The Philip DeFranco Show - BONUS: The Real Reason IBM's AI Panic Wiped Out $67 BILLION

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Starting point is 00:01:15 the line between right and wrong begins to blur. Don't miss the three-episode premiere of the Hulu original series Furious on July 27th, only on Hulu on Disney Plus. Please know that if you ever come to me to find out which stocks you should buy or sell, dumb move. I'm not going to even pretend to know that. answer because I am not a snake oil salesman. I'm a dumb YouTube guy. But there are people whose job is to get on TV and pretend like they know the future and one of the silliest has got to be the host of CNBC's mad money, Jim Kramer. My mission is simple to make you money. I'm here to level the playing field for all investors. Right, this is a guy who's known for being so off in his predictions that there's actually an inverse Kramer fund that you can invest in that does the opposite of whatever he recommends on his show. So if he says buy, it sells. If he says sell, it buy.

Starting point is 00:02:03 But after what just happened with IBM, the amount of egg on this man's face is extraordinary, even for him. Thank you. My stock is IBM. I wanted your opinion so I can decide whether I should buy, sell, or hold. I want you to buy the stock, Craig of IBM. You buy some now. I think IBM's terrific. It's inexpensive.

Starting point is 00:02:25 And Arvin Christian is doing a fantastic job. Several days later. Wall Street opens Wednesday morning after a day in the green Tuesday. IBM, though, had its worst day ever, shares tanked. The company lost a quarter of its value. $67 billion in market value just evaporated. It is quite literally the worst single-day drop in the company's 115 year history. It was even worse than 1987's Black Monday.

Starting point is 00:02:51 And at least there, that was the whole market going down. This time, it was just IBM. It's just horrible news for anyone with an interest in this tech company, including some 150,000 of its own employees who own shares of it through their 401. And a huge thing is that you saw that this collapse came on the heels of an announcement by the CEO, Arvin Krishna. An announcement that the second chord performance, it was worse than expected, but the weird thing is the numbers aren't even that bad. Like, they are bad, but experts say they're not lose a quarter of your market value bad. Right, IBM's revenue was $17.2 billion, which was actually up a percentage point.

Starting point is 00:03:22 But it was also $660 million less than what was expected. And you had software revenue going up 5%, but they were aiming for a double digit increase. Meanwhile, you had infrastructure revenue going down 7%, which obviously isn't good. And their consulting revenue that remained flat, even though it should have risen. But still, seemingly you have this company growing, even if it was less than hope for, so why all the panic? Well, it seems like at least part of the answer it has as much to do with IBM as the direction of the whole US economy. And so actually, like, this is bigger than IBM. If you are a person who needs to survive by, you know, earning that green paper we call money, you should listen to this.

Starting point is 00:03:53 You know, with all this, it shouldn't be that much of a surprise to learn that the main culprit appears to be AI. You see, it's an aspect, if not the main aspect of just, about every story that has to do with the economy nowadays. And with the boom in AI, it's caused two seismic shifts that are relevant here. First, you've had it driving down demand for a lot of traditional software products, since AI can do a lot of the same stuff faster, better, and more efficiently. And second, it's driven up demand for hardware products like servers, semiconductors, and memory chips to just crazy levels since they're used in AI. And when you start with the software half of the equation, you see that it's actually pretty simple. Part of what IBM sells is business

Starting point is 00:04:23 software. And in February, you had Anthropic unveiling an AI that it claimed would streamline updates for one of IBM's oldest products. And you with that causing its doctor tank to its worst performance since 2000 amid a slump for software companies worldwide. Right, so you have that but then there's also the other half of the equation which is hardware. And there I'll say basically there are two kinds of memory ships. You've got we'll call it the normal kind and the high bandwidth kind that AI companies use. And as it turns out, the high bandwidth kind is just way more profitable. Like it commands three to five times as much revenue per chip. And so what you've had as a result is all of the big memory chip makers shifting their production capacity

Starting point is 00:04:53 away from the normal chips and towards these high bandwidth ones. And I need you to understand Like when I say all the big ones, I really just mean Samsung, Micron, and SK Hynex because they control over 95% of global production. And you had SK Hynex announcing way back in October that its entire high bandwidth production capacity for 2026, it was already committed under long-term contracts. And you also had Micron warning that new capacity from planned factories just isn't expected to make a difference until 2028. So you have the situation for the time being where just there's nowhere near enough supply to meet the demand. And so as a result, you've had prices just shooting into the sky. In fact, by the end of this year, they're expected to go up by as much.

