Open-source AI Will Erode Revenue And Margins

Key Takeaways

• Proliferation of open-source AI and vertical integration by large clients threaten C3.ai's market relevance and revenue growth prospects.
  
• Increasing compliance costs, talent shortages, and persistent losses challenge C3.ai's profitability and long-term competitiveness.
  
• Expanded cloud partnerships, industry diversification, AI innovation, and public sector growth signal greater recurring revenue, reduced risk, and a credible path to sustained profitability.

Catalysts

Operates as an enterprise artificial intelligence (AI) application software company in North America, Europe, the Middle East, Africa, the Asia Pacific, and internationally.

• As open-source AI models continue to improve and proliferate, large enterprises could increasingly bypass proprietary platforms like C3.ai in favor of cost-efficient, in-house, or community-driven solutions, which would erode both revenue growth and long-term gross margins.
  
• Intensifying regulatory scrutiny and skepticism about AI, particularly regarding data privacy, explainability, and compliance, are likely to drive up compliance costs for C3.ai and delay enterprise adoption cycles, materially pressuring both top-line growth and profitability over the coming years.
  
• The rapid pace of vertical integration by hyperscalers and large enterprise clients threatens to marginalize standalone enterprise AI application providers, as companies embed AI directly within their own systems or cloud infrastructure; this could permanently diminish C3.ai's relevance and compress its addressable market, leading to structurally weaker revenue expansion.
  
• The persistent need for heavy R&D and sales investments to simply maintain relevance amidst escalating competition, combined with the company's prolonged history of negative operating margins and net losses, suggests a long road to sustainably positive earnings regardless of current revenue growth rates.
  
• Ongoing talent shortages and wage inflation in AI and data science may result in rising operating expenses and slower product innovation at C3.ai, making it increasingly difficult to improve margins or defend market share, further compromising long-term earnings potential.

C3.ai Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on C3.ai compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming C3.ai's revenue will grow by 18.5% annually over the next 3 years.
• The bearish analysts are not forecasting that C3.ai will become profitable in next 3 years. To represent the Analyst Price Target as a Future PE Valuation we will estimate C3.ai's profit margin will increase from -74.2% to the average US Software industry of 13.3% in 3 years.
• If C3.ai's profit margin were to converge on the industry average, you could expect earnings to reach $85.9 million (and earnings per share of $0.54) by about August 2028, up from $-288.7 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 35.4x on those 2028 earnings, up from -10.8x today. This future PE is lower than the current PE for the US Software industry at 38.9x.
• Analysts expect the number of shares outstanding to grow by 5.79% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 8.46%, as per the Simply Wall St company report.

C3.ai Future Earnings Per Share Growth

Risks

• The rapid expansion and deepening of C3.ai's partnerships with hyperscalers like Microsoft Azure, AWS, and Google Cloud, along with a growing partner-driven sales motion, is creating powerful new sales channels and faster sales cycles, which is likely to drive sustained double-digit revenue growth and increase the company's market share and recurring revenue.
  
• C3.ai's successful renewal and broadening of the Baker Hughes contract, as well as its growing diversification across 19 industries beyond oil and gas, is reducing customer concentration risk and creating a more stable and durable revenue base, supporting both revenue resiliency and long-term earnings.
  
• Accelerating adoption of generative and Agentic AI applications, combined with C3.ai's early-mover patent position and over 100 deployed solutions, positions the company to benefit from the multi-billion dollar secular growth in enterprise and agentic AI, which will increase C3.ai's revenue potential and likely improve net margins as the market matures.
  
• Significant progress and contract wins in federal, state, and local government-such as the expanded $450 million Air Force contract and 100% revenue growth in government verticals-demonstrate strong public sector demand, providing a large addressable market, visibility into long-term bookings, and supporting cash flow stability.
  
• The company's improving financial discipline, as shown by 25% top-line growth that outpaced expense growth, positive free cash flow in the latest quarter, and management's guidance for non-GAAP profitability and sustainable free cash flow by late 2026/2027, indicate a credible path to improving earnings and net margins as the business scales.

Valuation

• The assumed bearish price target for C3.ai is $15.0, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of C3.ai's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $50.0, and the most bearish reporting a price target of just $15.0.
  
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $646.7 million, earnings will come to $85.9 million, and it would be trading on a PE ratio of 35.4x, assuming you use a discount rate of 8.5%.
  
• Given the current share price of $23.25, the bearish analyst price target of $15.0 is 55.0% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.