Artificial intelligence (AI) is all the rage surrounding tech stocks. The technology has ever-evolving applications and is quickly disrupting businesses around the globe.
One of the most important pillars in AI is semiconductors. High-performance graphics processing units (GPUs) from the likes of Nvidia and Advanced Micro Devices are critical for sophisticated models specializing in machine learning or quantum computing.
While chip manufacturers represent a more direct way to invest in generative AI, savvy investors understand that there are a whole host of other opportunities alongside semiconductors. At the moment, perhaps the most lucrative of these opportunities is Super Micro Computer (SMCI +3.22%). The company designs architecture for IT solutions including server racks and storage clusters, and has close ties to Nvidia and AMD.
With the stock up nearly 177% year to date and almost 800% in the last year, could Super Micro Computer be headed toward a trillion-dollar valuation?
NASDAQ: SMCI
Key Data Points
Is Super Micro Computer the next big thing?
Trying to identify the next big opportunity in the market is a lot like searching or buried treasure. It's fun, entertaining, and you might actually find it -- but you probably won't. In more recent history, applications in the metaverse, blockchain technology, and now artificial intelligence (AI) are just a few areas that have witnessed unprecedented interest from investors. And while a lot of people certainly made money in these sectors, many people also were left as bag holders.
It seems like every tech executive is touting the term "artificial intelligence" any chance they get. While I do not personally believe that AI is a fad, I do think there will only be a small cohort of winners in the long run. For this reason, it's paramount to discern the players from the wannabes.
Given Supermicro's close relationships with leading chip manufacturers, it's not entirely surprising to see the company's impressive growth over the last year.
SMCI Revenue (Quarterly) data by YCharts
On the surface, the chart above might inspire confidence in Supermicro. Indeed, while the addressable market for AI-powered chips is expected to continue growing, the company's long-term outlook appears robust.
However, prudent investors should consider a few things before pouring into Supermicro stock on the expectation that it'll continue soaring.
Image source: Getty Images.
What is going on with Super Micro Computer stock?
Following an impressive earnings report in late January, Supermicro stock has been on a tear. But as I've pointed out before, there is something almost pernicious going on with Supermicro's trading activity.
It seems that whenever mainstream chip stocks such as Nvidia or AMD enjoy a green day in the market, Supermicro gets rewarded as a byproduct. This dynamic is a little troubling. While investors have been making money in Supermicro for the last year, it's important to zoom out and think long-term.
Eventually, Nvidia and other chip manufacturers contributing to the AI revolution are going to hit an inflection point. This means that sales, margin, and profit will eventually decelerate relative to current growth rates. When this occurs, some investors may begin to sell and take some gains. As such, I wouldn't be surprised to see Supermicro's price action follow a similar dynamic.
While I am not advocating for investors to stand by and wait for the stock to fall off a cliff, I do think investors need to have some serious understanding of Supermicro's valuation before scooping up shares.
Can Super Micro Computer become a $1 trillion company?
At the time of this article, Supermicro has a market cap of $44 billion. With trailing-12-month revenue of $9.2 billion, this represents a price-to-sales (P/S) ratio of about 4.6. By comparison, more mature and differentiated integrated systems designers such as Dell and Hewlett Packard Enterprise each trade at a P/S of roughly 0.7.
For the fiscal year ending June 30, Supermicro's management is calling for revenue of up to $14.7 billion. In order to achieve a valuation of $1 trillion by 2030, the company would need to grow at a compound annual growth rate in excess of 40%, assuming its current P/S multiple.
While a premium for Supermicro may be warranted right now given its growth rates and momentum, it is highly unlikely that the markets will apply such a high multiple in the long run. In other words, as businesses mature, valuation often rightsizes as well. If the company can sustain annual growth in the high double digits, then Supermicro stock might enjoy a continued premium. However, I see this as highly unlikely.
The cyclical nature of semiconductor demand, coupled with unknown macroeconomic factors in the future, could cause Supermicro's business to decelerate at some point. Moreover, given its reliance on other manufacturers, Supermicro isn't exactly insulated from any slowdowns the chip market could face. For these reasons, I do not believe the company will be able to grow upward of 40% annually for the next several years and attain a trillion dollar valuation.
