This recent earnings season has seen a violent sell-off in many tech names that have rallied this year as investors have come to doubt the artificial intelligence (AI) boom.
No doubt, big companies continue to spend heavily on AI infrastructure. And while tech giants Alphabet (GOOG 2.49%) (GOOGL 2.30%) and Microsoft (MSFT 2.44%) posted quite good earnings, apparently, many investors were expecting even more. With the overall economy appearing to soften and the unemployment rate recently ticking up to 4.3%, the sell-off has recently intensified.
Yet, reading the commentary from leading tech companies, this investor thinks concerns over the AI revolution are short-sighted. Based on big tech CEO statements and one statement from a leading memory company at the end of June, there's a good case to be made that the spending boom will continue. That makes the recent pullback in AI stocks a long-term opportunity.
Image source: Getty Images.
Google and Microsoft post solid beats on AI growth
At first glance, it's entirely understandable why investors sold these stocks on earnings. While both Microsoft and Google beat on both revenue and earnings expectations, they also spent much more on capital expenditures to build AI data centers.
While Alphabet beat expectations with 14% revenue growth and 31% earnings-per-share growth in the quarter, which was impressive, capital expenditures nearly doubled relative to last year. And while Microsoft beat expectations, posting revenue growth of 15% and EPS growth of 10% -- though operating income growth matched revenue growth at 15% -- its capital expenditures soared 55% relative to the prior-year quarter.
Clearly, investors are nervous that the current growth in operating income isn't matching the growth in spending. That would mean big tech stocks will either go down as they spend money on endeavors that don't generate sufficient returns on invested capital or eventually stop spending so much, which could hurt the likes of Nvidia (NVDA 2.13%) and other semiconductor stocks.
However, each company's management remained quite bullish on AI. Alphabet CEO Sundar Pichai noted the company's AI solutions were being used by some 2 million developers. Meanwhile, Google Cloud's revenue beat expectations, accelerating its growth rate with profitability inflecting to $1.2 billion, a new quarterly record. Pichai also added:
We are in this phase where we have to deeply work and make sure on these use cases, on these workflows, we are driving deeper progress on unlocking value, which I'm very bullish will happen. But these things take time. But if I were to take a longer-term outlook, I definitely see a big opportunity here.
Microsoft also had good things to say about its AI products. CEO Satya Nadella noted strong AI CoPilot versions of products were seeing traction across the customer base. Microsoft 365 CoPilot seats doubled quarter over quarter, and Github CoPilot is now bigger than Github was overall when Microsoft first bought it in 2018, according to Nadella. While Azure's growth technically disappointed Street expectations, Azure still posted 30% growth in constant currency, the strongest of the three major cloud providers.
NASDAQ: MU
Key Data Points
Cash-rich companies continue to race to AGI
So, while these tech giants may have seen some slowing in parts of their economically sensitive businesses, AI products are still strong. Meanwhile, all the big cloud companies have significant cash on their balance sheets and the ability to invest.
Could they slow spending if the economic climate gets bad enough? Perhaps, but one quote from memory specialist Micron Technology (MU +0.59%) CEO Sanjay Mehrotra at the end of June hinted the spending may keep going, regardless of the economy:
We are in the early innings of a multi-year race to enable artificial general intelligence, or AGI, which will revolutionize all aspects of life. Enabling AGI will require training ever-increasing model sizes with trillions of parameters and sophisticated servers for inferencing. AI will also permeate to the edge via AI PCs and AI smartphones, as well as smart automobiles and intelligent industrial systems.
Artificial general intelligence (AGI) is thought of as the "holy grail" of AI. It means a machine will be able to think, reason, and learn just as humans do, while simultaneously having access to all the knowledge in the entire world. This would make for a superintelligence that could theoretically benefit humanity in revolutionary ways.
While many had thought AGI might not come before 2050, recent advances have put the target closer. Elon Musk predicted AGI in two years and OpenAI CEO Sam Altman predicted roughly five years to AGI.
Tech giants have the cash to continue pursuing this race
Mehrotra's comment seems to indicate big tech giants all over the world are in the AI race for the long haul, or at least until we see AGI.
While big tech businesses may see some slowing relative to expectations, these are still incredibly profitable businesses with huge balance sheets. So, as long as AGI appears to be a realistic goal on the medium-term horizon and these companies have the cash, the AI race looks to still be very much on.
