Apple gets AI right (NASDAQ:AAPL)

The past month has seen many technology stocks rise or fall based on their artificial intelligence (“AI”) moves. It all started when ChatGPT became the fastest growing app in history to be tracked going through a major rally soon Microsoft (MSFT) shares on the news that it has bought a $10 billion stake in OpenAI. Later on, NVIDIA (NVDA) bounced back after beating earnings and boosted outlook thanks to AI chips.

Conspicuously absent from all this AI talk was Apple (NASDAQ:AAPL). The world’s largest company by market capitalization, it is one of the smaller technology companies as measured by public statements about AI. In its most recent earnings call, Apple mentioned AI only twice, compared to 74 for NVIDIA, 62 for Alphabet (GOOG) and 37 times before meta (META).

Compared to NVIDIA’s massive AI-powered rally, Apple’s stock performance has been subdued lately. Over the past month, the stock is up just 2.3%, compared to 13% for NVDA. Clearly, Apple is not seen as an “AI winner” stock (assuming my theory of what drives NVIDIA’s gains is correct).

However, it is possible that Apple will take the right steps in the long run. Taking it easy with AI allows other companies to demonstrate where the risks and opportunities lie, allowing Apple to step in later when the right course of action is clearer. Apple is known for taking its time to break into new markets. When the original iPod launched, MP3 players were already an established product category; Apple waited to see what everyone else was doing before jumping in. The end result was the launch of what would become the world’s most popular music player for years to come. We see a similar strategy today. Apple recently put the brakes on BlueMail, an email app that uses GPT to compose emails. The app was only allowed to continue on the condition that it was limited to users aged 17 or older.

The BlueMail move was smart because it showed that Apple is aware of one of the problems with AI: liability. AI applications sometimes create content that is offensive. For example, Bing’s chatbot has been known to offend users. The legal implications of this content remain a gray area, but when there is so much uncertainty, it pays to wait. For this reason, I believe that Apple actually has one of the best approaches to AI among all major tech companies, one that is based on caution and care, rather than rapid and potentially reckless implementation. AAPL going easy on AI doesn’t mean the company will never have AI products; on the contrary, it already has several and its cautious approach to chatbots could easily save the company money in the future.

Apple’s many AI investments

Before I go any further, I need to debunk a popular misconception about Apple and AI: the claim that Apple is doing nothing on AI. Nothing could be further from the truth. Apple has many products that use AI, including:

• Face ID – a wildly popular facial recognition security feature mainly used on the iPhone.

• Notes – a note-taking app that includes handwriting recognition.

• The app store – uses AI to make recommendations based on the user’s download history.

As you can see, there is no shortage of AI investment at Apple. On the contrary, AI is actively incorporated into many of the company’s products. What Apple is slowly doing is simply one AI use case, which is “big language models,” the technology behind ChatBots like ChatGPT. There are many good reasons for Apple not to rush this space. For starters, text applications have never been Apple’s forte, Pages has barely any market share, and Apple has never had its own internal search engine. Second, chatbots are risky. It’s fine for OpenAI to take a ChatBot public because it’s a relatively small tech company that doesn’t do much other than sell AI models. But when you take a big company and put chatbots in its products, risks arise. Inaccurate information, user bullying, and even threats are cited as some of the issues with Microsoft’s Bing Chatbot. Lawyers continue to debate the implications of inaccurate answers and abuse in ChatBots. Some say big tech falls under Section 230, others argue it doesn’t apply to content created by the company itself. As an investor, what you should know is that legal risks are present in this race to rush AI ChatBots, and Apple would be wise to play it safe on this one.

Apple can save a lot of money

There is a very obvious and real way that Apple’s conservatism with ChatBots could pay off:

It could lead to cost savings.

LLMs are known to be very expensive to run. Morgan Stanley once estimated that if Google implemented a ChatGPT like Chatbot, this would be a A $6 billion hit to the operating result (“EBIT”). The problem is that chatbots are very resource-consuming and consume a lot of computing power. If you can avoid having a Chatbot application in your product line and remain popular, you will save money by not having one. So Apple could potentially save a lot of money over companies like Microsoft, and earn higher margins.

valuation

After reviewing where Apple stands on AI, it’s time to examine the stock’s valuation. We’ve already seen that Apple actually makes a good move by taking it easy on AI, rather than a bad one. However, that in itself does not make his share a bargain. If a company saved $50 billion by avoiding ill-advised AI investments and was overvalued by $100 billion, it still wouldn’t be a buy. Nothing deserves an infinite prize. So let’s take a look at Apple’s valuation compared to its competitors.

Based on multiples, Apple is pretty much in the middle of the pack for FAANG stock. Below I’ve reproduced some multiples for Meta, Google, Apple, Microsoft, and NVIDIA, courtesy of Seeking Alpha Quant.

	meta	Google	Apple	Microsoft	NVIDIA
P/E (adjusted)	21.5	20.66	25.6	28	137
Price/Sales	4.3	4.3	6.3	9.3	22
Price/book	3.85	4.7	39	10.4	26.66
Price/operating cash flow	9.5	13.1	21.2	22.5	104

click to enlarge

As you can see, Apple is in the middle of the pack for all revenue and cash flow based valuation ratios. It does have the highest price-to-book ratio, but that metric is primarily used to identify cases of truly extreme undervaluation. this peer group based valuation.

Compared to its peers, Apple seems to be valued “modestly”. That is, assuming all companies involved have similar growth and earnings going forward. AI could change that. If Microsoft and Google go head-to-head in an AI chatbot war, Apple could have better margins than both companies by stepping aside from the AI ​​arms race. If so, it may command a premium.

It comes down to

The bottom line is that Apple is doing the right thing with AI: playing it safe. If you’ve seen Microsoft and NVIDIA’s big AI-powered meetings, you might think this seems like a questionable point, but it’s not. For starters, MSFT gave up much of its AI gains after the Bing controversies broke. It also remains to be seen what the legal aspects of AI are, including laws around copyright and user abuse. If AI content doesn’t fall under Section 230, companies could be held liable for objectionable content. As a non-lawyer, I can’t comment on what’s likely to happen here, but I can say that there are legal experts on both sides of the debate.

So Apple’s “safety-first” approach may win out in the end. We’ve seen companies’ reputations rise and fall in the blink of an eye based on AI hype and fear. It is not clear exactly what impact all this will have on corporate profits in the long term. We are sure that inserting AI into searches will increase server costs. We also know that AI-powered stock market rallies don’t last forever. The long-term effect of all this AI hype is unknown. What is known is that Apple’s “late entry” strategy has paid off in the past. Maybe it pays off in the age of AI too.

For my part, I feel comfortable with Apple stock. It’s profitable, it has a strong brand, it tends to grow in most quarters and it has a smart management team. Clearly, at its current size, AAPL is not the kind of stock that will make anyone rich overnight. But it could be a good store of value and a vehicle for long-term savings.