Artificial intelligence (AI) stocks have captured the market’s attention, and for good reason. However, that doesn’t mean investors should overlook valuations, which are crucial for long-term success.
Many AI stocks have surged by triple-digit percentages over the past year, making them risky investments if fundamental analysis is ignored. Two notable AI stocks, Palantir Technologies (PLTR) and BigBear.ai (BBAI), have seen significant gains recently.
Yet, Wall Street analysts, known for their ambitious price targets, suggest that both stocks could fall by 25% from current levels. Here’s why holders of Palantir and BigBear.ai might want to sell now.
Palantir’s High Valuation
Palantir is among the fastest-growing AI and software firms globally, partnering with governments and large corporations to analyze vast amounts of data. This strategy has fueled impressive growth.
Last quarter, Palantir’s total revenue surged 39% year-over-year to $884 million, with U.S. revenue climbing 55% and commercial revenue skyrocketing 71%. Such figures highlight the rapid growth of AI applications in the U.S. The company also reported a robust 20% operating margin, translating to $176 million in operating income.
Investors have shown strong enthusiasm for Palantir, with its stock rising nearly 400% in the past year, significantly outperforming the market. Currently, its market cap stands at $317 billion, positioning it among the largest companies worldwide.
However, Wall Street expresses caution about Palantir’s future, setting a price target of $107.90 against its current trading price of around $135. The stock’s price-to-sales ratio (P/S) is a staggering 107, suggesting unrealistic expectations for future growth.
To illustrate, the company’s trailing revenue is $3.11 billion. Even if it were to achieve a tenfold revenue increase over the next decade—an optimistic scenario—it would reach approximately $31 billion in revenue. Assuming a 30% profit margin at that point, annual earnings could be around $10 billion, leading to a price-to-earnings ratio (P/E) above 30 based on its current market cap.
This situation indicates that shares are grossly overvalued. Even in a best-case growth scenario, significant price appreciation over the next decade seems unlikely. It may be wise to sell given the unsustainable P/S ratio.
Cash Flow Concerns and Slow Growth at BigBear.ai
BigBear.ai, with AI in its name, has become a popular stock, achieving a remarkable 441% increase in the past year. However, analysts have set a price target of $5.83, below its current price of $7.75.
The company specializes in AI-driven decision-making solutions for businesses, similar to Palantir, making it an attractive option for many investors.
While BigBear.ai’s P/S ratio of 12 is less extreme than Palantir’s, its growth prospects appear weaker.
Last quarter, sales rose only 5% to $34.8 million, and the gross margin stands at a mere 21.3%, well below the typical software industry average of over 50%. Moreover, the company has reported negative free cash flow of $42 million over the past year and has never recorded a positive figure.
Given the rapid expansion of the AI sector, BigBear.ai’s slow growth suggests it may struggle to compete effectively. With low profit margins and ongoing cash flow issues, this stock may also be a candidate for selling after its dramatic rise over the past year.
The Services and the Content are provided to you solely for your general informational purposes, and should not be considered as legal, tax, accounting, financial or investment advice.You are solely responsible for determining whether any investment is suitable for you, considering your investment objectives, risk tolerance and personal financial situation. It is also your responsibility to evaluate the merits and risks of using the information provided on this site before making any decisions.
