Jeff Brown is out with a new pitch for his entry-level newsletter, The Near Future Report (currently “on sale” for $49/yr, as is typical of his promotions). The ad is all about the potential gains being driven by “Project Xi” … so what’s the big idea, and which stocks are getting the teaser treatment here?

Here’s a little taste from the ad:

“The US military, Google, Amazon, and Apple… have all joined forces to develop the most advanced weapon in history.

“And it’s aimed straight at China.

“This modern-day Manhattan Project is worth a potential $15 trillion. And one small company’s tech makes the whole thing go.”

That’s marketing 101: Describe a massive trend or project, and then skip over all the complexity of the industry and say it’s all on the shoulders of “one small company.” That’s what daydreams of wealth are made of.

And there’s a big fear factor here, as well, with the huge global reliance on Chinese manufacturing:

“Rosemary Gibson, a senior adviser at the prestigious health policy institute, The Hastings Center, warns:

‘If China shuts the door on exports of medicines… within a couple of months our pharmacies would be empty. And our healthcare system would cease to function. That’s how dependent we are.’

“China is no longer just a sweatshop for our t-shirts, bags, and shoes…

“Over the past few decades, its tentacles have quietly penetrated almost every aspect of our lives.

“Consider this: China makes over $200 billion a year from US technology companies…

“But smartphone and microchip manufacturing are just the tip of the iceberg.”

And certainly that jibes with the current political stance of both parties in the US, with everyone itching to blame China and further ignite the current “cold war” to impress us all with how tough they are… so Jeff Brown says that this reaction to China’s hegemony is leading to a huge push that’s on par with the Manhattan Project (for those unfamiliar with history, that was the US-led effort to build an atomic bomb during World War II).

Here’s more from the spiel:

“Insiders may call it the New Manhattan Project.

“But I call it ‘Project Xi.’

“Why? Because its mission is to counter a massive threat to America – coming from China.

“And here’s the thing…

“This operation isn’t about building a nuclear bomb… a new supersonic aircraft… or any kind of deadly weapon.

“What’s under cover in the Oak Ridge National Lab is way more destructive.

“It’s an economic weapon…

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“And it’s aimed straight at China.”

And we get an outside quote to buttress this claim:

“Eric Schmidt, the former Google CEO, is very clear about it:

‘The threat from China is growing. [Project Xi] will change how we fight and how we defend America. It will have a profound effect on our immediate security, economic well-being, and position in the world.'”

That’s really a general tease of the whole idea of “Artificial Intelligence” — that quote from Eric Schmidt is from a report from the National Security Commission on Artificial Intelligence late last year.

So what’s our “one small company” benefitting from this artificial intelligence push?

“Until recently, it wasn’t even close. China was far ahead of us.

“But then, one small hardware company joined Project Xi… with nothing short of a new tech miracle.

“And after seeing the test results coming out of the Oak Ridge Lab…

“About the progress of this new technology…

“For the first time, I’m going to show you what this tech miracle can do.

“Thanks to this tiny piece of hardware…

“We finally have a silver bullet to fight back against the Chinese Government.”

How is it that this little company could possible have a “silver bullet?” Apparently it’s all about how we can retool US manufacturing, using artificial intelligence, and rebuild the US industrial economy. More from Brown:

“… the Communist empire became the production hub for the whole Western world…

“But in doing so, they’ve exposed themselves to a perfect economic attack….

“Now, imagine what would happen if we suddenly stopped buying from China…

“If we reopened all the shuttered factories in our own country…

“Not only would we get to keep around $500 billion…

“We’d reinvest all that money in the American economy instead of China’s…

“It all adds up to a single, ‘economic,’ kill-shot…

“That could lead to an immediate 30% crash in the Chinese economy.

“That’s why I call Project Xi an economic ‘weapon’…

“Because it’s the trigger that could start China’s collapse.

“… thanks to this ground-breaking technology… started in the Oak Ridge National Lab…

“Our factories will soon become competitive again, much faster and cheaper than ever before. Right here, on our soil.”

