Right now the Street is enthralled with hardware stocks that are clearly benefiting from the proliferation of AI. Broadcom (NASDAQ:AVGO), Arista Networks (NYSE:ANET), and, of course, Nvidia (NASDAQ:NVDA), are among the names in the latter category that have rallied recently. And so far, large investors have not been nearly as thrilled with software companies that have added AI features. But in an unusual development, I find myself largely agreeing with Cathie Wood’s take on this issue. Last year, Wood said that software stocks would be the next big thing in the AI space, and she predicted that software makers with exposure to AI would generate $8 of revenue for each $1 produced by hardware firms in the space.
While I’m not sure if Wood’s ratio will be exactly on target, much more money is indeed likely to be ultimately spent on AI-powered software than on chips and servers. After all, the vast majority of businesses on the planet are likely to eventually buy software with AI capabilities, and that’s simply not the case for hardware. With that said, the trend can indeed be your friend on the Street. Therefore, of the three AI stocks that I’ll recommend in this column, two will be software makers and one will be mostly in the hardware camp.
C3.ai (AI)
Source: shutterstock.com/Below the Sky
Tailored to specific sectors, C3.ai’s (NYSE:AI) software allows its customers to easily integrate AI into their operations.
As I noted in a previous column, the firm reported outstanding first-quarter results as its revenue climbed 20% year-over-year and its net cash used in operating activities sank to $62.36 million from $115.69 million in Q1 of 2023.
Meanwhile, multiple investment banks were very pleased with the software maker’s results. Northland upgraded AI stock to “outperform” from “market perform.” Among the positive news cited by the bank were the acceleration of the firm’s subscription growth, increases in the number of pilot deals that it’s conducting, and higher demand for generative AI. Northland raised its price target on the shares to $35.
Also upbeat on the shares was Wedbush which noted that C3.ai predicts that it will generate positive free cash flow next year. The bank believes that this guidance suggests that the firm can prioritize its profitability. Wedbush kept a $40 price target and an “outperform” rating on the shares.
C3.ai’s shares climbed 50% between April 16 and June 11, indicating that the Street is starting to view the firm as one of the best AI stocks to buy.
IBM (IBM)
Source: shutterstock.com/LCV
IBM (NYSE:IBM) is adopting an approach to generating revenue from its AI coding tools that I believe could turn out to be quite successful.
To get its foot in the door with companies, Big Blue is providing its AI-powered Granite tools, which enable coders to work more quickly, for free. But the firm also sells Watson which allows Granite to run more smoothly. The free tools could very well entice many firms to sign up with IBM rather than one of its competitors.
The approach appears to have worked with the Saudi Arabian government, as the country recently agreed to train its large language model with Watson. The latter agreement could lead to IBM making similar deals with other Middle Eastern governments.
IBM, which also generates a great deal of revenue from sending its consultants to help businesses implement AI, had more than $1 billion of AI-related bookings as of the end of April.
Arista Networks (ANET)
Source: Sundry Photography / Shutterstock.com
Primarily a hardware play, Arista Networks recently made a move into software that could prove to be a game changer. Specifically, the company unveiled a software-based, AI-powered system that will enable data centers to manage large numbers of switchers, routers, and chips from a single point. The system also allows data centers to “debug” network problems, the company reported.
And with AI PCs set to proliferate, I continue to expect Arista to get a sizeable boost from the hardware that it sells for edge data centers. That’s because I believe that, for AI PCs to exploit their advantages over PCs that utilize AI based in faraway data centers, they will have to obtain information from edge data centers. After all, AI PCs’ advantages are enabled by low latency, and obtaining data from faraway locations increases latency.
In a note to investors on May 29, British bank Barclays predicted that Arista’s “AI-related back-end revenue” would exceed its guidance of $750 million in 2025. The bank expects the company’s revenue to rise about 15% in both 2024 and 2025, and it kept an “overweight” rating on the shares.
On the date of publication, Larry Ramer held a long position in ANET. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Larry Ramer has conducted research and written articles on U.S. stocks for 15 years. He has been employed by The Fly and Israel’s largest business newspaper, Globes. Larry began writing columns for InvestorPlace in 2015. Among his highly successful, contrarian picks have been SMCI, INTC, and MGM. You can reach him on Stocktwits at @larryramer.
