A Contrarian Take on AI: Is It Time to Buy Software Stocks?

0:00Today is going to be a little bit different. I'm going solo again today and I'm going to answer a great question from somebody from Value Spotlight. This topic might ruffle some feathers and I think it's a little bit overdue, long overdue. I haven't really touched much on everything that's been going on with AI and software. So I'll give my perspective. I'm hoping to inspire some deeper thinking. Let's just dive right in. This show is sponsored by Liquid IV. With the days getting longer and warmer, I'm spending way more time outside, but lately I was hitting a massive afternoon slump. I quickly realized that plain water just wasn't cutting it.

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2:50See less carts go abandoned and more sales go with Shopify and their ShopPay button. Sign up for your$1 per month trial today at shopify.com slash beginners. Go to shopify.com slash beginners. That's shopify.com slash beginners. You're tuned in to the Investing for Beginners podcast. The show for the long-term investor. We cut through the noise to focus on what works, compounding, discipline, and the conviction to buy wonderful businesses and stick with them. Your path to financial freedom. Start now. Welcome to the Investing for Beginners podcast. I got this question. Hey, Andrew, Drew, do you have any thoughts about Adobe?

3:40It's been pretty rough watching it drop. I still have conviction, but I would love to hear what you think about Adobe and the market's worries about AI eating its lunch. I'd love to hear about SaaS sector, Adobe, and our current market environment in general. So thanks for the DM. This one definitely made me think deeper. And one of the reasons that I'm really grateful to be able to be running the Value Spotlight portfolio. So let's look at some performance numbers for the SaaS. So that's software as a service industry. It's been getting hammered for a few months now. Again, I'm finally talking about it, but in the year to date, so that would be from January to April, we have stocks like Workday down 40 % since January.

4:31Intuit down 38%. FICO down 36%. ServiceNow 34%. Adobe, the stock that I bought, both publicly made an episode about on this show and also recommended and took a decent stake in value spotlight. That one's down 31%. And Salesforce down 30%. You're just seeing these software as a service businesses drop as a whole. And there's a few reasons. My understanding of it is with AI making software development in particular so much easier, there's just going to be so much more competition. The barriers to entry appear to be lower for software companies. everybody's talking about vibe coding and how they can try to make these kinds of softwares in-house and then on a broader view i think there's fears which are i think there's a lot of basis for these fears but fears that the software industry shifts from a subscription type business to a usage type business which would be quite devastating for a lot of these software stocks that rely on this recurring software stream.

5:51If it is the case and every business is going to be different, but if it's the case that these software companies are charging licenses, you know, thousands of seats for software that's being relatively unused or underused, then switching to a usage-based model, kind of like what we've seen with cloud computing a little bit could reduce revenues quite substantially. And that would be a huge disruption for that industry. So I think there's some validity to it. I also think there's general narratives that are leaking over, and I kind of want to talk about those. So this is going to go down a little bit of a rabbit hole.

6:36And if it completely goes against your interest, just tune into the next episode. We'll see you next time. But I think it's important to talk about AI and some of the things that are coming out and some of the learnings we're having around AI. Because in the same way that if you were to invest in a health insurance stock, anything related to healthcare, you want to have a decent sense of what's going on around the industry, what the disruptions are with healthcare in particular. There's been a lot of litigation risks and things with premiums and claims and all of these things that we've seen affect the margins for these stocks.

7:28AI is a similar thing and as it relates to SaaS and as it relates to Adobe. so um i'm gonna just reference a few studies that i've come across when it comes to ai okay this one's from mit and they said your brain on chat gpt accumulation of cognitive debt when using an ai assistant for essay writing task um i've heard people say before ai makes you dumber, not smarter. This MIT survey talks about how users of LLMs who use the LLM to write their essay versus those who used a search engine and those who use their brain only, they showed cognitive declines and this cognitive activity scaled down in relation to their tool usage.

