Motley Fool Hidden Gems Investing - Palantir Makes its Case Against Frontier AI

Starting point is 00:00:00 Palantir takes shots at OpenAI and Anthropic today on Motley Fool Hidden Gems Investing. Welcome to Motley Fool Hidden Gems Investing. I'm your host, Tyler Crowe, and today I'm joined by longtime fools, Lou Whiteman and Travis Hoy. I'm doing a little bit of mixing it up. You know, everyone's getting those last minute summer vacations in before the kids got to go back to school. So we'll probably see a lot of host shuffling and guest shuffling over the next couple of weeks. So we are deep in earnings season and we had three really big earnings reports today. A lot of kind of contrasting things going on in the market. And we want to start today with Palantir because as we're recording, shares are up 26%. The company

Starting point is 00:00:42 reported earnings after the close yesterday that beat expectations handily. They increased guidance. Everything looked pretty good. Now, there's been a lot of beat expectation earnings so far this season, guys, but I have yet to see one that's really resulted in the market celebrating like we have seen with this one. So what exactly was it about Palantir's earnings? They just blew it out of the park. They just fantastic results. I mean, you know, this is a company with a lot of hubris and sometimes the hubris is justified. Ninety three percent year over year top line growth. If you want to look trailing 12 months, 79 percent growth. Just kind of. So this isn't an anomaly, 51% cash flow margins. That's fantastic. The question forever here has been,

Starting point is 00:01:24 there's no way you can justify the valuation here if it's a defense contractor. For all our jokes about the Pentagon budget, the Pentagon just doesn't spend money at the rate needed to justify Palantir's valuation. Commercial had been the laggard, but commercial was up 150%. This is exactly what you want. I can, Travis, I'm curious what you think. I can sort of squint and maybe see remaining performance obligations were flat. So maybe, maybe that might be a dent, but even then that could be, you know, commercials different than government. So that could be an adjustment, but I don't know. Tell me what's wrong here. This is, this is just fantastic. Yeah. It's hard to quibble with any of the numbers. It is always harder for me to wrap

Starting point is 00:02:09 my head around a company that's trading for 60 times sales because, and it's been over 100 times sales in the past year or so, that typically does not end well for investors. But if you compound your revenue at 100% year over year for multiple years, it takes that multiple down pretty quickly. So that's part of what we're seeing is just they are executing on exactly what the market has been pricing in for quite a while. As the shares have pulled back over the past few months, there's some that, you know, maybe we are going to see a little bit of a slowdown. And then they went, you know what? Nope. We're going to accelerate that revenue growth. So hard to quibble with anything. You know, Lewin said the biggest number that jumped out to me, that's 150% jump

Starting point is 00:02:48 in U.S. commercial revenue. And customers aren't growing that quickly. So that means that the customers they do have are spending more. And that's impressive because it shows that they're not just testing it out and going, nah, we're not seeing any value here. They're actually saying, you know what, we want more from you guys. I think it's fair to say that CEO of Palantir, Alex Karp, is a bit of an acquired taste for investors. Some people absolutely love him. Some people might find him a bit off-putting with bombastic language, sometimes a little bit more aggressive and combative than a lot of other CEOs that you see in the market. You see it in his shareholder letters. You see it on the conference call. And, you know, he did use that kind of

Starting point is 00:03:26 aggressive language a little bit when talking about the large language model developers like OpenAI and Anthropic. But I think he did get at a core point that he was talking about and something that I think companies are really going to be thinking about and could really determine a lot of what happens in this AI race lately. And it's the building model agnostic AI tools, similar to what Palantir does, versus these models that OpenAI and Anthropic are doing that end up, you know, in some sense, building competing tools from their own customers after they've you know built a lot of their own data and so i i one of the questions i have is does he have a point and does that really uh bode well for the future of palantir where they can make this

Starting point is 00:04:08 argument that says hey do you not want uh open ai and anthropic taking your data and building your own competitor while you feed them their data come to us is that is that a valid like sales argument or is that just being defensive well it's all of the above it's it's their sales argument He's talking his book, he's talking their business model, and he's trying to sell to customers. And you see similar things from Satya Nadella at Microsoft. But the way that he's talking about this, I just want to quote from the shareholder letter, the models have grown and thrived by essentially ingesting the entire written

Starting point is 00:04:44 work product of our civilization and those models, as well as their creators now have their sights set on global industry. We have been the beneficiary of the revolt that is underway against submission of this way of working, end quote. That is basically declaring war against anthropic and open AI. That is what CARP is doing here. And it's fascinating to see these business models play out because everybody is trying to win this AI game. That's what we've got to watch. Who is actually going to get the customers, who's going to get the revenue, who's going to generate free cash flow. Palantir is making their case and they're making a pretty good one.

