Drumbeat of artificial intelligence powers Big Tech

THE emergence of artificial intelligence (AI) has presented a new realm of possibilities and perils.

Despite initial displacements, AI, as in past technological innovations, will drive productivity gains over a longer time horizon.

According to McKinsey, AI could potentially deliver additional economic output of some US$17-25 trillion by augmenting labour productivity, reducing costs, and creating new revenue streams.

Against this backdrop, we remain constructive on Big Tech for the long term, on account of their compelling fundamentals, new revenue drivers, and augmented innovation.

Structural tailwinds

Big Tech companies have thus far emerged as structural winners under the irreversible trends of technological disruption and digitalisation.

With billions of dollars in reserves, ready access to tech talent, and a huge repository of user data to train AI models, structural tailwinds could only flow more forcefully under the AI revolution.

In fact, at the current penetration and going rates, AI is merely at the infancy phase of an important paradigm shift for humankind and the world around it.

All these explain the encouraging year-to-date outperformance of Big Tech compared with the broader markets. The sector’s performance and outlook are buoyed by the following fundamental aspects:

• Revenue strength: Ongoing digital transformation will continue to attract monetisation and new revenue streams. Big Tech’s ability to produce decent revenue and earnings is well tested. Both revenue and earnings have consistently expanded over the past five years and are expected to sustain
• Profitability: Sector leaders will benefit from scalability of existing core businesses, building on and around the moat-like ecosystem. Profit margins and free cash flow have all demonstrated comparable patterns, another piece of evidence indicating the capability to maintain pricing power and withstand economic volatility
• Cost discipline: Companies are increasingly becoming more cost-conscious and self-directed on the allocations of expenditures. This will work in favour of the bottomline where trajectory of costs will be contained and trail that of topline, and translate into margin expansion
• Patent portfolios: The ever-expanding portfolio of patents and copyrights is a powerful piece of artillery in hand to strengthen pricing power and technology leadership, on a global scale
• Balance sheet might: Big Tech and other sector leaders are in admirable balance sheet positions. Eight of the top 10 technology companies have net cash in their balance sheets, giving them the financial muscle to acquire startups and technology that will complement their quest for supremacy

Exponential growth ahead

Although AI already boasts an extensive scope of foreseeable use cases and more, we are only seeing the tip of the iceberg.

AI’s revenue potential is projected to grow rapidly over the next decade. Back in 2021, Fortune Business Insights had already estimated that the global AI market size would grow at a compound annual growth rate of 40 per cent to reach US$360.4 billion by 2028.

Considering these projections were made even before the meteoric rise of ChatGPT and the recent quantum leaps in AI technology, they would most likely be considered conservative by today’s standards. The total addressable market for AI is more than likely to grow at breakneck speed moving forward.

Software, cloud, data analytics, and microchips are spaces for sector leaders to dominate and champion the AI race, and further monetisation opportunities abound.

Take the semiconductor sector, for instance. Semiconductors are the foundational bricks of the digital world. AI models typically require advanced chipsets, both in training and production.

ChatGPT is able to generate responses in split seconds due to Microsoft Azure data centres that are powered by tens of thousands of Nvidia GPUs. Market research agency TrendForce estimated that the GPT model needed about 20,000 GPUs to process training data in 2020. Moving forward, running GPT is expected to require at least 30,000 GPUs.

After Microsoft starts to charge a monthly fee of US$30 for corporate users and US$20 for ChatGPT Plus, consumers can well anticipate more AI services and apps to be introduced, and more revenue generated across the vast supply chain.

Encouraging earnings, inexpensive valuations

Notably, sector leaders have mostly produced promising Q2 financial results, and generally indicated encouraging guidance for the coming quarter. Such a trend further supports the constructive outlook for Big Tech, which may instigate the broadening rally across industry peers.

Notwithstanding the outperformance, the growth-adjusted valuations of Big Tech and the broader technology sector are not pricey at 1.1 times, against global equities, and growth and value equities for that matter.

Ultimately, the world ahead is not like the one before. As we stand on the brink of the AI epoch, we maintain the view that the Big Tech-led rally will broaden into other interconnected sectors. Investors should employ a clearly defined portfolio construct across Big Tech, general tech and non-tech anchored on secular themes.

Look for the innovator, disruptor, enabler, and adapter companies within each space. They will be the ones to ride the ups and downs of the market and emerge winners of this AI revolution.

The writer is chief investment officer, DBS