Shares of C3.ai (AI 2.10%) have more than tripled year to date in 2023 as of this writing, leaving the high-flying enterprise AI software specialist vulnerable to bearish traders looking to poke holes in its growth story.
In particular, I've seen many skeptical investors wonder just how a cash-burning business that notably lacks significant top-line growth can trade at such a steep valuation. Indeed, revenue for C3.ai's full fiscal year 2023 (ended April 30, 2023) climbed a modest 5.6% year over year to "just" $266.8 million, leaving the stock trading hands at around 16 times trailing-12-month (TTM) sales and 12 times forward estimates.
NYSE: AI
Key Data Points
Let's put aside the fact that C3.ai stock is also trading down more than 75% from its post-IPO highs in 2020 -- a time when shares were apparently even more egregiously overvalued and trading hands at nearly 90 times TTM sales. Valuation multiples have obviously contracted for both the market and the tech sector in particular since then.
But why, then, has C3.ai rallied so hard this year? And more importantly, the bears ask, how can it still possibly expect to sustain and grow into its current valuation?
To be clear, I believe the justification for C3.ai's rally is much more than a so-called "AI bump." Rather, I think C3.ai bears are ignoring two key catalysts driving this stock forward.
Revenue growth is poised to accelerate
First, perspective is in order. Three quarters ago, C3.ai switched to a new consumption-based pricing model, through which it charges new customers based on vCPU/hour usage rather than a flat rate as it was charging through its older subscription-based model. C3.ai also introduced a six-month pilot subscription, offering unlimited use of the C3.ai platform, unlimited developer licensing, unlimited runtime licensing, and a concierge tech support and training program.
The obvious goal of this switch, of course, was to not only encourage new customers to see what they could achieve with unfettered access to C3.ai's platform but also make its value proposition significantly easier to quantify for prospective users.
The problem, however, was that transitioning away from subscription pricing and toward a consumption-based model had a significant negative impact on C3.ai's remaining performance obligations (RPO) and bookings -- both key metrics investors tend to use to gauge future revenue growth -- over the near term.
Fast forward to today, however, just as we're about to lap C3.ai's switch to consumption-based pricing, and it's obvious C3.ai is beginning to enjoy the fruits of the move.
Last quarter, for example, C3.ai management credited "increasing market demand for enterprise AI -- and from our adoption of consumption-based pricing" for driving a "substantial increase in opportunities and shorter sales cycles."
Indeed, current full fiscal year 2024 guidance calls for revenue in the range of $295 million to $320 million, good for accelerated year-over-year growth of between 11% and 20%. C3.ai has a habit of underpromising and overdelivering as well, so I won't be the least bit surprised if it arrives near the high end of that range when all is said and done.
Profitability is in sight
Meanwhile, in conjunction with its switch to consumption-based pricing last year, C3.ai outlined a target for achieving non-GAAP (adjusted) profitability by the end of fiscal-year 2024 (ended April 30, 2024).
Sure enough, during last quarter's conference call with analysts, C3.ai Chairman and CEO Tom Siebel confirmed the company is not only on track to meet that goal of reaching adjusted profitability by the fourth quarter of this fiscal year but also expects to be able to generate sustained positive free cash flow by then as well.
Make no mistake -- in a macro environment where interest rates are high, and capital is significantly harder to raise compared to when C3.ai went public in late 2020, our market will almost certainly continue to celebrate businesses that are seeing revenue growth accelerate while on the cusp of sustained positive cash flow and profitability. When that happens, I suspect C3.ai might have an easier time growing into its lofty valuations than most bears expect.