So yes, we’re dealing here with AI and robotics, with a side dish of patriotic outrage that we’ve been suckered into buying better and cheaper stuff from overseas for the past 50 years. But how does that translate into an investment idea?

I thought you’d never ask.

We do finally get to Brown’s talk about where the opportunity lies… and which stocks he likes:

“As you might have already guessed…

“I’m talking about robotics….

“What I’m talking about here is a completely new category…

“These are machines that can learn by themselves, from demonstration. Just like we humans do…

“Machines that can spot defective parts faster, with 100% accuracy. And reduce factory downtime dramatically.

“I’m talking about machines that work alongside humans. And execute tasks which are too dangerous or difficult for a human worker to do…

“And contrary to popular belief, these smart machines will actually create millions of new jobs for Americans…

“In fact, according to a recent report by the World Economic Forum…

“Robotization and smart automation could create 58 million new jobs in the next few years.

“And companies like General Motors and Ford are testing these robots as we speak.”

And it’s not just robotics, of course, but “smart robotics”:

“Of course, what I mean by robotics is a combination of a number of state-of-the-art technologies:

“Machine learning, artificial intelligence (AI), and vision recognition.

“And with the new rules of social distancing…

“More and more businesses are switching to robotics and automation every day.”

So we’re dangling here, what’s the secret!?

It’s apparently a “small piece of hardware” that makes this possible… more from Brown:

“The company that makes it is not a household name.

“But they are crucial to the operations of some of the biggest tech companies in America.

“In fact, Google, Amazon, and Microsoft have already upgraded their cloud platforms. They now all run on this ground-breaking hardware…

“Mercedes-Benz announced that every single car in their new line will have this hardware at their core.

“And the US Department of Energy is using it in their COVID-19 research.

“What this small company has created is essentially a tiny supercomputer.

“And the speed at which this supercomputer can operate is staggering.

“No other device, military equipment, or anything else you’ve seen so far is that fast.

“It’s about 60% faster than the Chinese version which was the top performer for the past five years.”

There’s a chart of that relative performance, which shows “China” coming in at 93, and the “USA” coming in at 148.6, without any indication of what those numbers mean or what the scale is…. but they must be referring to what is currently the world’s largest supercomputer, The IBM Summit System at Oak Ridge National Laboratory that delivers 148.6 petaflops to handle massive computing problems, which is indeed larger than the biggest Chinese installation (the Sunway TaihuLight in Wuxi, at 93 petaflops), though both are far smaller than the giant new Fujitsu Fugaku installation in Japan that went online this year (at 415 petaflops). Those are the computers that today are tackling things like analyzing pandemic outbreaks, or simulating electrical and chemical reactions. And, presumably, constructing the matrix for our alien overlords one day.

So who is it that makes this little device? I think you probably know where we’re headed here, and it ain’t IBM. More from the pitch:

“… this device can execute 200,000 trillion calculations per second.

“To put this number into perspective: A task that would take your PC 30 years to complete, takes this machine only 1 minute!

“Now, here’s a little ‘secret’ I didn’t mention before…

“The company that makes this cutting-edge hardware has been on my watch-list for a while.

“Chances are, everyday investors have never heard of it before…

“But thanks to my career-long involvement with high-tech processors, semiconductors, and microchips…

“I knew this company’s potential the moment I learned about it.

“In fact, back in 2016, I told a small, elite group this company would be the #1 tech stock of that year.

“I was right. Its shares gained over 1,048% in the months that followed. It was the top performer across the board.

“Right now, I believe this company is set for another steep ride, thanks to the hardware powering this new Manhattan Project.”

OK, so that’s NVIDIA (NVDA), which Brown did indeed pick as the “#1 Stock for 2016” and, if I remember correctly, for 2017 as well — it was heavily teased by Brown and several other tech-focused newsletters for several years from 2016 to 2019, since it was in the “sweet spot” as a story stock involved with virtual reality, cryptocurrencies, autonomous driving, artificial intelligence and video gaming. And it was a hot “momentum” stock for much of that time. Pretty much all the hot trends you can imagine… and before the recent tech stock weakness, it was at new all-time highs approaching $600.