Starting point is 00:05:26 You can always tell the CEOs who are classics majors, can't you? Stuff like that. Yeah. Look, you know, one read on this is he's worried that those models can do what Palantir can do. And this is actually a sign of weakness. I don't know if that's the case. I think you can make the case either way that the frontier models strengthen Palantir or they are a threat. The thing that strikes me, though, is we know Palantir's valuation. We know what Anthropic hopes to get and what OpenAI. Can they all exist together? Is there a zero-sum game here or a less-than-whole game? I feel like at some point something has to flinch, and Palantir does have the advantage, I guess, with their installed base. Yeah, and to that point, too, Travis,

Starting point is 00:06:13 You're talking Satya Nadella talking about, you know, competing models and a lot of this. One of the things that he had mentioned in previous discussions, conference calls, whatever, is basically, you know, custom tailoring the type of model that you need and kind of custom fit to what the actual particular task is, where we're using these generic, most powerful models in the world that cost a ton of money to, I don't know, organize your calendar isn't exactly like the best use of resources and stuff like that. So it'll be interesting to see kind of the resource allocation. And I think that might be where this, they all sort of make sense because they can fit a certain resource allocation for a business. You know, maybe we're a less expensive, but we don't take on the biggest tasks sort of thing. And that's how this kind of works in a world where everyone works in some way or another

Starting point is 00:07:07 versus, you know, having only one winner in this OpenAI race. But speaking about OpenAI, we're going to talk about one of the picks and shovels companies that's doing spectacularly well. That's Caterpillar. After the break. Where some see heroes and others see egos, Bloomberg sees the era of billionaire athletes. A fad to some, the future of money to others. We see crypto's trillion dollar swings. The end of jobs or the end of human struggle.

Starting point is 00:07:40 We see the endless funds fueling the AI hype. While others follow the noise, we follow the money. Learn more at Bloomberg.com. Moving on to other companies that are reporting earnings recently and doing incredibly well, it was Caterpillar. Earlier today, Caterpillar reposted expectation-smashing results this past quarter, and the stock is up about 5.6 on the news as a result. It was up almost 10% in early morning trading, so there was a lot to like here. So I was looking through it. Earnings across all of its segments were up. So it looks like everything's doing incredibly well. Was that all the driving force? What were some of the

Starting point is 00:08:17 other things I might have missed when I did my first class, guys? Well, I think the big thing here is that when you're spending a trillion dollars on building out data centers, there's a lot of demand to go around. So I don't know if Caterpillar is the second derivative of the AI trade or the third derivative, but it is definitely downstream of all that spending that's going on Because that infrastructure is a lot of physical stuff being built. And that's what Caterpillar does. I mean, the big thing that it was construction equipment that was up 35% from a year ago. But power, energy, and resources also did well.

Starting point is 00:08:49 The crazy thing is you can think about this all as one big trade. Because these are all sort of related things. The fact that energy is doing so well is because AI is doing so well. So I don't know what to take from this, Lou, besides the fact that just all this is like a huge rising tide that's lifting all of Caterpillar's boats. I think that's it. And let's talk about why. Because obviously you don't buy a new dirt mover for each dirt data center, right? You don't like, all right, well, for every one of these things, we're going to buy all new equipment. But it's a lot like with John Deere with the farmers.

Starting point is 00:09:21 We tend to see spending go up when it's a good year on the farm because the farmers are flush with cash. It's when they can. Similarly, with all of this demand, all those orders, this is causing the customers of Caterpillar to feel confident enough to place orders, to invest in their business. I think that's why you see the strength in construction. It wasn't just in the power systems. It wasn't just one thing. This is just the net impact of all of this cash, all of this investment going into the sector that they serve, kind of, you know, showing itself in confidence to order heavy equipment. They boosted their full year guidance and they had a record equipment backlog. The backlog is sort of with CAT always something to watch because, again, you get a lot of orders when things are good and then you see how long it lasts. But assuming that we don't stop building data centers, this is, again, just filling the industry they serve with cash. And you are going to see companies invest in their businesses when they can. So something that seems like we're kind of dancing around here, and we all kind of know it, is that Caterpillar is a cyclical business.

