Over just a handful of years, Nvidia (NVDA -2.09%) has become one of the most profitable investments in recent memory. Even after the company surpassed a $1 trillion market cap, its valuation continued to double, and then double again. Long term, who knows how high shares can soar?
Of course, the rise of artificial intelligence (AI) is the major reason why Nvidia's stock price has done so well. As the market leader in AI GPUs, Nvidia has found itself in the right place at the right time. Long term, spending on AI infrastructure should balloon tremendously -- a future that will, in all likelihood, greatly benefit Nvidia.
But what if you're looking for the next big AI stock? Where should you be dedicating your time? Look no further than SoundHound AI (SOUN -1.16%). While its share price has also soared this year, there's clearly significant upside if the company can execute on a few critical areas of growth.
SoundHound has an early edge on the competition
When it comes to dominating the AI space, being early has proven a great strategy. Nvidia spent huge sums on research and development to get its first AI GPUs to market. And while demand was limited at the start, this early competitiveness allowed it to aggregate users and data that not only created a community of developers building with its infrastructure components, but also helped inform its future line of new AI chips.
Today, Nvidia has between 70% to 95% of the AI GPU market -- a highly profitable segment that is allowing it to pour billions of dollars into additional research and development efforts. Suffice to say that being early provided Nvidia with a durable competitive advantage as industry demand began to take off.
In many ways, SoundHound is in a similar position. As its name suggests, the company deals with the intersection of sound and AI. Its voice recognition and natural language processing software can be implemented in a variety of industries.
Fast food companies are piloting its technology at drive-thru windows to help control costs and improve throughput times. Auto manufacturers have put SoundHound's software into their vehicles, allowing drivers to chat with their cars about maintenance issues and road conditions. Customer support is another big use case, with several companies using SoundHound tech to help triage and handle customer needs over the phone and online chat.
These customer relationships didn't appear out of nowhere. The company has been operating since 2005, accumulating more than 200 patents since its founding. In 2016, it launched its open developer platform, which proved to be an inflection point for sales. Over the past decade, dozens of companies have signed on as customers.
As with Nvidia, these customers give SoundHound an edge when it comes to data and market validation. Real-world use cases allow the company's models to improve using reliable data, while new customers continue to prove to potential customers that SoundHound's tech stack is worth looking into.
SOUN Revenue (TTM) data by YCharts
Does this AI stock really have 1,000% in potential upside?
Unlike Nvidia, SoundHound is still losing money. And even after a huge increase in revenue, the company is still expecting to generate less than $190 million in sales next year, while its current research and development budget over the last 12 months totaled just $64 million.
The company clearly has an early edge on market growth for its niche. But if any of the big tech players decide to compete directly, it's unlikely that SoundHound will have the financial firepower to keep up. Plus, there's always the issue of valuation. Right now, shares are priced at an outrageous 88 times sales. Few companies can justify this steep of a valuation over time, though Nvidia is a notable success story.
Can SoundHound replicate Nvidia's historic rise? The answer is likely no. The sound AI space is significantly smaller than the AI GPU market. And while I liked the stock in September when the company was valued at less than $2 billion, the company is a much less attractive investment now that the valuation has ballooned to more than $7 billion.
I'd keep an eye on this AI play should shares experience a correction. But with inferior growth prospects versus Nvidia, not to mention a priced-for-perfection valuation, I'm leaving this stock alone for now.
