Focus on AI
With the rise of the NVDA and the now massive representation of the Mag 7 within the U.S. stock market, Artificial Intelligence (AI) has become one of the most important subjects facing all investors. (For those especially interested, we have addressed this topic in a number segments on our @76research YouTube channel, which can be conveniently found in our recently created and rapidly growing Tech Trends playlist.)
From an investment perspective, we are excited about the potential of AI for many reasons, from opening new market opportunities to driving efficiencies to improving the overall real growth of the economy. But as with any technological transformation, there are risks—valuations can become excessive, over-investment can take place, and first mover profitability can erode.
One of our core messages to subscribers is to approach the AI opportunity set carefully. With the three tech stocks currently held within the American Resilience portfolio, we believe we have identified positions that offer significant upside participation in the AI revolution but with less susceptibility to downside risk versus other potential alternatives.
Oracle (ORCL)
As we highlighted in a recent 76report, ORCL brings a number of unique strengths as it pursues its buildout of AI data centers along with other cloud hyperscalers. While ORCL was relatively late to the game, it stands to benefit from the deployment of more advanced second generation technology.
ORCL is also able to leverage its position as the leading global database provider to enterprises. ORCL is uniquely well-situated to help clients integrate AI applications with their vast internal data sets.
Corporate customers are increasingly moving towards “multi-cloud” solutions because they do not want to be beholden to a single vendor, like Microsoft Azure or Amazon Web Services. As a relatively smaller cloud player, ORCL is finding success in this niche as a complementary cloud infrastructure provider to the industry giants.
ORCL’s 2022 acquisition of Cerner, a health care-focused IT play, for $28 billion was somewhat controversial but now positions ORCL for success in deploying AI solutions within the enormous hospital and health system market. Health care is one of the most promising domains for real productivity enhancements using AI tools.
Last but certainly not least, ORCL’s valuation (with a current P/E of 23x) is quite subdued relative to peers and only attributes modest growth to its AI initiatives.
Roper Technologies (ROP)
ROP is similar to ORCL in many respects. ROP provides a wide range of mission critical software solutions to customers across various industries.
ROP is effectively a roll-up of niche software companies. These businesses have attractive recurring revenue relationships based on software systems that are deeply embedded within their clients’ operations.
Companies like NVDA and their hyperscaler customers (which include ORCL but are primarily the Mag 7 tech platform companies) are providing the raw computing power to support AI tools. A company like ROP is providing the actual applications.
Beginning in 2023, ROP began layering in new AI-based technologies within its existing suite of software products. ROP is also targeting smaller AI start-ups as part of its acquisition program.
ROP is not a hyperscaler and therefore is not vulnerable to the sort of AI over-investment risks that concern so many investors with regard to the Mag 7. Rather, it is a long-term beneficiary of AI capacity growth and innovation because the company takes advantage of the technology to better serve its customers.
Like ORCL, ROP’s valuation does not appear to reflect sizeable expectations in terms of AI-related earnings uplift, although indications of early AI investments are flowing through. ROP could potentially benefit substantially from an improved perception of its AI prospects in the quarters to come.
Texas Instruments (TXN)
TXN has many commendable attributes, which we have described. Specifically when it comes to AI, we see TXN as an excellent downstream beneficiary of the massive investment in AI computing capacity and the ongoing deployment of AI technologies across multiple industries.
As the global leader in analog semiconductors, TXN is well-positioned to supply the analog chips that will be required as AI technology is implemented in automobiles and across other real world industrial applications.
From a valuation perspective, TXN appears to be on the cusp of a very significant recovery in free cash flow generation. This follows a temporary free cash flow squeeze, which hurt the share price, that was brought about by the confluence of pandemic-related inventory surpluses and planned long-term investment in advanced manufacturing capacity (strategically located within the borders of the United States).
An important step forward in the free cash flow story took place on August 20, when TXN announced on its capital management conference call that it would take a more flexible approach to 2026 capital spending. Previously, the company had signaled $5 billion; now, TXN is targeting $2 to $5 billion based on demand.
The more cautious approach to capital spending likely reflects the pressure recently applied by one of its largest shareholders, hedge fund Elliott Management, which has been nudging TXN to exhibit more capital discipline. As free cash flow recovers, we believe there is a strong likelihood that TXN shares will benefit from earnings multiple expansion, consistent with historical patterns.