8:25LLM users displayed the weakest connectivity brain only participants exhibited the strongest so there's what they're calling reduced alpha and beta connectivity under engagement higher memory recall for the essay writers using their brain and the LLM users also struggled to accurately quote their own work. So I think one of the first things to understand about AI and maybe just to kind of put a little bit of restraint on all of this excitement around the technology, because the excitement is undoubtedly extreme. There are reports now that of AI companies with IPOs over a trillion dollars. That's obviously unprecedented, something we haven't seen before.

9:35So yes, it's changing a lot, but how much of the work that we all assume is going to be replaced by AI will actually happen? and how much is it hurting the people who are using it. Some more studies I came across, and these from a YouTuber called Mo Bitar. His videos aren't really safe for work, but he does dig into a lot of these studies that they've done around AI. This one hits a little bit closer to me personally, and it's a little bit eye-opening. So this was back in 2025, October. OpenAI released an estimate of how many ChatGPT users globally may show signs of having a severe mental health crisis in a typical week.

10:32So these are public numbers straight from OpenAI. This was reported by Wired.com originally. and some of the numbers around that they estimated around 0.07 percent of active chat gpt users show possible signs of mental health emergencies related to psychosis or mania and 0.15 percent have conversations that include explicit indicators of potential suicide planning or intent so wired takes which this is insane so chat gpt now has 800 million weekly active users just to give you a sense of if you're United States centric like I am, the United States has a population of around 365 million. So chat GPT is bigger than the population of the United States.

11:19It's over two times as big. And so based on what Sam Altman, CEO of OpenAI released, they said And every seven days, based on these percentages, the numbers suggest that around 560 ,000 people may be exchanging messages with ChatGPT that indicate they're experiencing mania or psychosis. Another 1.2 million are possibly experiencing suicidal ideations. Another 1.2 million may be prioritizing talking to ChatGPT over their loved ones, school, or work. So I just did some back of the napkin math.

12:01the psychotic disorders affect less than 1 % of the population at any given time. And so if you take those numbers and you look at the population of the United States, for example, the numbers of people who are on OpenAI, based on my back of the napkin math, It looks like there's more people on ChatGPT who are having these kinds of mental health issues than the average has historically been. So, you know, more mental health issues with ChatGPT. i think i think that might create if that kind of a story becomes more commonly known that might create some regulatory pressures for the entire ai industry in general a few other um stories that were surfaced by again the the youtuber there's a story about the guy who um just you know basically was convinced by chat gpt that he had discovered a revolutionary mathematical theory after a very long chat conversation with chat gpt and on this particular conversation the chatbot agreed 86 86 % agreed with 86 % of their communications and 91 % of the time flattered him for being unique.

13:40So there were times in the chat dialogue where he said, hey, tell me if I'm crazy. And the chatbot just kind of reinforced these delusions. And then a last one I'll mention here. This was a study by Stanford and an organization called The Human Line Project at thehumanlineproject.org. 19.1 % of violent disclosures met with chatbot encouragement or facilitation. This was, by the way, over 384 ,000 messages across 5 ,000 conversations from 19 participants.

14:21almost 75 % of suicidal disclosures met with no safety response or active facilitation and 100 % of the participants experienced chatbot claiming sentience so this is something I wanted to talk about too because we don't really fully understand how these AIs work and it's crazy that we're, and I say we like Wall Street, society, the market, the stock market, we are allocating billions and now trillions in these crazy IPOs to a technology that's not fully understood. And the idea that 100 % of participants claim that the chatbot was sentient, I think really demonstrates just how much people, us, the general public don't understand this technology.

15:09and I don't either I'm definitely not an expert I would just I would encourage that if you're out there and you're kind of dismissing some of these claims and studies I'd encourage you to at least learn how the large language models actually work it's not intelligence yes they write code very very well and it's because of the fact of this thing called open source code and the fact that the chat bots can copy-paste this code and really build impressive things without needing any sort of intelligence. But the way that the algorithms work for generating text and generating what looks like analysis and generating images and videos is...

