C3.ai Stock Plummets: Why We’re Not Worried
Paper losses are a constant reminder that you pulled the trigger too soon on a stock. Maybe it was fear of missing out (FOMO), maybe it was because you tried to time the market, or maybe it was because you exhausted all your capital dollar-cost-averaging into a position, and now your capital commitment rule doesn’t let you bring down your cost basis anymore. That’s where we’re sitting with C3.ai stock (AI).
We’ve written extensively about C3 over the years, from when they first announced their IPO to our most recent piece – Is C3.ai Stock an IoT Stock or an AI Stock? Spoiler alert: we classify it as IoT. Today, the stock is trading at a 90% discount from the $177 a share it traded at back in December 2020. That’s following a drop of up to 22% today after Fiscal 2022 results were announced yesterday. It’s been a while since we checked in with the company, so today we’ll look to answer two questions – has our C3 thesis changed, and will this company survive Jamie Dimon’s latest weather forecast which has switched from storm cloud dissipation to hurricane in just ten days’ time?
Catching Up With C3.ai
Let’s start with the basic numbers. Revenues for Fiscal 2022 came in at $252.8 million, just above the tight guidance range of $251 to $252 million. Hitting guidance numbers with such accuracy is a good sign. Next quarter revenue guidance was apparently under analyst expectations, but our focus is more long term. Guidance for 2023 was given at $308 to $316 million, growth of around 22%. We’re fine with that, but apparently, Wall Street analysts had higher expectations for growth.
The proven leadership of Tom Siebel is part of the reason we found C3 so compelling, so it makes sense that we listen to what the man has to say about how things are going at the company. The call starts off with a description of enterprise AI.
The beauty of enterprise AI is when we apply AI to the market of enterprise applications, they become predictive in nature that we can predict the future and change the future.C3 earnings call
Mr. Siebel goes on to talk about how the market isn’t perceiving the C3 platform correctly by assuming that companies like Databricks or Snowflake are competitors. A number of slides in the deck show how a typical C3 implementation touches all kinds of data solutions vendors and brings them together so that predictive analytics can enable companies to predict the future instead of constantly reacting to historical data.
Another point raised in the call is that investors shouldn’t be looking for growth in “new logos” as a major indicator of success. While C3 is managing to increase their customer account over time (they recently changed the method in which they count customers btw), their focus is mainly on expanding existing accounts of which they currently have around 5-10% penetration – the old “land and expand.” The below slide shows how customers spend more on the platform over time as they realize how much economic value it creates.
Having a solution that creates economic value is critically important for durability during difficult times.
The Importance of Durability
Around the same time C3 was announcing their earnings, UiPath (PATH) was as well. While the share price outcomes were a bit different, what these two firms have in common is solution durability. What we mean by that is they both sell solutions that help companies realize economic value. When times are bad, it’s tough to sell a software-as-a–service (SaaS) solution that provides some nice-to-have functionality. Successful vendors sell solutions that sell themselves by creating efficiencies. In the call, Mr. Siebel talks about how Shell recently talked to a room full of customers about how their C3 implementation realized a one-billion-dollar economic benefit last year. This year, that’s expected to double. Then, there’s the European utility that they’ve been working with for quite some time that’s expected to realize 6.7 billion euros ($7.2 billion) in annual economic benefits.
Durability also means being able to weather periods of time when capital dries up. With nearly $1 billion on their balance sheet and negative free cash flow of $15 million last quarter, C3 should have enough runway to reach profitability. The value of having Tom Siebel at the helm becomes apparent when you consider he navigated his Siebel empire through one of the most dramatic downturns in the history of technology to eventually merge with Oracle in 2006. He had a front-row seat when companies like Intel and Oracle saw share prices plummet 80% as the markets all but collapsed. Mr. Siebel knows how to navigate market turmoil, and that becomes evident when you listen to the latest earnings call where he talks about how they’re setting conservative guidance in the face of a possible hurricane.