Starting point is 00:10:31 Mining's doing really well. Orders go up. But all of its end markets are very cyclical. Power, construction, all of these things. my question is is we've seen obviously ai is a big part of that cycle uh we're also there's some other aspects as well we were talking before the show the idea of de-globalization and like critical mineral mining where it's being more localized and not dominated on a global scale where you might see a lot of not typically redundant it wouldn't normally happen in a

Starting point is 00:11:01 globalized world but you're going to have a little bit more like redundant supply of construction materials because everyone wants to mine their own stuff and stuff like that. So it's, I don't know how big that is, but it's certainly something to be playing in the part here. So my question is, is we know it's cyclical, but could this just be an elongated cycle? Because it seems like normally with Caterpillar, one segment's doing relatively well, whether it's other end markets are kind of weaker, but right now we're in a point where all three segments are posting great results. Right. And look, this is why investing is hard. We can see something that looks obvious, but good luck getting the timing right, right? I mean, we should do a shout out

Starting point is 00:11:41 or maybe a, is anyone checking in on Michael Burry this morning? Because I agree with everything he's been saying about how it's all overvalued, but two of his biggest shorts were Palantir and Caterpillar. So, you know, the timing is everything. Caterpillar right now feels like a microcosm for the entire market. It's cyclical. It's up 100 percent in a year. All of the signs are saying yikes. And yeah, it keeps working anyway. So it will until it won't. And that's what makes investing hard. Yeah, the word that comes to mind is super cycle. And this is just part of that super cycle. All of that money that's flowing from those giant Silicon Valley companies is flowing to companies like Caterpillar. And the question is, when does it stop or when does it

Starting point is 00:12:23 even slow down. That's something that I've been thinking a lot about is, as long as CapEx is growing for these data centers, as long as there's more demand for power, more demand for minerals, all of these things are going to do extremely well. But what happens when growth flatlines or heaven forbid falls? That's when paying 38 times earnings for a company like Caterpillar is going to be really rough for investors, but we're not seeing it yet. yeah i mean it's not the most recent example but certainly i think we can all remember like the 2010s china's uh economic development growth boom seven eight nine percent annually was sending companies mining companies caterpillar companies like this to soaring heights because

Starting point is 00:13:06 of demand was just voracious but the minute we started to see like slowing chinese economy and kind of the slowing of the construction cycle that was i would assume like yeah 15 16 years ago was the last like real super cycle with a lot of this sort of stuff. So it'll be interesting to see if this deglobalization and AI trade becomes the next big super cycle for these particular markets. Coming up after the break, one company that didn't do quite as good on the earnings perspective, that's Spotify. Where some see heroes and others see egos, Bloomberg sees the era of billionaire athletes a fad to some the future of money to others we see crypto's trillion dollar swings the end of jobs or the end of human struggle we see the endless funds fueling the

Starting point is 00:13:56 ai hype while others follow the noise we follow the money learn more at bloomberg.com you gotta try breakfast And what better way than with a delicious Pratt Organic Coffee, starting at just $1 all day, every day, now until December 31st. At participating A&W locations in Ontario. of the three companies that we're talking about here today spotify's earnings were definitely the one of these things is not like the other results company reported earnings after the close yesterday and as we're right now shares are relatively flat but they were down quite a bit in early morning trading uh the market seems to be doing it a little bit of a favor here

Starting point is 00:14:51 now spotify hit some significant use my user milestones uh total daily uh average users and things like that were way up and margin expansion was exceptionally good but it did miss expectation for revenue and earnings per share. So, Travis, I know you follow this company pretty intimately. Was this just some sort of quarterly blip or is this a kind of a trend in decelerating revenue and earnings? Well, this is what happens when a company goes from growth mode to we're now a mature company. And so the expectations are different. And the question is going to be, what do investors expect from the company? And then what are the investors that are going to be excited about that? I mean, you know, Spotify grew their total monthly users by 12% year over

Starting point is 00:15:33 year. This is a company that has 777 million monthly active users. That is a massive number. They're also continue to grow their premium revenue 15%. But this is not going to be a company that's going to grow 20 plus percent year over year, like it maybe was a handful of years ago. They're going to be more focused on things like margins and free cash flow. That's not necessarily as exciting. That said, management thinks that they can continue to grow their compound annual growth rate in that mid-teens range and get to a 20% operating margin, that's a pretty darn good business. The question is, what are you going to pay for it? And that sort of seems to be the battle for investors today is a little bit like Caterpillar. If this

Starting point is 00:16:13 is going to be just a mature cash generating business, what do you pay for it? Is 31 times earnings the right number? Maybe it is, but you're going to have to decide what do you expect as an investor? Are you a growth investor or a value investor? I'm always amazed when they find more people that don't have the service that they can add that way. So good on them for that. But Jeff, I think you have it exactly right, is that sometimes with stocks, the stock is in the problem, the investor base is that this is a fine company, but it is more mature than it used to. It's unlikely to be the growth story it was. It may take time for the investor base to just switch out and that's going to cause volatility. I think it is a free cash flow story. And I think it has

