3 top stock picks in the software and cloud sector

KeyBanc Capital Markets managing director and equity research analyst Jackson Ader joins Market Domination Overtime to take a closer look at software stocks, highlighting his investment thesis behind three names for which his firm has Overweight ratings.

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Video Transcript

00:00 Speaker A

Software sector is shifting from AI hype to hard results. and investors want to know who's actually cashing in here. From enterprise adoption and cloud competition to M&A that could reshape the landscape. We're navigating how to play the software space with the Yahoo Finance Playbook. and join me now we have Jackson Nator, managing director and equity research analyst at T-bank Capital markets. Jackson, um, great to see you. Let let's start maybe there with that AI theme Jackson, you know,

00:31 Speaker A

obviously we saw we see consumers uh experimenting and adopting Jackson. I'm I'm curious what are you seeing in the enterprise though, you know, a space you know very well. What what are the trends?

00:43 Jackson

Yeah, I think there are two clear trends in the enterprise. Um, one is that some enterprise software players are quickly becoming some uh AI hardware players, right? So Microsoft with their Azure business and Oracle with their Oracle Cloud infrastructure business are into the AI infrastructure game. And then the rest of the enterprise, um, the companies like Salesforce and either in Adobe or Service Now,

01:21 Jackson

they are trying to sell enterprise AI agents or enterprise AI software and embed them into their current products to then go and sell to customers.

01:34 Speaker A

How do you Jackson, I'm just curious. Is it tough as a financial analyst to try and distinguish, okay, this is genuine AI monetization versus marketing fluff?

01:48 Jackson

Yes. Yes, it is. Um,

01:53 Jackson

because we are subject to what the companies want to disclose and what they, you know, want to want to tell us. But you know, I think that it all comes out in the numbers. If a company is telling you that their AI products are on fire and yet their revenue growth is continues to decline or decelerate, you can

02:22 Jackson

you can make your own assumptions, I think about that. And on the flip side, if you start to see some leading indicators like net retention rate, or I really like to look at net revenue dollars added in a in a in a quarter or in a year, that kind of tells you if if the net revenue dollars added are also growing, then that kind of tells you some things are are moving in a positive direction and that might be due to artificial intelligence actually being monetized by some of these software companies.

03:00 Speaker A

So who would you say Jackson, just based on on your coverage universe, the names you know so well. Who would you say, okay, these are some names that are leading the pack when it comes to AI monetization?

03:13 Jackson

I think one to look at that is uh interesting so far is is probably service now. because service now has um an actual SKU, an actual product line called their Pro Plus for their now assist that is still seat-based, but has AI functionality built right into it. But they get to run a very similar playbook that they have before, which is go to their install base and sell this new AI product SKU

03:49 Jackson

that is not necessarily, you know, dependent on whether people use the AI a bunch or whether the agents are going off and and and creating a ton of value and and getting this hybrid revenue model. They're still mostly seat based, but they're talking about getting to $500 million in ARR from that AIC by the end of this year, and then up to a billion dollars by the time we get um to the end of 2026.

04:22 Speaker A

I want to switch and talk about the great cloud wars too, uh Jackson. You know, when you would think about that war, you used to think of okay, it's it's Amazon, it's Alphabet, it's Microsoft. Is is is Oracle now officially that fourth player and maybe Jackson at some point could even supplant one of those three?

04:46 Jackson

Yeah, yeah, I think so. I think I think OCI at least in terms of the uh call it the, you know, the US-based cloud companies is absolutely the the fourth horseman. I mean, you don't sign 300 billion dollars of uh of contracts for your infrastructure and and um and not be part of that exclusive club. Uh so I absolutely view them as uh as kind of a fourth hyperscalar here. But it is interesting, some of the other hyper

05:24 Jackson

scalars, whether it's AWS or or GCP or Microsoft Azure, they're really seeing really strong adoption from the more traditional uh moving workloads on a CPU basis or moving workloads from someone else's basement to the hyperscalar's basement. Oracle really doesn't have much of that type of a business. They are they are really moving forward with the GPU based hyperscalar model. Um and so that's why they get a seat at the table today that they didn't necessarily maybe five and 10 years ago.

06:05 Speaker A

The past week, Jackson, uh it's been a bit a bit bumpy for Oracle. It is down about about 10%. Is that just is that just Oracle getting caught up in this kind of broader, you know, AI valuation worries or or something more there?

06:23 Jackson

I think so because they are you know, Oracle cloud for for a little while here during the the GPU race was viewed almost as the um as the spillover cloud. If you couldn't get capacity from uh from maybe Azure, you would try and see if you could get it from Oracle or for one from one of the neo clouds. And so if you are uh if you are getting the incremental dollars or incremental spend in the GPU clouds, then if there is any kind of risk that that spend might be uh getting ahead of itself, it's logical, I think for investors to say, well,

07:10 Jackson

this company is a little more levered to that spend than others. And so if there are going to be worries about the spend, it's it's going to be Oracle that'll feel the brunt of that. You know, the other thing is, um, we at least again, we we cover both Microsoft and Oracle. In our estimation, we believe Microsoft is going to have enough cash flow and uh and cash flow from operations to cover what they're going to need for their CAPEX for the next few years, whereas Oracle is going to have to dip into those uh we have them at negative uh free cash flow for the next few years and they're going to have to finance a lot of this build out.

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