Microsoft (MSFT 0.23%) and C3.ai (AI -1.63%) could both profit from the burgeoning market for "generative" AI services, which process existing data into fresh ideas. Microsoft is the top investor in OpenAI, the startup that created ChatGPT, and it's already integrated those tools into its Bing search engine and Azure cloud services.
C3.ai develops AI algorithms that can be integrated into an organization's existing software to automate tasks, improve employee safety, and detect fraud. It also recently launched new dedicated tools for ChatGPT and other generative AI platforms. The market's growing interest in generative AI caused C3's stock to more than double to about $25 this year. But that's still far below its IPO price of $42 from December 2020.
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Could C3.ai's market cap continue to soar and eclipse Microsoft's by the end of the decade? Let's review its growth rates and valuations to decide.
Separating the hype from the reality
C3.ai has a catchy brand and ticker symbol, but it has a noticeable habit of rebranding itself to fit the hottest trends. It was known as C3 Energy in 2012, when investors were more bullish on gas and oil companies, but it rebranded itself as C3 IoT in 2016 when the market fell in love with Internet of Things (IoT) devices. Therefore, its latest rebranding as C3.ai in 2019, which coincided with the market's growing interest in AI, raises a few eyebrows.
When we peel back the layers of the onion, it becomes clear that C3 hasn't evolved too much over the past decade. It still generates most of its revenue from the energy sector, and it relies on a joint venture with oilfield services giant Baker Hughes (BKR -1.08%) for more than 30% of its revenue. Its algorithms can be customized to streamline and automate processes for specific industries, but the critics claim they aren't really the "transformative" AI tools that C3 promotes.
C3's own growth rates since its IPO arguably paint a picture of an average enterprise software company that's heavily exposed to the macroeconomic headwinds. Its revenue rose 17% in fiscal 2021, which ended in April 2021, as the pandemic disrupted the growth of the energy sector, and then grew 38% in fiscal 2022 as it lapped that slowdown.
At the end of fiscal 2022, C3 told investors it could generate 22% to 25% revenue growth in fiscal 2023. But by the end of the third quarter, it had reduced that growth forecast to just 4%-5%. That slowdown was caused by sluggish enterprise spending in the tough macro environment, as well as its decision to pivot from subscriptions toward usage-based fees. C3's partnership with Baker Hughes will also expire in fiscal 2025, and there's no guarantee that that deal -- which had already been renegotiated with lower annual revenue commitments from Baker in 2020 and 2021 -- will be renewed.
C3 has signed some new AI partnerships with Alphabet's Google Cloud, Microsoft's Azure, and the U.S. military, but the specifics of those deals are vague and haven't meaningfully boosted its revenue yet. C3's decision to abruptly abandon its subscription-based model also indicates that it won't lock in those bigger customers with recurring revenue.
Simple math suggests it won't eclipse Microsoft in 2030
C3.ai claims its revenue growth will accelerate to about 30% again after the macro headwinds subside. Assuming that best-case scenario happens and C3's revenue rises at a compound annual growth rate (CAGR) of 30% between 2022 and 2030, it could potentially generate $2.2 billion in revenue by the final year. By comparison, Microsoft is expected to generate $208.9 billion in revenue in its current fiscal year, which ends this June.
Assuming C3 still trades at about 11 times sales by then, it would be worth only $24 billion. In the unlikely case that investors turn much more speculative again and pay 30 times sales for C3, it might be worth $66 billion.
Yet that would still be 3% of Microsoft's current market cap of $2.09 trillion. If Microsoft grows its annual revenue at a CAGR of just 5% from fiscal 2023 to fiscal 2030 and still trades at similar valuations, its market cap could rise to nearly $3 trillion.
C3's poor track record with meeting its own guidance also suggests it won't grow its annual revenue by 30% anytime soon. Analysts expect its revenue to grow at a CAGR of just 15% from 2022 to 2025, and for it to stay unprofitable on a generally accepted accounting principles (GAAP) basis through 2025. Those lackluster estimates suggest C3 deserves to trade at a much lower valuation -- and that its recent rally was only driven by the speculative stampede toward AI-related stocks.