This is what I wrote to the Irregulars the last time NVIDIA caught my eye, about two weeks ago:

“NVIDIA (NVDA) released its newest GPUs this week, impressing with yet another leading product that sets new performance standards… and in a little surprise, they also lowered the price enough to get people excited that the market leader might further its lead over rival AMD (AMD). So it’s probably going to continue to be a great year for video game companies, as new games that use NVIDIA’s ray tracing technology are much further along in development now than they were when the first ray tracing GPU was released last year. Analysts were pretty overwhelmed with excitement about NVIDIA’s prospects, ramping up the price targets and the upgrades as they once again had underestimated what is now America’s leading chip company.

“But, of course, that wasn’t enough to save NVDA in the late-week carnage, so that spike to $575 was short-lived — there’s a lot more confidence now in the earnings forecasts now for NVDA, but that’s surely also “in the shares” to a large degree — NVDA now trades at about 50X next year’s earnings, which even for a fabless chipmaker is a lot of money for a company that is probably pretty close to maxing out in terms of economies of scale. They’re not likely to become a dramatically more efficient company from here, so they really have to grow the top line to grow earnings — if they can buy ARM, that’s one more possibility for a growth boost following the nice add-on Mellanox buy that really strengthened their data center business, but 50X forward earnings is steep for a chipmaker. The product launch was impressive, but we didn’t really learn anything new as investors — the next earnings report won’t be until November. I’ll keep holding and letting my dividends reinvest, but won’t be buying more in the $500s — and if the story changes, I’ll keep half an eye on my stop loss price at about $430.”

So what’s the story now? NVIDIA (NVDA) has now finalized its offer to acquire Softank’s ARM Holdings for $40 billion — Arm is the foundational chip design company that Softbank took private for about $31 billion in 2016. This one will probably be fought tooth and nail by Arm’s big customers and by UK regulators, since Arm Holdings is the highest-profile technology company in England and it has always worked with almost all of the big global chipmakers… several of whom are serious NVIDIA competitors.

NVIDIA has promised to keep ARM independent, but Qualcomm and Intel and Samsung and ARM’s other big customers are sure to still be nervous about this base technology owner being under the wing of the fastest-growing competitor in a lot of their core businesses. NVIDIA CEO Jensen Huang is positioning this as the way to push forward with the next wave of “artificial intelligence everywhere,” and I expect it will be a fantastic deal for NVIDIA over the next decade IF they can walk the tightrope between ARM’s nervous customers and the protective inclinations of UK regulators. The market clearly loves this, perhaps because NVIDIA needs a jolt if they’re going to grow enough to justify their current valuation — and the news that a deal had been made sent NVDA shares rising by almost 10% on Monday.

We also saw an analyst upgrade that, for me, really highlighted the “are you serious?” nature of valuations in this market… this is the summary of the note from Briefing.com:

“Needham raises their NVDA tgt to $700 from $600. Analyst Rajvindra Gill added, ‘We are increasing our price target to $700 following NVIDIA’s press conference detailing both the strategic and financial rationale of the Arm acquisition. From a financial perspective, we believe Arm will be accretive, potentially adding $1.20-$1.65 of EPS in CY22, based on our sensitivity analysis. While we will not increase our estimates until we get closer to deal closure, our new price target is based on P/E 52x on CY22 of earnings power of $13.50; $12 for base NVDA + $1.50 for Arm). Strategically, we believe the NVDA-Arm combination will create the leading AI computing platform in the semiconductor industry.'”

Yes, think about that for a moment. This is one of the largest companies in the world, and the largest US chip company now (market cap around $330 billion), being valued by at least one analyst (the most optimistic one, to be fair) at 52X their estimated 2022 profits. Right now, it’s at about 100X trailing GAAP earnings.

