Nvidia (NVDA 6.18%) was the best-performing stock in the S&P 500 in 2023. So far this year, it's also the best-performing stock in the entire index. The winners keep running higher as investors gravitate toward companies that are successfully monetizing artificial intelligence (AI).
Despite the company's red-hot returns, there are reasons to believe that Nvidia could grow into its valuation over time. But some investors may want to look outside the tech sector for AI opportunities. That's where GE HealthCare Technologies (GEHC 0.34%) and Deere (DE -0.18%) come into play. Here's why Nvidia and these two underrated AI plays could be worth buying now.
Image source: Getty Images.
There's nothing wrong with following the AI leader
Scott Levine (Nvidia): Over the past year, several stocks have emerged as compelling routes to gaining AI exposure. But sometimes it's OK to go with the obvious choice. For investors bullish on the prospects of AI -- and it's hard not to be -- Nvidia is still a great option. Sure, the stock has skyrocketed more than 290% since this time last year, but shares can continue flying higher.
Consider, for example, the valuation of Nvidia's shares. Currently, the stock is trading at 36 times forward earnings. This may seem like a frothy valuation, but it's common for stocks with high expectations surrounding them to trade at such valuations. It may seem counterintuitive to characterize a stock with a market capitalization in excess of $2.3 trillion as a growth stock, but the AI market is expected to rise at a compound annual growth rate of more than 37% from 2023 to 2030, according to research firm Grand View Research.
While Nvidia generates revenue from the gaming and automotive industries, it's the company's data center business that's the cash cow, representing 78% of revenue in fiscal 2024. Because large language models and generative AI programs require colossal amounts of computing power, data centers use Nvidia's chips -- such as its Hopper Tensor Core GPU (graphic processing units) -- to help handle the considerable computing demands placed on them.
Nvidia foresees a ripe growth opportunity related to its AI offerings in the form of "AI factories." According to management, these are innovative data centers specifically built for AI purposes such as "processing, refining, and transforming vast amounts of data into valuable AI models and tokens." Nvidia estimates that leading companies will have their own AI factories to support their operations.
Despite the rapid rise in its price, Nvidia's stock doesn't seem to be unattractively valued. The company generates massive amounts of cash -- $26.9 billion in fiscal 2024 -- so its stock is still a great way to quench investors' thirst for AI exposure.
AI is integral to the growth plans at GE Healthcare
Lee Samaha (GE HealthCare): Investment in AI continues to be explosive, and the immediate beneficiaries are companies like Nvidia that create the architecture around it. That said, there's a reason why AI investment is exploding, and it comes down to the productivity improvements it generates. That's why the next wave of beneficiaries will be companies that use AI to add value to their solutions for customers.
Productivity improvements are never more important than in the healthcare industry, where huge volumes of important data and information are created that aren't yet being analyzed to the best of their ability. That's where GE Healthcare, a leading provider of imaging, ultrasound, pharmaceutical diagnostics, and patient care equipment, comes in.
The company has 58 AI-enabled device authorizations, more than any other medical technology company. Its imaging equipment can be embedded with AI to produce more intelligent systems that quickly and accurately diagnose and predict outcomes. This is a significant plus in a critical-care environment such as intensive care units, emergency departments, or neonatal intensive-care units.
Developing and releasing new AI-enabled products is a vital part of GE Healthcare's revenue and margin expansion plans. Indeed, management wasted no time in investing in AI after it was spun off from General Electric in early 2023 with an agreement to acquire Caption Health, a leader in AI applications in ultrasound scans, which was announced in February 2023. Moreover, management recently announced a deal to buy MIM Software, an AI solution provider of analysis for imaging and radiotherapy.
Investors can expect GE Healthcare to continue adding and developing complementary AI solutions and adding value in the process. That's great news for healthcare providers, patients, and investors.
Deere is playing the long game with AI
Daniel Foelber (Deere): Deere is a good example of a technologically-forward company that often gets overlooked as a top AI player. But investors should be skeptical when it comes to massive industrial companies posing as tech companies.
Not to pick on Honeywell International too much, but it has been touting monetization of the industrial internet of things and automation for several years now, yet its growth has slowed to a sluggish pace.
Investing in innovation doesn't always translate to a material impact on the bottom line. But Deere is showing that its Smart Industrial strategy, which was introduced in 2022, is helping drive its performance. To quote Deere CEO John May from the Q1 fiscal 2024 earnings call:
As I think about 2024, it's helpful to consider the smart industrial journey that we've been on, which has been grounded in unlocking incremental value for our customers through technology and enabling Deere to deliver structurally higher financial performance. I'm extremely pleased with how we've executed our production systems approach, centralized and advanced our tech stack and focused on delivering value across the entire life cycle of our solutions, all while allocating capital in a more efficient and strategic manner. Deere's last few years of financial performance are evidence of the structural improvement that comes with executing our strategy, all while delivering better outcomes for our customers.
This expansion cycle has been particularly sizable for Deere. When plotting a cyclical company's earnings, investors want to see a squiggle line that slopes up and to the right, accounting for downturns and expansions, with each expansion including new highs. Deere's recent expansion was abnormal. Here you can see the company's last 20 years of annual earnings.
DE Net Income (Annual) data by YCharts.
There are a few downturns, followed by expansion periods and then boom -- the recent cycle from fiscal 2021 to fiscal 2023 showcased explosive growth. Deere attributes a lot of that growth to its combination of software and hardware that's driving efficiency for its customers.
In an interview with CNBC last December, Deere's Chief Technology Officer famously said that Deere is preparing for a fully autonomous farm by 2030. The company has already leveraged AI through computer vision and machine learning to help farmers lower material costs and boost crop yield by maximizing production per acre. More sophisticated machines also help boost the need for Deere services, which it can provide through its dealership network.
In fiscal 2023, Deere's research and development expense reached $2.2 billion -- the first time it has ever surpassed $2 billion in a single fiscal year.
The company's capital priorities begin with maintaining its strong balance sheet. That's followed by investing in the business and organic growth, growing the dividend while targeting a 25% to 35% payout ratio based on its midcycle earnings, and buybacks.
Investors looking for an industrial company that's putting innovation first to drive long-term shareholder returns over immediate returns should consider Deere for their portfolios.
