Baron High Growth Strategy | Q4 2024

Tesla, Inc. designs, manufactures, and sells fully electric vehicles, related software and components, and solar and energy storage products. The company has contributed positively to our results, with growing investor confidence in Tesla’s promising AI initiatives, its stabilizing financials, and the release of highly anticipated new vehicle models aimed at accelerating growth. Despite macroeconomic challenges, delivery data in key markets like China have shown considerable improvement while the energy segment’s growth remains robust, and the segment’s gross margins reached a record 30%. These factors supported stronger than expected profitability, including a 20% increase in overall gross profits last quarter, reversing a declining year-over-year trend. Tesla is channeling these funds into its AI developments, including autonomous-driving technologies and humanoid robots. During the quarter, the company expanded its cutting-edge computing center in Texas and introduced an enhanced version of its Full Self Driving software, version 13, which has demonstrated significant improvements over earlier iterations. With rapid product innovation and expectations for a favorable regulatory environment under the incoming Trump administration, investors are increasingly optimistic about the accelerated rollout of robotaxi technology. Further, Elon Musk’s recent commentary suggests that Tesla’s humanoid robot start-up business may scale faster than many had anticipated. We continue to believe that Tesla remains the innovation leader in real-world, physical AI, and these developments have only provided further support for our view.

NVIDIA Corporation is a semiconductor and systems company specializing in compute and networking systems for accelerated computing. Its unmatched leadership in AI infrastructure, spanning GPUs, systems, software and networking solutions, continues to drive robust performance. During the quarter, NVIDIA delivered solid results, with record data center revenues amid ongoing demand for its last generation Hopper products, while maintaining a high-confidence outlook for sustained growth in AI infrastructure. Though there are growing debates around the continued buildout of training infrastructure, the advent of reasoning models, which employ chain-of-thought architectures requiring multiple passes through the model, is expected to significantly increase compute intensity in both training and inference. This reinforces our confidence in sustained demand for NVIDIA’s compute infrastructure over the medium term, as both training and inference scaling will require high-performance systems. In multiple public appearances, NVIDIA’s management has reiterated the faster-than-expected ramp of its Blackwell next generation products, despite rumors to the contrary. Moreover, management has confirmed that gross margins should stabilize round the 75% level once Blackwell products are fully scaled, and that future generations (e.g., Rubin) will not face similar margin pressure during ramp-up. NVIDIA’s growing traction in AI networking through Ethernet switches adds another strong pillar to its growth story. The ongoing transition from a chip-only model to a systems and software-driven business further strengthens NVIDIA’s long-term profitability. Given its leadership in AI compute, networking, and systems, combined with a clear line of sight to sustained AI infrastructure demand, we remain confident in holding our position as NVIDIA continues to shape the future of accelerated computing.

Space Exploration Technologies Corp. (SpaceX) is a high-profile private company founded by Elon Musk. Its primary focus is on developing and launching advanced rockets, satellites, and spacecrafts, with the ambitious long-term goal of enabling human colonization of Mars. SpaceX is generating significant value with the rapid expansion of its Starlink broadband service. The company is successfully deploying a vast constellation of Starlink satellites in Earth’s orbit, reporting substantial growth in active users, and regularly deploying new and more efficient hardware technology. Furthermore, SpaceX has established itself as a leading launch provider by offering highly reliable and cost-effective launches, leveraging the company’s reusable launch technology. SpaceX capabilities extend to strategic services such as crewed space flights. Moreover, SpaceX is making tremendous progress on its newest rocket, Starship, which is the largest, most powerful rocket ever flown. This next- generation vehicle represents a significant leap forward in reusability and space exploration capabilities. We value SpaceX using prices of recent financing transactions.

Viking Therapeutics, Inc. is a biotechnology company with a best-in-class GLP-1/GIP in development for the treatment of obesity. Despite disclosing strong oral GLP-1/GIP data in early November at Obesity Week, Viking’s shares fell on the investor concerns that the company is unlikely to be acquired. The question for Viking is whether it can make the capital investments needed to manufacture these peptide drugs at scale as a standalone company. We think Viking’s drugs are worth more as part of a large pharmaceutical company with the capital to invest in manufacturing and sales and marketing at the time of launch. We believe Viking has a very good injectable GLP-1/GIP entering Phase 3 trials next year and capturing even a small percentage share of the market would drive significant upside.

Rocket Pharmaceuticals, Inc. develops gene therapies for rare diseases. As discussed below, we exited our position during the quarter.

