Reddit Stock Surged on News of Its Artificial Intelligence Bet, but Does That Make It a Worthwhile AI Buy?

AI may or may not turn into a growth driver for the stock.

The long-awaited introduction of Reddit (RDDT 6.83%) stock has given investors another option for social media investing. Its first quarterly earnings release pointed to considerable growth, indicating the stock could become more popular with investors if such increases continue.

However, the stock has attracted attention as it emphasizes using artificial intelligence (AI) to improve productivity. The question for investors is whether AI will make Reddit a more appealing buy or whether the underlying business and its financials need a closer look.

Reddit and artificial intelligence

One reason Reddit stands out is its focus on content generated by people instead of AI models. In other words, it prides itself on being one of the few “uniquely human” places on the internet.

That has not stopped Reddit from leveraging AI. The company uses that technology to help users find communities they will love and help communities enforce rules.

Moreover, AI allows stock-oriented subreddits to include real-time tickers or sports betting subreddits to include live scoreboards. On the advertising front, the technology helps advertisers set up ad campaigns faster.

Additionally, Reddit helps enhance the AI of other companies. In February, it struck a deal with Google parent Alphabet, allowing Alphabet to use Reddit’s data to help train AI models.

The state of the company

Nonetheless, despite the focus on AI, Reddit resembles other social media stocks in that it earns most of its revenue from advertising. In this area, Reddit remains strong, as its $243 million in revenue for the first quarter of 2024 grew 48% versus year-ago levels.

The fastest growth came from the U.S. market, which made up $200 million of its quarterly revenue. The U.S. market grew by 53% yearly, with international revenue up 30%. That bodes well for the company as it capitalizes on opportunities both domestically and internationally.

The income situation offers a mixed picture. The Q1 net losses surged to $575 million versus just $61 million in the same quarter in 2023. Costs and expenses spiked 356% as Reddit increased investment in the company. A spike in stock-based compensation to $578 million versus just $12 million one year ago took these expense categories higher.

However, that meant free cash flow increased dramatically, reaching $29 million in Q1 versus just $4 million in the year-ago quarter.

Investors should also remember that this IPO stock has traded for less than two months as of this writing. Although it reversed its early gains, it sells for well above the $34 per share IPO price set before its March 21 launch.

Reddit stock is so new there is not yet a published price-to-sales (P/S) ratio, though its forward P/S ratio is just over 7. While it is not inexpensive, it remains less costly than other AI stocks whose P/S ratios are well into the double-digits. That could make it cheap enough for many investors to take a chance on the company.

Reddit as an AI investment

Considering Reddit’s technology and market niche, it could become a lucrative investment, though not necessarily for its AI. While it applies AI technology like many other companies, the concept of using AI to improve productivity is not unique to Reddit.

Still, it could prove usual if it uses AI to enhance the human aspect of Reddit that has made the site popular. Moreover, it has grown its revenue at a rapid clip and is cash-flow positive, attributes that could serve it well despite its losses driven by stock-based compensation costs.

Furthermore, the considerable growth of the U.S. and international segments indicates that massive revenue growth will continue. Those revenue increases will likely serve as Reddit’s long-term growth driver over time, though AI will probably give it an extra boost.

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. Will Healy has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Alphabet. The Motley Fool has a disclosure policy.

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