16:09not sentience at all. And that's kind of like a hill I'd be willing to die on basically. And I think it goes to the broader, I think the fact that AI is so effective at building software and I've seen it and I've used it. Vibe coding is a thing. And there are senior developers who talk about they don't need to write code anymore because they can just architect from the top and use AI to build the code. But I think there's misconceptions on the power of AI, the utility of AI, and then also the fact that AI is expected to be like the next internet. And that's totally not the case at all. All of you small business owners are familiar with the same challenges we all face.

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19:47I'll leave this last thought, and then we'll move on to the impacts to SaaS and buying stocks in this industry and everything. But the internet was always designed in mind to be open and decentralized. So anyone, anywhere could access it. And I came across a Reddit thread, which again, I'm not an expert. So I have to rely on some of these, ironically, like the internet here. But the intent has always been to build a global computer network that could basically take a few nukes and still survive. Now you contrast that, this open decentralized network with AI, and AI is controlled, built, and developed by a few massive corporations, for-profit corporations that have the scale and the capital to be able to develop these models.

20:52So it's basically a product, AI, chat GPT, these chatbots, they're a product of big, highly profitable corporations. and I think history has shown that products and capitalism left too unchecked eventually leads to other things that governments and litigations and things like that go after so based on how Wall Street and the stock market has been reacting they're reacting like AI is the next internet when in fact it's not, it's something completely different. And they're bidding down any stocks that they think this inevitability of AI will affect. They're bidding these stocks down like the SaaS companies we just talked about, Workday, Intuit, FICO, ServiceNow, Adobe, Salesforce, just to name a few.

21:56And bidding up anything with AI, which I have some of these stocks in my portfolio. They've done awesome and I'm continuing to hold them. So one of the things I've become really passionate about because I've had to learn it the hard way is recency bias. There's so many biases as investors we have to fight against if we want to be successful. Recency bias is one of those that's only obvious in hindsight. and I believe it really relates in this case because we're taking the mental model of what happened with the internet and hyper-imposing that on what's going on with AI today. And I think that can be faulty because recency bias can really lead you to making a ton of just decisions you don't even realize it's bleeding into every decision that you're making.

22:56So I'll give you an example. I grew up, I came into the career corporate world in 2008, 2009, 2010. The worst global financial crisis we had had since the Great Depression. And I saw, you know, I lived it very vividly. So I saw friends, other students who were really bright and did well in school and struggled to find work. And so that impacted how I felt about the stock market for a long time. and I'm like I'm not joking or exaggerating when I say from the start from 2012 until I guess it took the pandemic to kind of like change my mind about this whole idea but I always had in the back of my mind that another 2008 2009 2010 was going to happen as classic recency bias and the way that it played out in my investments was I was too, too conservative, way too conservative.

24:01Anything that just had like a modicum of just decent debt leverage, things like that, I completely shunned. And that caused me to underperform for many years. So I think having this idea, this mental model, this viewpoint that because we saw what happened in 1999 and everybody seems to relate what's happening now with AI with the internet and the dot-com boom and you know look at all the great stocks that happen from because of the internet like Amazon and Facebook and Apple and Google we tend to think that that's going to happen in AI too and I just want to kind of be that cautionary voice to say that could be the case but it also could not be it could be a heavy dose of recency bias and and so i think maybe there's some opportunity in some of these stocks that are really coming down now because of the ai scare

25:03let's move on to talking about adobe and like am i going to buy the dip in adobe it's it's I'm not going to give a definitive answer on this show. And if I do buy the dip on Adobe, you'll see it if you're subscribed to Value Spotlight. But let's talk about Adobe Q1. Especially in the last few weeks, they had their Q1 earnings release. There's a big announcement. The CEO who's been there for 18 years is now leaving. So that's creating some uncertainty. I dug into the 10Q and it looks like they're combining their three segments into one single segment in an attempt to have some uniformity in their direction and their focus.