Microsoft Corporation is the world’s largest software and cloud computing company. Microsoft was traditionally known for its Windows and Office products, but over the last five years it has built a $150 billion run-rate cloud business, including its Azure cloud infrastructure service and its Office 365 and Dynamics 365 cloud-delivered applications. Shares gave back some gains from strong performance over the first half of 2024. For the first quarter of fiscal year 2025, Microsoft reported a solid quarter with total revenue growing 16%, about 2% ahead of the Street. The outperformance was driven by stable performance across several segments, but most of the upside came from the More Personal Computing segment as both gaming and search exceeded guidance. Azure reported growth was about 1% ahead of expectations, up 34%, including 12 points of growth from AI-related services; Microsoft Cloud grew 22%; and the total business delivered 47% operating income margins and 29% free cash flow margins. The company reiterated its fiscal 2025 targets of double-digit top-line and operating income growth. Over the short term, however, Microsoft continues to work through supply constraints around AI infrastructure capacity, which is capping Azure growth and causing it to be stable but not yet accelerating. This has disappointed the Street and impacted recent trading in Microsoft’s stock. We expect Azure growth to reaccelerate in the second half of the fiscal year as these supply constraints ease. We also believe Microsoft’s AI application business will benefit from Microsoft 365 adoption, as more proof-of-concepts move into production. We remain confident that Microsoft is well positioned across the overlapping software, cloud computing, and AI landscapes.

This quarter, we initiated a position in Arista Networks, Inc., a leading provider of high-performance networking solutions for data centers, cloud providers, and enterprises. Arista’s advanced switching and routing platforms, powered by its proprietary software, offer enhanced scalability, automation, and flexibility. The company generates revenue through hardware sales bundled with software and post-contract support services, serving major cloud players like Microsoft and Meta, along with a growing range of enterprise customers.

The buildout of AI infrastructure is significantly more network-intensive than conventional data centers, as large numbers of compute systems need to interact with each other via backend networking switches. Additionally, these systems must connect to end users, similar to traditional data centers, creating a front-end networking opportunity. This dual requirement – backend for compute communication and frontend for user connectivity – creates a massive opportunity for networking solutions. Historically, the industry relied on InfiniBand networking exclusively provided by NVIDIA until 2024. However, a shift toward Ethernet-based networking is now underway. Arista, as the leading systems provider for complex networking workloads in traditional data centers at Microsoft and Meta, is well positioned to capitalize on this transition. Furthermore, as AI clusters expand, the complexity and dollar intensity of networking grows non-linearly, implying faster growth than compute components.

The key debate surrounding Arista is its AI-driven revenue potential in 2025. Our proprietary bottom-up analysis – factoring in AI chip shipments, backend networking for model training, and frontend infrastructure for user connectivity – suggests significant upside to current guidance and Street expectations. Beyond AI, Arista is poised to gain market share in the broader enterprise segment, taking business from larger incumbents. With its leadership in Ethernet switching and best-in-class software, Arista is well positioned to benefit from secular growth trends and long-term tailwinds, offering a compelling runway for revenue expansion and healthy stock returns.

In the most recent quarter, we initiated a position in LPL Financial Holdings Inc. LPL is the largest independent broker-dealer (IBD) in the U.S. and supports independent financial advisors who run their own practices. LPL is a beneficiary of secular growth in the demand for financial advice, and a shift among financial advisors away from large banks (also known as wirehouses) towards independent models. As the largest IBD, LPL is well placed to continue taking share in this market, as it can offer advisors high- quality technology, a range of business models, and best-in-class incentives. Additionally, LPL is a beneficiary of higher interest rates because it earns a yield on the uninvested cash balances held in client accounts, although it runs a capital-light business.

LPL’s turnkey platform helps independent financial advisors run their practices more efficiently and serve their clients more effectively. Traditionally, most financial advisors worked as employees of wirehouses but over time, advisors have begun to favor independent models in which they become the owner-operator of their own advisory practice. Advisors are favoring this independence as it allows them to both retain far more of the revenue they generate and affords them greater flexibility over how to run their business. LPL is also winning with independent advisors at other IBDs, which are smaller and less able to invest in the capabilities that LPL is developing. LPL invests more than its competitors in developing the technology and capabilities that allow advisors to run their practices efficiently. This technology helps simplify and consolidate mission-critical functions such as account opening, client relationship management, trading and portfolio rebalancing, and reporting. Beyond technology, LPL has innovated a range of different advisor models that allow the advisor to outsource as much of their practice operations as they choose. This provides advisors with a high degree of flexibility as they make the transition to independence and means that LPL can position itself as an attractive IBD to a wide range of advisors.

The combination of these benefits enables LPL to continue taking share and recruiting more assets onto its platform. Over time, the company has improved its organic growth rate of Net New Assets from 2% to 5% to 7% to 10%. Besides asset recruitment, LPL is also a beneficiary of rising asset prices, which grow its base of assets under management. We believe that low teens asset growth can generate similar growth in gross profit, while improving margins and significant share repurchases contribute to earnings per share growth at a mid-high teens rate for an extended period.