I think NVIDIA is an amazing company, hitting on all cylinders again as their data center business has been booming and the surging demand for gaming GPUs has given them a COVID boost… and though I haven’t been willing to buy shares in a long time (to my detriment), I have been holding the stock for years. My long-term optimism comes largely because of the potential I’ve been seeing for real dominance in artificial intelligence (since almost every AI project of the past decade has been done on NVIDIA’s platform, and having all the experts and upcoming students know and use your hardware and software is a huge advantage). I will be more persistent in holding if this deal goes through, I do think the Arm acquisition could really cement their leading position in AI… but I would have a really hard time buying it at these prices. It’s not that it can’t be worth this much and grow into this valuation, it’s that paying this much assumes everything will work out fantastically. Analysts see NVDA growing profits by about 20% next year and earnings by 25% or so — and analysts have several times in recent years dramatically underestimated NVDA’s earnings potential, so that’s the hope, that they’re still underestimating NVIDIA here, and that NVIDIA is able to go through with this Arm acquisition despite what will probably be meaningful opposition.

So no, it’s neither small nor unknown in my book… but I didn’t write this book, and those are squishy terms that a marketer can use however they like.

And there’s a second “Project Xi” stock as well… perhaps this one will be less well-covered? Here are the hints:

“… there’s another company I think will thrive as America brings back its factories.

“You see, autonomous robots must be able to recognize… and then correctly process visual information around them. So they can safely perform critical tasks without human interaction.

“In other words, these machines must be able to “think” and “learn” like humans…

“And one company’s proprietary technology is what makes this possible.

“This small company is the leader in this “machine vision” field.

“Each year, they invest around 15% of their entire revenue into R&D…

“And it’s already paying off:

“Their technology is de-facto standard…

“Apple is one of their biggest customers.

“And early investors in this company are pocketing handsome returns.

“Its stock jumped 324% in less than two years…”

That jump was from about $15 in May of 2016 to about $75 in late 2017… and more recently, he says it recovered from about $30 in the March collapse to back near $75 again recently, with a rough chart that gives us something to match to the Thinkolator’s answers…

So who is it? The stock didn’t actually fall below $30 this year, which makes me think perhaps the scale is off on the charts (they don’t go for accuracy on those so much as for visual impact), but the pattern of the chart perfectly matches Cognex for both the “324% gain in less than two years” back in 2016-2017 and the “58% just in the last few months” from March to July of 2020, so the Thinkolator says this is sure to be the answer — Cognex (CGNX), which I don’t think I’ve ever owned, and haven’t looked at since the Motley Fool Canada folks were teasing it more than four years ago (it’s up 300% since then, so I guess they’re probably pretty happy about that if they still hold).

And yes, Cognex is a leader in machine vision products — built largely on a big linthey describe themselves:

“The world’s leading provider of vision systems, software, sensors, and industrial barcode readers used in manufacturing automation.

“Cognex vision helps companies improve product quality, eliminate production errors, lower manufacturing costs, and exceed consumer expectations for high quality products at an affordable price.Typical applications for machine vision include detecting defects, monitoring production lines, guiding assembly robots, and tracking, sorting and identifying parts.”

And frankly, in going back through some Cognex news to catch myself up on the company, I almost bought shares just because they chose this headline for their second quarter press release: “Cognex Reports Less-Than-Fabulous Results for the Second Quarter of 2020.”

Yes, a company that’s reliant on physical presence for installations and service, and relies on demand from factories that were in many cases closed down for a period of time, would obviously have had a weak quarter… but that kind of honesty in a headline is refreshing.

And true. They reported revenue for the June quarter that was 15% below the year-ago quarter and roughly flat with the first quarter, and they went from a $49 million profit a year ago (28 cents/share) to a loss of $1 million this past quarter — though they did report that if you ignore their restructuring costs and some tax adjustments, their non-CAAP net income for the second quarter would have been 18 cents, down “only” 36% from a year ago.