Our target is to generate sustainable positive free cash flow within eight to 12 quarters. Under stable market conditions, I would guide to a 30% or greater growth rate for fiscal year 2023. With the current economic and political uncertainty, however, and pervasive market passivism, we are inclined to set the expectations by low. While we are much more optimistic about the business, we’re not sure the guiding high is at any benefit to our shareholders.C3 Q4-2022 earnings call
We completely agree, but today’s FOMO investor doesn’t. Listening to earnings calls takes time and effort, while simply using emotion to navigate the markets requires little work.
We’re convinced that C3 can survive whatever hurricane Jamie Dimon has forecasted based on their strong cash position of close to a billion dollars (they made hay while the sun shined), strong gross margins of around 80%, and a conservative leader who acknowledges that the growth-at-all-costs mantra has now been replaced with grow-quickly-but-survive. The last slide of the earnings deck shows C3 achieving a positive operating margin by Fiscal 2024 or 2025, and the call touched on how investments they made in building their brand (sales and marketing overhead expenditures) have become less important as their focus changes to milking the cows they already have in the pasture.
It wasn’t until halfway through this piece that we realized C3 hadn’t filed their 10-K yet. Therefore, we can’t tell you if their customer concentration risk is decreasing over time as we expect it to. As of the last 10-K, the trend was moving in the right direction. We also noted a heavy reliance by the company on oil & gas, an industry that’s currently enjoying good times. A breakdown of revenues by industry might alleviate some concerns around industry concentration.
C3 vs. Palantir
We previously published a piece on An Enterprise AI Showdown – C3 Stock vs. Palantir Stock, so it makes sense to quickly revisit the topic since there are so many passionate Palantir (PLTR) people out there who would expect nothing less. Looking back a year and comparing short-term price performance is practically useless, but let’s do it anyway. Here’s how these two stocks have performed YTD compared to the Nasdaq:
- Palantir: -43%
- C3: -49%
- Nasdaq: -21%
See how pointless that is? What matters is simply the following. If you’re an investor in one company over the other (we chose C3 over Palantir), you’ll only know if you made the right decision when you exit your position and then compare that return to what you could have realized by investing in the other company over the same time frame. In other words, it’s not over until the big, beautiful woman with half a dozen weight-related health problems sings.
When it comes to our simple valuation ratio, here’s how the two firms stack up based on last quarter revenue and today’s market cap.
- Palantir: 19 / (4 * 446) = 11
- C3: 1.8 / (4 * 72.3) = 6
You could say C3 is trading at a lower valuation so it’s a better buy, or you could say that Palantir is a better buy now because their future growth prospects justify the higher valuation. Whatever firm you choose to invest in – you may even choose to invest in both – you’ll probably experience some volatility along the way. Stay cautiously optimistic.
Adding to Our C3 Position
We’ve already allocated all the capital assigned to our C3 position so there’s nothing to do today. It’s extremely tempting to break the rule and add shares, but then we start to brainstorm worst-case scenarios. Mr. Siebel could get into another grudge match with an elephant, the company could lose a major customer for whatever reason, the platform could run into scalability problems that take years to resolve, pretty much anything can happen to C3. That’s called company-specific risk, and it’s precisely why we believe risk-averse investors should limit the amount of capital they sink into any given stock, regardless of how appealing they find it. If we hadn’t already committed the maximum amount of capital to our C3 position, we would have been adding shares this morning.
We have all the time in the world because our investment horizon is at least a decade away. That’s about as long as it took for shares of Oracle and Intel to recover after the dot-bomb implosion. In the meantime, we probably don’t need to worry about the M&A scenario where C3 gets acquired for some lowball amount because of their depressed share price. Mr. Siebel is unlikely to let that happen to his sacred cow. That means we just need to ignore those paper losses and wait for the hurricane to pass over.
Tenured investors understand the importance of being able to hold steady in the face of large paper losses. Newbie investors see paper losses as challenging their credibility and they try to make the pain go away by exiting their position. Investors with higher tolerances for risk may use large paper losses to cut their cost basis in half by doubling their allocated capital (using dollar-cost averaging, of course). Risk-averse investors choose to allocate a given amount of capital and then wait for an exit. Regardless of what type of investor you might be, you can feel assured that Mr. Siebel has the moxie needed to sail the C3 ship through times of crisis.
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