Generative artificial intelligence (AI) uses large language models and other machine learning models to create text, images, video, audio, and computer code. Use cases range from digital assistants that improve worker productivity to intelligent avatars that make video games more lifelike.
Bloomberg Intelligence expects generative AI revenue to exceed $1.3 trillion in 2032, up from $63.5 billion in 2023. Put differently, Bloomberg believes spending across generative AI hardware, software, and services will surge 2,040% over the next nine years.
Some analysts see an even bigger market. For instance, McKinsey & Company research suggests generative AI will eventually contribute $7.9 trillion annually to the global economy. Opportunities like that come along rarely, so investors should position their portfolios accordingly.
Nvidia (NASDAQ: NVDA) is a logical stock to own. In fact, I think most investors should have some exposure to the chipmaker. But Nvidia is by no means the only company that will benefit, and owning a single AI stock is a poor strategy. Here’s why I think Super Micro Computer (NASDAQ: SMCI) is the best AI stock to buy now.
Nvidia dominates the market for artificial intelligence processors
Nvidia graphics processing units (GPUs) have long been the gold standard in accelerating data center workloads like artificial intelligence. The spotlight has certainly intensified over the past year, given that Nvidia’s revenue and net income have grown at a triple-digit pace for four consecutive quarters. But investors should understand that Nvidia did not stumble mindlessly into its recent success.
Nvidia has dominated the data center GPU market for nearly two decades, and the company has been setting performance records at the MLPerfs — objective benchmarks that measure how quickly AI systems can perform AI training and inference tasks — since those tests were created in 2018. One reason for that success is the CUDA programming language, which lets Nvidia GPUs (originally built for computer graphics) accelerate other data center workloads.
Nvidia introduced CUDA in 2006, and the platform has since expanded to include hundreds of frameworks and software libraries that streamline data preparation, model training, and AI application development. No other chipmaker has a supporting software ecosystem that is remotely comparable, so Nvidia has naturally emerged as the leader in AI processors. To quote The Wall Street Journal, “Nvidia chips underpin all of the most advanced AI systems, giving the company a market share estimated at more than 80%.”
The problem (if there is one) is valuation. Wall Street expects Nvidia to grow earnings per share at 33% annually over the next three to five years. If that number is divided into its current price-to-earnings ratio of 74, the result is a price/earnings-to-growth ratio (PEG ratio) of 2.2. That is not exorbitant. In fact, that multiple is a discount to the three-year average of 3.1, so risk-tolerant investors should consider buying a small position today.
However, I think Super Micro (also called Supermicro) is the better buy right now because the stock is much cheaper, yet the company stands to benefit greatly as businesses invest in generative AI hardware.
Supermicro is gaining share in the artificial intelligence server market
Supermicro builds accelerated computing platforms. Its portfolio spans individual servers and storage systems to full-rack solutions purpose-built for enterprise and cloud data centers. The company works closely with partners like Nvidia, Intel, and Advanced Micro Devices to equip its hardware with the latest chips.
Samik Chatterjee at JPMorgan Chase sees Supermicro as the “leading company in the AI compute market.” More importantly, Supermicro is quickly gaining market share. The company accounted for 10% of AI server sales through the quarter ended in December, but Tom Blakely at KeyBanc says that figure could reach 23% this year. He also believes Supermicro has “competitive moats that should sustain if not expand this share in coming years.”
Blakely is referring to internal manufacturing capabilities and a unique building-block approach to product development. Engineers comprise about half of Supermicro’s workforce, and the company handles most research and development internally (in Silicon Valley). In turn, Supermicro can quickly and efficiently bring new products to market, and its modular approach only enhances that ability.
Specifically, Supermicro is often first to market with new technologies because it can “quickly assemble a broad portfolio of solutions by leveraging common building blocks across product lines.” In other words, the company can quickly outfit partially preassembled servers with the latest central processing units (CPUs), GPUs, memory, and interconnects, such that it often beats its competitors to market.
CEO Charles Liang recently highlighted that advantage: “We provide optimized AI solutions at scale, offering a time-to-market advantage and shorter lead times over our competition.”
Supermicro trades at a more reasonable valuation than Nvidia
The number of annual AI server shipments is expected to increase sixfold between 2023 and 2028, according to 650 Group. Supermicro is well positioned to benefit as demand increases, given its market leadership, which itself is supported by internal engineering capabilities and a unique approach to product development.
Wall Street expects Supermicro to grow earnings per share at 48% annually over the next three to five years. If that number is divided into its current valuation of 47 times earnings, the result is a PEG ratio below 1. To be clear, Supermicro is not a hidden gem. In fact, it was the best-performing stock in the S&P 500 during the first half of 2024. But its valuation is very reasonable, especially compared to Nvidia’s PEG ratio of 2.2.
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JPMorgan Chase is an advertising partner of The Ascent, a Motley Fool company. Trevor Jennewine has positions in Nvidia. The Motley Fool has positions in and recommends JPMorgan Chase and Nvidia. The Motley Fool has a disclosure policy.
Generative AI Sales Could Soar 2,040%: My Pick for the Best AI Stock to Buy Now (Hint: Not Nvidia) was originally published by The Motley Fool