Starting point is 00:16:57 a great story to tell. I think it's a really, really attractive income slash growth hybrid investment from here, but it is going to be a different story than it was. And so I don't think you're going to see the growth focus crowd like saying, wow, to these results. That doesn't mean it was a bad quarter, though. You know, this kind of sounds similar to the conversation we've been having here on some Motley Fool live events around like Netflix as well as who is the investor anymore because you know these growth stories that all of a sudden are transitioning to we're still growing just not at these you know nosebleed level growths that we had been putting up we're now profitable we're throwing off quite a bit of cash it changes the type of investor that

Starting point is 00:17:42 gets involved in these sort of companies and you know i i i don't want to preface this as saying like spotify is a bad company now it's just a different company in a different phase of its life And when I look at it, it's a solid company. It's generating a lot of free cash flow. Revenue right now, high single digits. Maybe you're going to get low double digits on a growth surge, maybe a pricing increase. It's still a very quality business. But is that a company that sort of merits 32 times, 33 times earnings?

Starting point is 00:18:16 That's the question here. and for on that daily user growth part of me almost says like is there no more worlds left to conquer yes it's growing but it's become the dominant market share as to lose point like who isn't using this service at this point funny i'm not so spotify call me but i but i get it thrown in with my phone service so i guess there are at least one more world to cover but tyler i think you're exactly right i will say shout out to spotify because i think there's a better case here than there is for some. I mean, even and I'm going to get nasty letters, but Starbucks and some of these companies, I just think good company, bad stock. I think this is still a stock that

Starting point is 00:18:54 works because I think it is a hybrid growth. I think they do have some levers to pull. But yeah, I think that that's it, that probably two things can be true here. It's still a good investable stock, but the valuation might need adjustment from here. Yeah. 30 times earnings isn't crazy for a company that can continue to grow in the mid-teens, but I think you're right. This is now, how do you grow the business from here? And it's gonna be a balance of how do you price a product where you have basically saturated the market?

Starting point is 00:19:25 You're playing this game of, do we want more monthly active users or do we want a higher price per user? Because there is some elasticity in that market. You have competition from products like YouTube. So I don't think, I think what we've learned with Spotify over the last few years is they're not going to be the next Google, for example. We're just going to keep tacking on new product after new product, add YouTube, add Waymo. Their ad product kind of

Starting point is 00:19:52 stinks. It basically didn't grow year over year. So that's not a huge driver of their growth. Their video, I don't think, is what they thought it maybe could be. So it's just a solid business. It's just the kind of service that I'm going to sign up for and pay for for the next decade. And as my kids get older, they'll eventually graduate into buying their own accounts. You know, that's a good business to be. It can be fine for investors at 30 times earnings. I don't think it's a steal.

Starting point is 00:20:19 So, you know, if they ever get to the point where it's so cheap that they decide that they're going to buy back a whole bunch of stock, that could be really interesting. But this is going to be a little bit more ho-hum for investors. And a lot of times that's not going to get a lot of headlines for you.

Starting point is 00:20:31 Yeah, it'll be interesting to see how, you know, you're saying that mid-teens growth, it's definitely worth playing. But as we were saying, not quite there yet, but there are some levers to pull, maybe fixing around the margins, ads, maybe figure out video. These are new initiatives and some things aren't always perfect execution all the time. So there is a path there, but not quite in the cards yet. So last question before we get out of here, guys. Of the three companies we talked about today, Palantir, Caterpillar, Spotify, I think based on what I've heard, I've gotten a good idea.

Starting point is 00:21:02 Which of these three companies is most attractive to you right now? If I was to buy one today, it would probably be Spotify, but I don't know if I really want to jump into any of these three. Yeah, I agree. It's the one that I own. It's the one where I can actually wrap my head around the valuation and it's not as cyclical. So it's more that I am not really interested in buying Palantir or Caterpillar today. Just so we're not boring, if it's a long enough time horizon, I'll take Cat. well we've got them on record everyone so you can lambast them in emails and comments later and we'll figure that out from there as always people on the program may have interest in stocks they talk about and the motley fool may have formal recommendations for or against so don't buy or sell stocks based solely on what you hear all personal finance content follows motley fool

Starting point is 00:21:49 editorial standards and is not approved by advertisers advertisements are sponsored content provided for informational purposes only to see our full advertising disclosure please check out our show notes thanks for producer dan boyd and the rest of the molecule team for lou travis and myself. Thanks for listening, and we'll chat again soon.

Motley Fool Hidden Gems Investing - Palantir Makes its Case Against Frontier AI

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