Cloud computing businesses are spending a ton now, but will reap the rewards later.
If you've got $1,000 ready to deploy in the market, I've got a handful of solid stock picks in the artificial intelligence (AI) realm. These companies may not often be at the top of every AI investing list, but they all have one thing in common: cloud computing.
While the initial AI build-out may span a five- to 10-year period, the infrastructure is expected to last for decades. This makes the massive capital expenditures that companies like Amazon (AMZN +0.55%), Alphabet (GOOG +0.41%) (GOOGL +0.66%), and Microsoft (MSFT 1.34%) are executing worth it over a longer time frame.
I believe that these stocks could be excellent long-term winners, and each looks like a solid stock to scoop up in May.
Image source: Getty Images.
Amazon isn't normally viewed as an AI investment, mainly because its commerce business accounted for 79% of total sales during Q1. However, its cloud computing segment, Amazon Web Services (AWS), is far more profitable, and actually delivered 59% of the operating profits. That's a big deal, and makes AWS the primary reason investors should scoop up the stock.
This gap is likely to widen, as Amazon is heavily investing in AWS' footprint by spending $200 billion on capital expenditures this year, mainly focused on data centers. Amazon already has users lined up for most of this capacity, and management pointed out that the faster AWS grows, the more money it needs to invest to meet demand. The payoff cycle for this work is several years, but it has the potential to substantially increase Amazon's free cash flow over decades as it realizes the growth that it's guiding for.
I think that makes Amazon an excellent long-term investment, as the fastest-growing part of its business is also its most profitable, allowing its profits to grow much faster than overall revenue.
Most of what I said for Amazon can be copied and pasted into Alphabet's section. However, Alphabet's cloud computing unit, Google Cloud, has another trick up its sleeve: Tensor Processing Units (TPUs). While Amazon also has custom chips, Alphabet's production capacity, due to its partnership with Broadcom, is far greater. Alphabet is selling TPUs to external clients, which is causing its Google Cloud growth to boom. In Q1, revenue rose an impressive 63% year over year — far outpacing every other major cloud provider.
The rapid growth of the cloud computing business, combined with chip sales, makes Alphabet a solid pick in the AI realm. With Alphabet's leading custom chip technology and solid footprint, I think that its returns over the next few years can still be impressive.
Last is Microsoft. In a ranking of the top three cloud companies to buy now, Microsoft would probably be third, although that's not a bad thing.
Microsoft's cloud computing platform, Azure, delivered solid 40% revenue growth during the past quarter. While that's far faster than AWS' 28% growth, the biggest issue is that Azure's growth isn't accelerating. Both Alphabet's and Amazon's cloud businesses saw meaningful quarter-over-quarter growth acceleration while Azure did not.
That's a pretty nitpicky caveat, as 40% growth for a business unit the size of Azure is still impressive. However, Microsoft has another trick up its sleeve: It's cheaper.
MSFT PE Ratio (Forward) data by YCharts
At 24 times forward earnings, Microsoft isn't necessarily a "cheap" stock, but it is less expensive than Alphabet at 28 times forward earnings and Amazon at 32. That's rarely the case, as Microsoft has long traded for about the same price tag as Amazon over the past few years. While the growth prospects may not be as exciting as its peers, the sale price also drives me to include Microsoft as a top AI buy in May.
Keithen Drury has positions in Alphabet, Amazon, Broadcom, and Microsoft. The Motley Fool has positions in and recommends Alphabet, Amazon, Broadcom, and Microsoft. The Motley Fool has a disclosure policy.
*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.
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