Inari Medical, Inc. offers catheter-based devices to remove clots from venous thromboembolism (VTE). VTE is a disease state that manifests as deep vein thrombosis (DVT), in which a clot cuts off blood flow in a deep vein (usually in the leg), and as pulmonary embolism (PE), when the clot in the leg breaks off and circulates to lodge in the blood vessels that supply the lungs. VTE is the third most common vascular condition in the U.S. after heart attacks and strokes, and if left untreated can be fatal. Inari’s devices are differentiated in that they are specially tailored to venous biology and effectively remove clots without the side effects of alternatives like thrombolytic drugs, which can cause severe bleeding. We invested in Inari during the quarter because we believed the company was attacking a large, unpenetrated addressable opportunity of more than $6 billion, and that the VTE treatment space was still in the very early days of converting to device- based interventions. While we intended to be long-term investors, Stryker, a global leader in medical technologies, apparently agreed with our theses that the VTE space was ripe for disruption and announced its intent to acquire Inari for $80 per share in early January.

This quarter, we initiated a position in CyberArk Software Ltd., an identity security platform that focuses primarily on privileged access management (PAM). CyberArk’s technology prevents bad actors from stealing and exploiting the credentials of “superuser” accounts like IT administrators, cybersecurity managers, and network administrators. CyberArk detects, stores, and manages all the privileged credentials in an organization, monitors the critical IT systems, and helps contain the damage a hacker can cause if they breach a corporate network. The increasing frequency and severity of ransomware attacks, heightening geopolitical tension, and stricter regulatory disclosure requirements for public companies that experience breaches have all made PAM a higher priority IT spend category. CyberArk is the market leader in the PAM sector, with over 25% share. The company also recently closed its acquisition of Venafi, an identity security vendor that helps companies secure machine identities, such as digital certificates and SSH keys, that facilitate computer-to-computer communication. The deal, which is accretive to CyberArk’s already healthy margins, makes CyberArk the most comprehensive identity solution in the market and expands the cross-sell opportunity. We see a long runway for organic growth, cross-sell synergy, and margin expansion, all of which should enable free cash flow per share to compound at an attractive rate and bode well for the stock.

During the fourth quarter we invested in X.AI Corp., which was founded by Elon Musk and has emerged as an up-and-coming investment opportunity in the rapidly evolving AI landscape. The company’s recent multi-billion dollar fundraising round aims to fuel its ambitious goal of developing AI “to understand the true nature of the universe.” X.AI started pursuing AI development years after major players like Google and OpenAI. But in the short period since its inception, X.AI has developed and launched its first AI model and product, Grok, and its successor, Grok 2, which has produced impressive benchmark results compared to models from its more established competitors. X.AI is currently developing its next version, Grok 3. These impressive early efforts and results showcase X.AI’s ability to rapidly develop sophisticated models with relatively lean resources. The recent funding is expected to further support its innovation and monetization efforts by enabling access to more computational power and further attracting top talent.

The company’s leadership is a significant asset. Elon’s track record in AI development spans many years, including autonomous driving AI model, software, and hardware capabilities at Tesla; deploying AI to improve X.com’s (formerly Twitter) functionality; and even co-founding OpenAI. Across his other business engagements, Elon has demonstrated his unique leadership and track record of driving tremendous innovation in complex environments. The X.AI founding team also includes key figures from OpenAI, Google’s DeepMind, Tesla, Microsoft, and Meta.

Beyond its team, X.AI’s competitive edge stems from several other factors such as data access, computation power and ability to execute complex engineering challenges, software and hardware integration, and distribution opportunities. X.AI has unique access to X.com’s data, representing one of the largest growing repositories of real-time, multimodal, diverse, human-to-human interaction data sets available in the world today. About 600 million people use X.com monthly. Users spend over 361.9 billion seconds and watch over 8 billion videos a day on the platform. As the company grows, it’s likely to broaden its access to other valuable data assets.

On the computational front, X.AI recently deployed the largest, highest density compute clusters in the world, operationalizing 100,000 NVIDIA H-100 GPUs in only 122 days and starting to run training workloads just 19 days after the first servers were delivered. Jensen Huang, NVIDIA’s CEO, publicly proclaimed “there’s only one person in the world who can do this and that’s Elon.” Elon and the X.AI team plan to build an even larger accelerated-compute cluster, with a goal of 300,000 GPUs, by summer of 2025.

Distribution opportunities for X.AI are also substantial. The company’s collaboration with X.com provides immediate access to hundreds of millions of users, offering a valuable user base early in its development. Additionally, X.AI is well positioned to explore more traditional distribution channels, including business-to-business integrations and dedicated standalone consumer solutions, which should benefit from Elon’s reach.

Although these are still relatively early days for AI, we are confident in the disruptive potential and value creation opportunities that lie ahead. X.AI’s focused strategy, formidable talent, and innovative approach position it as a potentially significant player in shaping the future of AI. As AI continues to reshape industries and create new market opportunities, X.AI can benefit substantially in the coming years and decades.