With valuations where they are, it’s either an amazing time to buy software stocks or a terrible one. And in an interview last week, Nvidia CEO Jensen Huang gave his view.
According to Huang, falling software share prices are “the most illogical thing in the world”. So is this a once-in-a-generation buying opportunity for investors?
Tools
Software stocks have been falling sharply over the last year. One example is Adobe, which is down 40% in the last 12 months.
The concern is that artificial intelligence (AI) is going to disrupt the business. But at an AI conference last week, Huang said:
“There’s this notion that the tool in the software industry is in decline, and will be replaced by AI. It is the most illogical thing in the world, and time will prove itself. If you were a human or a robot… would you use tools or reinvent tools? The answer, obviously, is to use tools.”
That sounds encouraging, but I’m unconvinced this gets at why software stocks have been selling off. The concern isn’t that they’re going away – it’s that they’re getting disrupted.
What’s the risk?
In Huang’s terms, the danger for companies like Salesforce (NYSE:CRM) isn’t that AI replaces screwdrivers. It’s that it uses the existing ones in a way that makes them much less valuable.
At the moment, humans need a user interface (UI) to manage customer relationships. But an AI agent doesn’t and that’s the problem the company’s currently trying to figure out.
If a customer uses a Claude plugin to automate tasks like logging calls or entering data, it doesn’t need a human. And that means it doesn’t need a UI, which is what drives Salesforce’s revenues.
That doesn’t reduce the firm’s value to zero – the need for a database won’t go away. But if AI agents can use the existing back-end tools better than humans, there’s a significant problem.
How big is the risk?
The more optimistic case for software companies is based on the idea that AI might help humans use tools, rather than do it better than them. And Alphabet’s Gemini is a good example of this.
Google’s managed the shift from online search to AI-based chatbots very well. Despite the rise of ChatGPT, the company’s moved quickly and launched its own products to compete.
In some cases, I think this is a plausible outcome for software companies. If they develop their own AI products, they might well be able to retain customers.
Salesforce has shifted to an outcome-based pricing model, rather than a subscription-based one. That’s not ideal, but investors will be hoping it can help the firm remain indispensable.
What to do?
In terms of the AI threat, my sense is that not all software companies are the same. But the stock market’s largely treating them as similar – and I think that creates opportunities.
The risk isn’t that AI replaces tools, it’s that it uses the existing tools in ways that reduce the value of what the likes of Salesforce currently do. And that’s more realistic in some cases than others.
As a result, I’m looking at businesses that have more specialised products, ideally in regulated industries. This, I suspect, provides a level of protection that more general applications don’t have.
