Warren Buffett Just Dumped These Overpriced AI Stocks. Should You, Too?

Warren Buffett and his team at Berkshire Hathaway (BRK.A) are among the most watched investors in the world, known for their strategic approach to value investing. Their diverse portfolio includes significant stakes in market-leading companies like Apple (AAPL), and Buffett is known for his history of beating the returns of the S&P 500 ($SPX) over the long term. As a result, both novice and experienced investors closely monitor Berkshire’s quarterly reports to gain insight into what the legendary investor is doing with his money as he attempts to replicate Buffett’s incredible success.

Most of the headlines surrounding Berkshire Hathaway’s moves in the second quarter focused on the additional sales at Apple, along with a new stake in struggling cosmetics stock Ulta (ULTA). But Berkshire also shed its entire stake, worth nearly $1 billion, in Snowflake (SNOW), as the conglomerate finally sheds a position it had held since the stock debuted on Wall Street.

The high-profile exit by Buffett and Berkshire is another blow to Snowflake, as the year has already been marred by a poorly received CEO change and headlines about a widespread cyberattack. So should investors follow Warren Buffett’s lead and exit Snowflake? Here’s a closer look.

About the Snowflake campaign

Founded in 2012, Snowflake (SNOW) is a software company specializing in cloud storage. In September 2020, Berkshire Hathaway bought $250 million worth of Snowflake shares at its $120 IPO price, along with another batch of shares purchased at SNOW’s higher IPO price. The purchases marked Buffett’s first foray into IPOs since the 1950s, when Ford (F) made its first public trades.

Snowflake, valued at a market capitalization of $44.1 billion, was still below its IPO price on August 8 and is down more than 68% from its December 2020 peak.

Snowflake has invested heavily in artificial intelligence (AI) to improve its cloud storage, but competing with established giants like Microsoft (MSFT) and Amazon (AMZN) in the cloud space has proven difficult. These companies have significant resources and established positions in the enterprise software and AI markets, which has made it difficult for Snowflake to gain a competitive advantage.

That reflects the company’s performance. Snowflake shares are down 33% year to date, while Microsoft is up 12.6% and Amazon is up 18.7% in the same period.

The stock’s underperformance began in earnest late in the first quarter of this year, when Snowflake unexpectedly announced the departure of founder Frank Slootman as CEO. That news, combined with a soft revenue outlook, caused SNOW stock to drop 18% in a single session on Feb. 29.

Despite the weak price action, Snowflake stock still trades at a solid 211.6 times forward earnings and 12.7 times sales. Both metrics represent a significant premium to the tech sector median, as well as large-cap rivals like Microsoft and Amazon. This suggests that the underperforming SNOW stock is overvalued relative to its peers.

SNOW to Report Q2 Earnings

SNOW is scheduled to report earnings after the market closes today, and the consensus is for a loss of $0.56 per share on revenue of $850.15 million. On an adjusted basis, EPS is expected to be $0.16, compared with $0.22 a year ago.

After reporting fiscal first-quarter earnings in late May that fell short of EPS estimates, SNOW fell more than 5% on the day.

AT&T attack destroys Snowflake’s reputation

Snowflake faced more bad news over the summer when AT&T (T) identified its software as the source of a cyberattack that affected nearly all of the company’s U.S. customers, compromising 109 million accounts.

According to Mandiant, the hacking campaign used stolen credentials rather than directly compromising specific weaknesses in Snowflake’s systems. The breach severely damaged Snowflake’s reputation and raised questions about the company’s commitment to protecting cloud data, especially since other major customers like Ticketmaster and LendingTree were also affected.

What are analysts saying about Snowflake stock?

The recent hacking incident played a major role in Wells Fargo analysts’ decision to downgrade Snowflake shares from “Overweight” to “Equal-weight” last week and lower their target price for the stock from $200 to $130.

“The stock is now back to similar levels as when we launched SNOW (January 2023), but the narrative has changed significantly — including new management, increasing competitive intensity (vs. Databricks, hyperscalers), questions around tech moats/stickiness (i.e. Iceberg/open formats), and now potential customer churn due to the recent data breach,” explained the analyst group led by Michael Turrin, who added that their quarterly customer survey revealed “multiple breaches impacted customers who plan to move away from SNOW, inc. two >$25M in ARR and another >$5M.”

Overall, Wall Street remains bullish on SNOW, with a consensus rating of “Moderate Buy.” Of the 41 analysts covering the stock, 25 have a “Strong Buy” rating, three have a “Moderate Buy” rating, 11 maintain a “Hold” rating, and two have a “Strong Sell” rating. The average price target is $187.97, about a 40% upside.

SNOW action summary

Snowflake is currently facing significant headwinds, including a lack of profitability. AI spending is rising, and widening losses suggest it continues to struggle to manage these high operating costs in a fiercely competitive market. With a new CEO at the helm, the stakes are high for Snowflake — suggesting the company has an extremely small margin for error over the next few quarters as it tries to drive significant growth.

On the date of publication, Nauman Khan did not have (directly or indirectly) a position in any of the securities mentioned in this article. All information and data in this article is for informational purposes only. For more information, please see Barchart’s Disclosure Policy here.