So it’s a tough year, as we’ve seen across other companies that are exposed to the industrial economy — factories across Asia and the US were in turmoil for the first half of 2020 (and many still are), with shutdowns leading to supply chain confusion and logjams, and it’s not likely to bounce back immediately. But still, the factory automation trend will presumably continue once the world settles back down, whenever that might be… and some of Cognex’s businesses are bouncing back — enough that they are now projecting that they will show year-over-year growth again in the second half of 2020. Here’s the guidance from the press release:

“Cognex expects revenue for Q3-20 will be between $200 million and $220 million. This range represents growth both year-on-year and sequentially due to higher expected revenue from customers in the consumer electronics and logistics markets. However, Cognex is experiencing weak business conditions in its core factory automation market and expects that to continue for some time.”

So if you read between the lines, that’s not at all surprising — iPhone shipments will probably be fine and laptops are flying off the shelf, people are buying electronics, and logistics facilities like Amazon’s package sorting warehouses are certainly still growing fast and need lots of barcode scanners… but factories are not expanding and going full-tilt at the moment, and the auto industry in particular is dramatically slowed and won’t bounce back as quickly (automotive was their largest market last year).

Like many companies that are exposed to Apple, Cognex shares slumped a couple years ago when iPhone sales volumes slumped
— they don’t sell any components into the iPhone itself, as far as I know, but they do sell the precision manufacturing scanners that help make sure iPhones are assembled perfectly. I don’t know whether a really strong iPhone rollout would be of immediate help to Cognex’s bottom line or not, it seems that in July they should have had some idea of what the demand was from Foxconn and Apple’s other suppliers, but it could be that even some strength at Apple might not be enough to make up for weakness in the rest of the industrial world. Apple used to be by far their largest customer, at 20% of revenues back in 2017 and 15% in 2018, but that’s reportedly below 10% now.

Their (adjusted) earnings are expected to be up just slightly over last year when 2020 comes to an end, with about 81 cents per share versus 78 cents a year ago, so the stock is far from cheap — at $65, it’s trading for 80X current year earnings, and 50X forward earnings, which is a lot… even if analysts are right that the bounce-back from this year will lead to earnings growth in the 25-30% neighborhood over the next two years. You can just barely justify that if the analysts are correct about the growth, 50X earnings for 25% growth is near that rule of thumb for “don’t pay more than twice the growth rate”… but, of course, just like us those analysts are making pretty wild guesses about the recovery of the industrial economy, particularly the automotive sector. Cognex is trading at almost as lofty a valuation as NVIDIA.

The sign of hope, I guess, is that they’ve been stagnating a bit since the Apple business started dropping in 2018… revenue has been trending down for two years now, but if analysts are right, then maybe they’ll get back over that revenue hump by next year and start really growing again, so perhaps optimism will pick back up as well. The concern is that at this price you’re assuming that revenue growth will indeed kick back up, but the economic backdrop is one of great uncertainty… so you might easily be wrong. It’s a strong company, with a solid core business and good balance sheet (no debt), but the stock has been bouncing back and forth in a range of roughly $40-65 for three years now, so it wouldn’t be shocking if another bout of pessimism sent it back to the bottom of that range.

There’s a quick look at Cognex from a (free) Motley Fool article here if you’d like another perspective, and their Q2 investor presentation is here (conference call transcript here). An interesting company, and clearly a leader in its field, but not so clearly appealing at this price that I’m personally salivating.

So there you have it, two stocks that play on Brown’s idea of “Project Xi” — Cognex is far more specifically exposed to factory automation specifically, if that’s your interest, though NVIDIA is certainly in a leading position for the rapidly expanding world of artificial intelligence projects. So they’re both leading companies, and they’re both priced like leading companies.

What do you think? Ready for a NVIDIA position? Think it will surge higher still as artificial intelligence demand and GPU gaming demand escalate, or is it already pricing in that rosy future? Will Cognex bounce back quickly, or is it going to wait for the auto factories to ramp up to growth again? Let us know what you think with a comment below.

Disclosure: Of the stocks mentioned above, I currently own shares of NVIDIA, Amazon, Google parent Alphabet, and Apple. I will not trade in any covered stock for at least three days, per Stock Gumshoe’s trading rules.