Our look at Snowflake shows that its P/S ratio remains high due to its strong future earnings. Shareholders seem to have confidence in the company’s future earnings, which supports the P/S. Unless these conditions change, they will continue to provide strong support to the share price.

You must be aware of risks, e.g. Snowflake has 3 warning signs (and 1 which cannot be ignored) we think you should know about.

If companies with solid past earnings growth are on the wayyou might like to see this free collection of other companies with strong earnings growth and low P/E ratios.

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This article by Simply Wall St is general. We only provide commentary based on historical data and analyst forecasts using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any shares and does not take into account your goals or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not take into account recent price-sensitive company announcements or qualitative material. Simply Wall St has no position in any listed stocks.