Uh Oh: Big AI Circular Deals

So now we have a new wrinkle to add to the “potential AI bubble” thesis: circular deals between AI infra suppliers (chips and compute platforms) and models.

It has been 25 years since that “problem” was evident. But that is a long enough time that new investors will not have lived through the aftermath of a market meltdown such circular deals contributed to creating.

Investors during the dot-com era were burned, in part, by vendor financing and circular deals where firms passed funds back and forth to prop up their businesses. One example was capacity supplier A buying X amount of capacity from carrier B, while B purchased the same amount of capacity from A.

Under “normal” circumstances that is just business as usual, since no single capacity supplier has a network that covers 100 percent of the locations its customers might need to reach.

The problem was simply that both A and B were able to show some “revenue” on their books (capacity sales) that were essentially fictitious. The net impact was zero.

Such “circular deals” now are a feature of artificial intelligence investments. Nvidia’s partnership with OpenAI, wherein Nvidia can invest up to $100 billion in the firm over time, is one example.

So are deals such as the deal between OpenAI, Oracle, and Nvidia to support the "Stargate" data center project.

This deal involves OpenAI securing computing power from Oracle, which in turn purchases billions of dollars worth of Nvidia's AI chips, while Nvidia invests directly in OpenAI.

source: Liberty's Highlights

Most recently, OpenAI struck a partnership with Advanced Micro Devices AMD in which OpenAI gets warrants in AMD’s common shares representing potentially 10-percent ownership of AMD, while OpenAI pledges to buy six gigawatts worth of AMD processors.

Nvidia’s partnership and investment with CoreWeave CRWV also is circular. CoreWeave funded some debt using Nvidia’s GPUs as collateral. Nvidia owns shares of CoreWeave. Nvidia also struck a deal to use any of CoreWeave’s excess capacity through 2032.

The AI circular deals issue creates a potential problem: an artificial ecosystem where large AI firms receive investments from major suppliers, who in turn receive massive orders from the AI firm, masking the true source of demand and inflating stock prices accordingly.

That isn’t to say there is an immediate problem, but the risk increases if revenue growth does not match the valuations currently used to support the deals.