AI’s Real Profit Lies in Power Cooling and Connectivity
Investors are increasingly focusing on the profitability opportunities within the AI sector, particularly in power cooling and connectivity. Despite the hype surrounding AI giants such as OpenAI and Microsoft, revenue growth for companies specializing in infrastructure support is outpacing their more prominent competitors.
Valuation Dynamics in AI
Recently, OpenAI reported a valuation of $830 billion, which some analysts find questionable. They highlighted competition from companies like Anthropic and Google’s Alphabet. With the rapid pace of AI investment, the sustainability of such outcomes remains uncertain.
Surging Revenue Growth
A closer examination reveals dramatic revenue increases among specialized infrastructure firms that cater to AI infrastructures. Companies like Alphabet, which has invested heavily in AI technologies such as Gemini, saw their trailing twelve-month (TTM) revenue grow by 37.3% over the past three years. Microsoft also reported a significant TTM revenue increase, rising by 44% in the same period.
However, these numbers are dwarfed by the performance of pick-and-shovel plays within the AI market:
- Vertiv Holdings: TTM revenue growth of 70.4%
- Arista Networks: TTM revenue growth of 92.8%
These firms are providing the critical infrastructure necessary for the expansion of AI technologies.
Profitability Trends
Not only are these companies increasing their revenue, but they are also significantly enhancing their profit margins. Over the last three years:
- Microsoft: Net income grew by 55.5% since December 2022.
- Alphabet: Net income more than doubled, with a growth rate of 107.2%.
- Arista Networks: Net income surged by 148.2%.
- Vertiv Holdings: Remarkably, net income grew by 1,250%.
Though both Vertiv and Arista have smaller net income figures ($1 billion and $3.4 billion, respectively) compared to tech giants surpassing $100 billion, their revenue and profit growth rates are impressive.
Market Valuations of AI Infrastructure Firms
As the shift towards power cooling and enhanced connectivity becomes apparent, the market is adjusting valuations accordingly. Current pricing indicates that these infrastructure firms are valued more highly than AI software producers. Key price-to-earnings (P/E) ratios are:
| Company | Forward P/E Ratio | Trailing P/E Ratio |
|---|---|---|
| Microsoft | 30.0 | 34.7 |
| Alphabet | 29.7 | 30.9 |
| Vertiv Holdings | 40.6 | 63.2 |
| Arista Networks | 45.8 | 50.2 |
These ratios illustrate a premium valuation for companies delivering essential infrastructure compared to traditional AI firms.
Future Investment Strategies
As the AI landscape continues to evolve, investors are advised to keep a close eye on power cooling and connectivity firms. While valuations for these companies reflect their robust growth outlook, market corrections may present opportunities for strategic investments. Composing a watchlist of promising pick-and-shovel AI infrastructure providers could yield valuable insights for future investment decisions.
