When my 94-year-old grandfather asks me about artificial intelligence (AI), as he did just last week, I believe it's safe to say that AI is the most hyped trend in business and investing today. But this much attention can raise expectations sky-high. And sky-high expectations tend to lead to overvalued stocks.
Unfortunately for investors, many companies are overstating their AI capabilities -- it's so bad that the Securities and Exchange Commission (SEC) is starting to investigate false claims. The fakers obviously won't make good AI investments. But legitimately good AI companies may not make good investments today either due to their elevated valuations.
And that's why I want to highlight two lesser-known companies today in AppLovin (APP -1.12%) and Xometry (XMTR 0.74%). Both are legitimate AI stocks. But they are under the radar and potentially undervalued, making them much better buys right now.
1. AppLovin
AppLovin owns around 200 mobile games, and these generated revenue surpassing $1.4 billion in 2023. But management doesn't intend for this to be the long-term business model -- indeed, the company is open to selling these apps outright if it can find a buyer. Rather, it developed these apps to help gather data for training the AI models for its software business.
Companies want users to find, download, and use their apps and they turn to AppLovin for help. The company's AppDiscovery software product is powered by AI and the newest version launched in 2023. Based on revenue growth, I'd say it's been an overnight success story. In 2023, AppLovin's software revenue was up 76% year over year to $1.8 billion.
What's exciting is that AppLovin is experiencing this level of growth during a slump in the mobile app economy. According to Statista, worldwide spending on mobile apps was $171 billion in 2023. For perspective, it was $170 billion back in 2021. Therefore, the space isn't growing, but AppLovin is.
What's also exciting is that AppLovin is still feeding the AI models. Management hopes that it will only get better from here, leading to greater discovery and monetization for its customers. And if it delivers for its customers, it's reasonable to expect that it will take market share from competitors.
AppLovin's software business is higher-margin compared to its app business. Therefore, with growth in its software business, the company's profits are soaring. It had net income of over $350 million in 2023, with nearly half of that coming in the fourth quarter.
Q4 results show that AppLovin has momentum when it comes to profitability and the trend is projected to continue. Consequently, AppLovin stock trades at just 15 times its expected earnings. That's a reasonable valuation for an AI stock that's booming as much as this one.
APP PE Ratio (Forward) data by YCharts
2. Xometry
Xometry isn't jumping on the AI bandwagon. To the contrary, the company's entire business model has been relying on AI since before it went public in 2021, which was before the current AI trend really got going.
Xometry is in the manufacturing space -- an estimated global market opportunity of $260 billion that's historically resisted tech disruption. But the company hopes that its AI software changes the game.
In short, Xometry has an online marketplace where those in need of custom manufacturing can get an instant bid. And the company's AI provides buyers with the instant pricing. The company then looks for third-party manufacturers willing to do the work for a cheaper price than what it quoted buyers. Xometry makes money with the spread.
It's easy to see why the effectiveness of its AI software will make or break Xometry. If its prices are too low, third-party manufacturers won't want to take the jobs. But if prices are too high, then there won't be much spread for Xometry to make money. Its AI needs to find the sweet spot.
I'd say things are off to an encouraging start for Xometry. As the chart below shows, revenue is consistently rising and its gross margin has shown improvement -- the latter suggests better pricing from its AI software.
XMTR Gross Profit Margin data by YCharts
Xometry is on the cusp of disrupting this lucrative market and its financials suggest that the AI software is increasingly up to the task. That alone is worthy of investors' attention. But additionally, the stock trades at less than 2 times sales, which is quite cheap.
I believe that AppLovin stock and Xometry stock could both make good buys today. But more than anything, I hope readers will be encouraged. A trend can be exciting but that doesn't mean one has to buy a stock that is fundamentally overhyped and overvalued. Better opportunities in a hot trend can be just below the surface for those willing to do a little digging.
