The release of OpenAI's large language model-based chatbot ChatGPT late last fall brought artificial intelligence (AI) and machine learning (ML) to the public consciousness in a big way. However, companies have been researching and leveraging AI/ML for many years. That's because they know these technologies offer that all-important competitive advantage.
Here are two examples to provide a simple illustration of what I mean.
- An accounting firm needs to scour a large amount of dense financial data and summarize the information. Previously, this meant an individual (or many individuals) spending hours reading through it all and making notes. An AI tool can summarize the data in seconds, freeing up the employee to do higher-level analysis.
- An AI-powered cybersecurity company (like CrowdStrike, which I have recently written about here) protects companies from breaches using software that "learns" from previous attacks. The more that cybercriminals try to penetrate the defense, the better the protection gets since it constantly assimilates the new data.
Regardless of the use case, just about all AI applications have a few things in common: the need for processing power and cloud infrastructure to run the applications. This is where Nvidia (NVDA -1.36%) and Amazon (AMZN 2.48%) become AI essentials. And their earnings prove it.
Nvidia silences doubters
I admit I was skeptical that Nvidia as a company would live up to the stock hype in 2023 that saw the price jump more than 200% by the time fiscal 2024 Q2 earnings were released on Aug. 23. But the latest results wiped that skepticism away (and now has the stock up 241% in 2023).
It seems the biggest limitation Nvidia has is its ability to keep up with the ridiculous demand for its high-performance graphic processing units (GPUs). In the report for the quarter ending July 30), revenue more than doubled year over year to $13.5 billion, with data center revenue up 171%, and accounting for $10.3 billion of the total.
The chart below details its dominant performance:
Nvidia's 50% operating margin is incredible, but it makes sense. When demand is this high, Nvidia has tremendous pricing power in the industry. In fact, Nvidia guided for an even higher margin in the next quarter. This allows the company to reward shareholders with a new $25 billion share buyback program that should continue to ramp up.
The earnings were simply spectacular, and the promise of more makes this stock worth further consideration, even with its already high valuation.
Amazon outperforms again
Amazon will benefit from the AI boom in more ways than many investors realize. The company uses AI to increase efficiency in its operations and logistics and to create personalized product placements for browsers of its e-commerce site. Its chatbots handle many customer service issues. It also has customer-facing tools in its ad service to help those customers create personalized AI tools to improve ad placement.
But the biggest beneficiary of AI integration is Amazon Web Services (AWS). AWS is the world's largest provider of cloud infrastructure. The platform is scalable, meaning that companies pay Amazon based on the amount of data they use. AWS customers will have massive data needs for their AI applications, and AWS is the biggest provider out there right now.
Investors who follow Amazon stock know that the company has dealt with a lot of headwinds over the past couple of years, from increased labor costs to pandemic-related shipping port backups to increased inflation tamping down sales growth. Even with AWS, client companies were cutting data usage budgets heading into 2023 in anticipation of a possible recession. Some predicted dire consequences for Amazon.
The latest earnings report blew up those predictions. Second-quarter revenue increased 11% year over year to $134 billion. AWS growth did slow down a bit but it still posted a 12% year-over-year gain to $22 billion. Perhaps the clearest indicator of Amazon's recovery is its return to positive trailing-12-month free cash flow in Q2 (see chart below).
This is excellent news for shareholders who were patient with Amazon as it navigates what has become a challenging economy. Recession fears are easing and, when you add in the AI tailwinds, investors should expect those hesitant client companies to boost their data usage budgets in 2024. That, in turn, will accelerate AWS growth again. Even if that doesn't happen, Amazon's Q2 earnings shows the strength of its ecosystem.
Amazon stock currently trades at a price-to-sales (P/S) ratio of 2.6, well down from its five-year average of 3.5. That suggests now is a good time for long-term investors to consider initiating or adding to a position.