Stocks to Benefit from the AI Frenzy

Here’s how investors can get involved in the artificial intelligence excitement after the emergence of ChatGPT.

Vikram Barhat 23 February, 2023 | 4:48AM
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Social media is in a tizzy over recent advancements in artificial intelligence software. Buzzy AI chatbot ChatGPT, which is racking up users at a breakneck pace, has brought a sharp focus on generative AI and its purported potential to disrupt many industries.

Sensing a huge revenue opportunity, Microsoft has been pouring billions of dollars into OpenAI, the creator of ChatGPT. More recently Microsoft invested a whopping US$10 billion in the AI-powered chatbot, to integrate the software with its Bing search engine. Not to be outdone, rival tech behemoth Alphabet and its Chinese counterpart Baidu rolled out their own AI chatbots, called Bard and Ernie Bot, respectively.

What Exactly is Artificial Intelligence?

Editor’s Note: The answer to this question is taken from a conversation with ChatGPT.

Artificial Intelligence (AI) refers to the development of computer systems that can perform tasks that typically require human intelligence, such as visual perception, speech recognition, decision-making, and natural language processing. The key feature of AI is the ability to learn from data, recognize patterns, and make predictions or decisions based on that learning.

AI encompasses various technologies, including machine learning, deep learning, natural language processing, and computer vision. AI has numerous applications in a wide range of industries, from healthcare and finance to manufacturing and transportation. It is used to develop products and services that can improve efficiency, accuracy, and productivity, as well as to create new opportunities for innovation and growth.

While the technology may be a ways away from delivering on its lofty promise, investors looking to ride the new wave of computing may want to keep the following undervalued names on their screens as Big Tech’s AI race heats up.

Silicon Valley heavyweight Microsoft (MSFT) is best known for its Windows and Office offerings. The company is organized into three broad segments: productivity and business processes (legacy and cloud-based Microsoft Office, Skype, LinkedIn, Dynamics), intelligence cloud (Azure, Windows Server OS), and personal computing (Windows Client, Xbox, Bing search, Surface laptops, tablets, and desktops).

Microsoft has been aggressively pushing into artificial intelligence with applications across its product offerings. The tech juggernaut has been investing billions of dollars in OpenAI, the maker of ChatGPT chatbot, a viral sensation that amassed millions of users since its public launch in November last year. While the AI-assisted chatbot has many limitations and is riddled with far too many inaccuracies to replace human enterprise, its future potential as an AI language model can’t be dismissed in a hurry.

In recent years, Microsoft has transitioned to become a dominant public cloud provider. “The company has also enjoyed great success in upselling users on higher priced Office 365 versions, notably to include advanced telephony features,” says a Morningstar equity report.

“These factors have combined to drive a more focused company that offers impressive revenue growth with high and expanding margins.”

Cloud computing service Azure, a staggering US$45 billion business, has become the centrepiece of the new Microsoft. Azure, which grew at a 45% rate in 2022, “has several distinct advantages, including that it offers customers a painless way to experiment and move select workloads to the cloud creating seamless hybrid cloud environments,” says Morningstar equity analyst Dan Romanoff, who puts the stock’s fair value at US$310.

Parent company of Google search engine, Alphabet (GOOG) is a media giant that generates 99% of its revenue from Google while the rest comes from sales of apps and content on Google Play and YouTube, among others. The firm’s hardware offerings - Chromebooks, the Pixel smartphone, and smart home products -- also contribute to revenue. Technology to enhance health (Verily), faster internet access to homes (Google Fiber), self-driving cars (Waymo), are some of Alphabet’s moonshot investments.

The company recently demonstrated its new AI chatbot, Bard, to rival Microsoft's ChatGPT, flexing its AI capabilities and triggering an AI arms race among tech majors. Google claims Bard has lower computing requirements and is more easily scalable to a larger user base.

“Alphabet dominates the online search market with 80%-plus global share for Google, via which it generates strong revenue growth and cash flow,” says a Morningstar equity report.

As more users adopt its products, Google’s ecosystem gains heft, attracting more advertisers and publishers to its online advertising services. This boosts the tach major’s online ad revenue further.

“The firm utilizes technological innovation to improve the user experience in nearly all its Google offerings while making the sale and purchase of ads efficient for publishers and advertisers,” says Morningstar equity analyst Ali Moghrabi, who pegs the wide-moat stock’s fair value at $US$154, and forecasts ad revenue to continue to grow at double-digit rates over the next five years.

Chinese tech giant Baidu (BIDU) is the country’s largest internet search engine with 84% share of the search engine market. Online marketing services from its search engine generate 62% of its revenue. Baidu’s other major growth drivers include artificial intelligence cloud, video streaming services, voice recognition technology, and autonomous driving.

The Chinese search giant recently confirmed a plan to launch an AI-powered chatbot, called Ernie Bot, similar to OpenAI's ChatGPT. Over the years, Baidu has pumped billions of dollars into researching AI. The company plans to integrate Ernie into its search services, to offer users results in a conversational format.

“Baidu is transforming its identity by investing in AI firms, mainly AI cloud and autonomous driving,” says a Morningstar equity report, adding that “there are encouraging signs of its AI cloud monetization having seen a 75% CAGR from 2018-20, now accounting for 14% of Core revenue.”

However, despite sharp growth, the report cautions that Baidu’s cloud business could face competition from industry leaders Alibaba, Huawei and Tencent.

Baidu’s wide economic moat, or sustainable competitive advantage, is underpinned by its network effect from a dominant share of the user base and intangible assets from years of AI development.

Baidu’s AI search engine has accumulated a large database of user behaviour, which provides advertisers personalized advertising strategies. “This results in advertisers becoming more willing to pay higher cost-per-click (CPC) for promoted ads and priority positioning given a higher click-through rate (CTR),” says Morningstar equity analyst Kai Wang, who appraises the stocks to be worth USD$183.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Alphabet Inc Class C155.72 USD-1.11Rating
Baidu Inc ADR95.05 USD-0.55Rating
Microsoft Corp399.12 USD-1.27Rating

About Author

Vikram Barhat

Vikram Barhat  A Toronto-based financial writer specializing in investing, stock markets, personal finance and other areas of the financial services industry, Vikram also writes for CNBC, BBC, The Globe and Mail, and Toronto Star.

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