25:50And I think there's a lot of good in that. I think there's also a little bit of concern or uncertainty that arises when a company does that. And I think that's also valid. Just looking at their numbers, the ARR for the company is up 11%. In Q1, so that's the most recent quarter. Obviously, AI has been around for a while now. ARR, which is annualized recurring revenue, which is a key metric for a software company, still up double digits. Their COGS or cost of goods sold is up 10%. So they're maintaining their gross margin. Their pricing power is not declining yet. You have hosting and data center costs, which are up 14%, which is outpacing where that AAR is.

26:39And I think we're seeing this throughout the industry where a lot of companies are willing to eat the costs of higher hosting and computing costs in order to just see where this AI thing goes. And, you know, I think there's good reasons for that. And there's going to be a lot of innovation that comes from that. So, you know, Adobe is not immune from that. They're obviously pushing a lot of their own AI and integrating that into their software suite. and so you're seeing that play out in some of the line items in their income statement like the data center costs deferred revenue in q1 which is another key metric you know trying to measure like what kind of demand is is the company having for its services up almost 15 % a year in the quarter so all the numbers are looking great for adobe you just have these fears, these multiple uncertainties.

27:32And the question of, like I mentioned at the beginning of the episode, are the barriers entry lower in this software? Does it become a completely fragmented industry where new startups could be like one or two people who develop these pieces of software now? Does that all either way at Adobe and its suite of products and, And, you know, does that apply to ServiceNow? And does that apply to Salesforce? And those are all questions that I think are up in the air that I honestly, just completely transparency, don't have a clear answer for at this time. And it's something I'll be continuing to research and continuing to look at.

28:17I do feel deeply in my gut that the impacts of AI to the software as an industry, the software as a service industry are going to be widespread. And it's really going to be company by company dependent. And I know that sounds like a cop out, but I really think it is. It's going to come down to, like we always talk about on the show, the competitive moat, what differentiates a company and its products. and why do the company's customers go to this company for its services rather than alternatives? And are the new disruptions going to be enough to sway customers to switch from Adobe or Salesforce to another competitor?

29:09It all comes back to that once again. But one other thing I want to cover about Adobe, because I just talked about all the great numbers they've had. Another one of the painful lessons I've had as an investor and somebody who looks at value stocks in particular, this seems to be a bigger issue with value stocks because you have the value traps, is this idea that just because the numbers look great in history doesn't mean that you're going to have great performance. So we can't just simply say, well, look at Adobe Q1 2026. It's continuing to grow at double digits. That's all I need to know. I'm going to buy the dip.

29:52I think there's a lot of problems with that mindset. And here's why. I had two companies in the past that I bought the dip on. One did not do well. One did very well. So one I've talked about almost as therapy on the show, Franklin Resources, ticker BEN. I bought it. I first bought it in 2016 in July. And the numbers were just absolutely fantastic. You look at 10 year growth, 19 % a year, the dividend growing 15 % a year, debt to equity 0.3 price to book price of sales price to cash all below three, like just insane numbers reminds me of Adobe because Adobe is cheap. Adobe has great income and growth, and Adobe has a great balance sheet.

30:44The problem with Franklin Resources was that I did not do enough thinking on the qualitative impacts of the disruption that was happening in the future that was already happening and continuing to happen, and that was the disruption of index funds. was not obvious at the time that index funds would be as insanely common and popular as they were back then, even though it was pretty obvious a lot of the benefits and cost savings and things like that. So an example of the numbers look great, but disruption took the launch of Franklin Resources. And that was a very vivid memory that I take with me today.

31:30But then again, you can't just say, well, never buy the dip in that case, because in May of 2024, almost two years ago, Google Alphabet had a very similar situation. situation. Funny how 10-year growth was also 19 % for Franklin Resources. The PE was 25, which doesn't sound like a super bargain right now, but at the time with the S &P with a very high PE, that was a great discount for how much Google was and is growing. The net debt to EBITDA was like zero. And I'm continuing to hold that stock. It's been a big winner. And I'm glad I bought that dip. It's up 80%, and we'll see how much longer that continues to grow.

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