Artificial Intelligence (AI) Is Moving Beyond Data Centers. 1 Semiconductor Stock to Buy Hand Over Fist Before It Skyrockets Thanks to a Massive Opportunity (Hint: It's Not Nvidia)

The artificial intelligence (AI) trade has thus far been largely restricted to data center infrastructure. Companies selling AI hardware, such as chips, servers, and networking components, have witnessed a remarkable increase in revenue and earnings in recent years.

Nvidia (NASDAQ: NVDA) is one of the biggest examples of how the booming demand for AI data center components has transformed a company's fortunes. Its revenue in fiscal 2023 (which ended in January 2023) was $27 billion. That was just before Nvidia started benefiting from the AI-fueled demand for its graphics processing units (GPUs).

The introduction of ChatGPT in November 2022 gave Nvidia a massive boost, as customers made a beeline for its GPUs to train and deploy AI models. It is now the largest company in the world and is expected to clock a whopping $392 billion revenue in fiscal 2027. That points toward a jump of over 14x in just four years.

AI, however, is now moving from data centers into real-world applications that are closer to users, which require processing at the edge. This explains why Nvidia is looking to capitalize on the growing demand for AI-powered robots, cars, drones, and robotic arms. These physical devices need to run AI workloads locally to make real-time decisions.

Investing in Nvidia stock could help you make the most of this fast-growing niche, especially considering that the company is a pioneer in AI. However, there's a relatively little-known semiconductor company -- Ambarella (NASDAQ: AMBA) -- that's making steady progress in this space.

Let's look at the reasons why the adoption of AI in edge computing devices could be a massive tailwind for this semiconductor stock in the long run.

Image source: Getty Images.

Ambarella has the potential to win big from the growing adoption of AI at the edge

Edge AI applications will expand the productivity gains of this technology. For instance, an AI-capable drone can chart its path and deliver to customers, or a humanoid robot can solve complex tasks and assist humans. Not surprisingly, the size of the edge AI market is anticipated to jump from $25 billion in 2025 to almost $119 billion in 2033, clocking a compound annual growth rate of nearly 22%, according to Grand View Research.

Ambarella is a pure-play edge AI semiconductor company. It primarily designs chips for the automotive and the Internet of Things (IoT) markets. The company noted in its May earnings call that it has shipped more than 46 million edge AI chips so far, and the growing demand for inference and physical AI applications is likely to expand its addressable market at a nice pace in the future.

Importantly, Ambarella now sees customers entering into long-term agreements (LTAs) for multiple generations of its chips. The good part is that Ambarella struck its first LTA last quarter "to develop a semi-custom ASIC for a customer who wants to support a certain complex AI workload." And now, the company has entered into another LTA with South Korean company Hanwha "for the sourcing and co-development of Ambarella's edge AI technology across Hanwha's product lines and industries, including physical security, operational automation, life sciences, robotics and other industry markets."

Ambarella estimates that this new agreement could help it generate more than $800 million in revenue over a decade, adding that it is one of the largest agreements that it has signed in its history. The company is in discussions with additional companies to sign LTAs, suggesting its revenue pipeline is likely to improve further.

Meanwhile, Ambarella is gaining traction in the robotics space, claiming it has more than 15 design wins across 30 customers. In all, Ambarella is well-placed to grow its business at a brisk pace in the long run. The company estimates that its serviceable addressable market (SAM) in edge AI will grow at an annual rate of 18% through fiscal 2031. More importantly, Ambarella believes its revenue during this period will grow faster than the end market.

That's the reason why Ambarella could turn out to be a top AI stock over the long run. In fact, there are already signs that Ambarella is well on its way to making the most of the secular growth of the edge AI market.

The company's healthy growth should translate into solid gains on the stock market

Ambarella released its fiscal 2027 first-quarter results (for the quarter ended April 30) on May 28. Its revenue increased by 17% year over year to $100.4 million. Earnings per share grew at a much stronger pace of 57% to $0.11 per share. The company expects its revenue to increase by 13% year over year in the current quarter to $108 million, based on the midpoint of its guidance range.

However, the design wins and the new agreements Ambarella has been signing indicate it could deliver stronger-than-expected growth. Analysts expect its revenue to grow by 13% in the current fiscal year to $441 million, followed by a gradual pickup going forward.

Data by YCharts

However, if Ambarella lives up to its claim of exceeding the 18% annual growth it expects for its edge AI SAM through fiscal 2031, it could easily beat market expectations. Also, the company has been delivering impressive earnings growth, and the gradual top-line uptick should allow it to sustain that momentum going forward.

Ambarella is trading at 7.2 times sales right now. That's lower than the U.S. technology sector's average price-to-sales ratio of 9.5. Assuming it grows in line with consensus expectations and clocks $579 million in sales in fiscal 2029, its market cap could jump to $5.5 billion (if it trades at the U.S. tech sector's average sales multiple at that time).

That's a potential gain of 85% from current levels, which is why investors looking for the next AI chip winner would do well to take a closer look at Ambarella before it starts soaring.

Harsh Chauhan has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Nvidia. The Motley Fool has a disclosure policy.