Starting point is 00:05:26 is 355%. And so if you are a company that uses these chips and you see them only getting more and more expensive, the rational thing to do is to buy them sooner rather than later. So that's what you had many of these firms doing. They're saying, hey, you know, the hardware purchase we were going to do a few months from now, let's do it now. We've got to do it today. And the thing is, if you're spending more on hardware than, you know, you expected, then all of a sudden you've got to spend a little less and some of the other things to balance out the budget. And so for the clients of IBM, that meant postponing mainframe upgrades, software licenses, consulting contracts, basically all the stuff that IBM was counting on

Starting point is 00:05:55 them to buy. And so that happened back in June, and while IBM says, you know, it was expecting some shift in its clients' demand. It underestimated just how massive this was going to be, saying these conditions require our teams to execute perfectly, and this quarter we faltered. We did not adapt and move quickly enough, and numerous large deals failed to close on the timelines we expected, driving the majority of our shortfall. But then also making the problem even worse, you know, the company's saying Anthropics new Mythos AI, it spooked its clients even further. Because for some extra context here, Mythos, it supposedly can just find vulnerabilities in company's software even before the company itself does. So you've got a lot of firms just, just

Starting point is 00:06:25 scrambling to beef up their cybersecurity now. And so that, it ends up being just another expense pulling money away from the kinds of stuff that IBM traditionally sells. And so for all those reasons and probably more, I mean, IBM's revenue numbers were a letdown. But the key question is whether this was just kind of a one-time second quarter issue or is it a longer-term trend. Or because that, that answer, it's going to affect all of us. Because you see, the way that IBM itself presents this is that the poor growth boils down to timing. Clients delayed certain expenses so they could load up on memory chips. But now they've got those chips and they can buy the stuff that they were initially gonna buy. And so if that's true, well, then we can expect to see IBM bounce back in the

Starting point is 00:06:56 third quarter as all of its customers come back to the counter. But if it turns out that's not true, then you have a problem that is structural. So then IBM's clients, they might keep shifting their budgets away from its products and toward AI for several more quarters. And yes, that's bad for IBM, but also potentially a lot more companies and people. Where you've got analysts warning it, this same dynamic is likely playing out at other companies, even before their financials are being reported. So from that perspective, IBM, they're just the first major casualty of a multi-year realignment for the global economy. A world where legacy software companies, they bleed out while trillions of dollars of cash just pour into anything and everything that has the AI label on. Spacex, which owns XAI, it's already gone

Starting point is 00:07:29 public. All of a sudden, then you've got to look forward to open AI and anthropic. They're moving to go public. Meanwhile, you got this open question whether these companies can even become profitable. You had SpaceX's insane valuation. There are these proposed numbers getting thrown around for the other two. And while, yeah, they are making a ton of money. They are burning through way more. But don't you worry, even if the companies themselves aren't profiting, their executives definitely are. Right, just for example, after Anthropics reason funding round, its seven founders all joined the billionaires club. It was actually the most from one company in a single day in history, according to Bloomberg. And of course, after the SpaceX IPO, you would Elon Musk becoming the world's first trillionaire at that time.

Starting point is 00:08:00 And so with all of this playing out, and the question's been there, but you have even more wondering, is this a bubble? Is all this capital getting sucked into a single sector of the economy? Is it ultimately going to be sustainable? And while at least the Bulls, they argue that today's AI giants, they generate real cash flow, unlike the profitless. com companies of the 90s. Right on the S&P 500, AI valuations are generally only 20. 2x earnings, which is well under the 25x threshold usually associated with actual bubbles. Then you have bears arguing it, this isn't a traditional valuation bubble, where a company's stock

Starting point is 00:08:28 value races way too far ahead of its actual earnings. Instead, what you have them claiming is that the bubble is in the earnings themselves. Or I guess to put it in other words, the money is real, but it's coming from overly hasty private banks, circular AI investments and short-term capital expenditure cycles. All of which they argue just cannot last forever. And when it comes crashing down, we know who's going to be left holding the bank. And it's not going to be the executives who just jumped out the window with a golden parachute. It's going to be you. It's going to be ordinary people with 401ks, people who are out of a job that are the kind of small retail investor who watches Jim Kramer instead of this show. But again, like I said, I am not in the business of predicting

Starting point is 00:08:59 the future. If it was and I was good at it, I probably wouldn't have YouTube shows. And so for now, we're going to have to wait to see how this plays out. Of course, I'd love to know your thoughts, opinions and reactions to all this. And after you do that, if you're not already, subscribe to this channel. I've been enjoying doing these kind of solo dives into stories outside of just the Philip DeFranco show. Though I will say, if you haven't already, check out today's show. That's just a click or tap away on screen or in the description. and or there's this other very interesting video for you. I love yo faces and I'll see you next time.

The Philip DeFranco Show - BONUS: The Real Reason IBM's AI Panic Wiped Out $67 BILLION

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