This software company could be a big winner in the AI race.
Artificial Intelligence (AI) is arguably one of the biggest trends of our generation, rivaling (and some would argue surpassing) the Internet.
The rise of AI will propel many businesses to new heights, while also putting some at risk of demise. For example: NVIDIAThe market capitalization of the leading supplier of graphics processing units (GPUs) for AI calculations temporarily dropped to Microsoft It became the world's most valuable company, but then dropped slightly to second place.
While Nvidia is an obvious candidate, investors looking to capitalize on the AI trend shouldn't put all their eggs in one basket. Fortunately, the AI tailwind should benefit many companies beyond Nvidia, including: Palantir (supplement 1.10%).
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Palantir has a resilient business model
If you were asked to name the top tech companies, Palantir probably wouldn't be on the top list, and for good reason: Palantir is not a consumer tech company. Amazon or alphabet, or a small business software company ShopifyPalantir's main customers are large organizations, primarily governments and large corporations.
Founded in 2003, Palantir initially focused on developing software for the U.S. government's counter-terrorism operations. Early success led the company to expand its products to other governments around the world. The company then leveraged the expertise and experience it gained serving government customers to enter the commercial market.
Palantir's value proposition for its customers, the majority of which are still governments, is relatively simple (though by no means easy to achieve): Palantir collects massive amounts of data from everywhere (internal and external), analyzes the data with its software platform, and helps make critical operational decisions. Because Palantir's software tools help its clients make critical decisions (including matters of life and death), they must be robust, scalable, and reliable.
Additionally, Palantir must customize its software to meet the needs of its customers — a local government agency will have very different requirements than the Department of Defense, for example — so while Palantir can leverage a common software platform and experience, it must customize its solutions to help different customers tackle their unique jobs.
For these reasons, Palantir's products are likely to become very entrenched among customers. Implementing this software requires significant financial and human resources – installation, integration, training – and creates significant switching costs for clients. As long as the software continues to function, there is little point in considering switching providers.
Palantir also typically has long-term contracts with its customers, making its revenue more sticky. As of December 31, 2023, the existing contract term was 3.4 years, up from 2.8 years a year ago. Plus, existing customers typically pay Palantir more over time. For example, its top 20 customers paid an average of $54.6 million in 2023, up 11% from $49.4 million a year ago.
AI will continue to drive Palantir's business in 2024 and beyond
Palantir's early track record of helping the U.S. government gives the company a good stepping stone to building a larger business around government agencies. While this area is impressive, it's unlikely to take Palantir to the next level. Instead, the software company must grow its commercial arm.
To put it in perspective, 55% of Palantir's 2023 revenue will come from the government sector, and the remaining 45% will come from the commercial sector (up from 44% in 2020). Herein lies the question: can Palantir expand its commercial division further, quickly?
Don't get me wrong — there's nothing wrong with having important, strong business relationships with governments, especially since many of those relationships are very strong — but Palantir's biggest opportunity is in the commercial space.
And AI will play a key role in shaping Palantir's next phase of growth. Especially since 2023, as awareness of AI grows with the proliferation of generative AI apps like ChatGPT, the market realizes how AI can impact their work and personal lives. This awareness creates an increased urgency for businesses to implement the latest AI tools to improve their operations or risk losing out to competitors.
Palantir has multiple paths to victory. One is to leverage existing customer relationships to upsell its AI solutions. This approach is easiest because customers are heavily invested in using Palantir's platform and can leverage their existing data infrastructure to run new AI models quickly.
Additionally, Palantir can capitalize on short-term market excitement to acquire new customers. To this end, Palantir leverages its AIP Bootcamp to allow potential customers to try out its AI platform for free and get hands-on experience of how AI can improve their business operations. This allows customers to know exactly what they're getting from the software without paying anything up front, which should improve conversion rates.
Though it's still early days, there are already tangible signs that AI could be transformative for Palantir. For example, in Q1 2024, Palantir's U.S. commercial revenue grew 40% year over year, and the number of U.S. commercial deals closed grew 94% year over year, compared to just a 21% increase in company-wide revenue. Even better, this trend is likely to continue for years to come.
What it means for investors
Investors are constantly on the lookout for the next megatrend that has the potential to shape society and generate enormous wealth over the long term.
Amazon, a startup that emerged from nowhere in the 1990s, used the internet as a catalyst to become one of the most valuable companies on the planet. The same catalyst has helped Alphabet and Meta Platform.
Similarly, AI will undoubtedly give rise to new tech giants, so investors should keep a watchlist of potential winners. Palantir should be on that list.
John Mackey, former CEO of Amazon subsidiary Whole Foods Market, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Lawrence Nga has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Alphabet, Amazon, Microsoft, Nvidia, Palantir Technologies, and Shopify. The Motley Fool recommends long January 2026 $395 calls on Microsoft and short January 2026 $405 calls on Microsoft. The Motley Fool has a disclosure policy.
