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NVIDIA Corporation (Nasdaq: NVDA) is a chipmaker that pioneered graphics processing units (GPUs) which act as accelerators for central processing units (CPUs) made by other companies (i.e. fabless) and is the leader in artificial intelligence (AI) chips, but competition is rising.This article analyzes NVIDIA’s strategic positioning within the AI sector and its financial health, as reflected by key indicators. We will examine:
Its relationship to AI within its business operation,
The Company’s current market capitalization,
The impressive YTD stock price appreciation,
A breakdown of NVIDIA’s valuation metrics (see definition of each metric below) consisting of its most recent:
- Forward Price-to-Sales Ratio (PSR),
- Forward Price-to-Earnings (PE) Ratio,
- Forward Price-to-Earnings Growth (PEG) Ratio and
- Enterprise Value-to-Earnings Before Interest Taxes, Depreciation and Amortization (EV/EBITDA) Source.
Please note that the metrics change daily as stock prices change. Stock price and valuation metrics are based on NVDA’s stock price as of the close of business on Monday, November 6, 2023.
NVIDIA: Up 213% YTD
The Company is the leading designer of GPUs required for powerful computer processing and is leveraging its software developed for GPUs to support the development of Quantum Computing.
It has released cuQuantum, a software development kit designed to help software developers build workflows on QC, and is working on a QC software stack, as well as a hybrid QC unit in partnership with start-up Quantum Machines and
It designs the best-in-class graphics card for AI and machine learning processing and compute and networking solutions.
Market Capitalization: $1.11T;
Forward PE Ratio: 41.3 (sector median is 21.8);
Forward PSR: 20.6 (sector median is 2.5);
Forward PEG Ratio: 1.2 (sector median is 1.7)
EV/EBITDA Ratio: 39.6 (sector median is 13.6)
Can NVIDIA Sustain its Growth?
So far in 2023, NVIDIA has experienced a phenomenal surge in both sales and stock market performance, attributing its success to its pivotal role in the ever-expanding AI sector BUT, according to the results of research conducted by Research Affiliates, the investment firm headed by Robert Arnott, it is rare for the largest companies to still be among the largest in a decade’s time.He and fellow researchers focused on the 10 largest-cap companies at the beginning of each decade since 1980 and found that, on average, 8 of those 10 were gone from the top-10 list by the end of that decade. Furthermore, the average 10-year performance of all 10 was significantly below that of the overall U.S. market. (Source)There are several contributing factors accounting for this result, namely:
Overvaluation: It’s almost certain that the largest-cap stocks are, on average, overvalued. They are the largest because they are riding a wave of investor sentiment and enthusiasm.
Competition: In a 2012 study entitled “The Winners Curse,” Arnott and Lillian Wu, also of Research Affiliates, wrote that “When you are #1, you have a bright bull’s-eye painted on your back. Governments and pundits are gunning for you. Competitors and resentful customers are gunning for you. Indeed, in a world of fierce competition and serial witch hunts in the halls of government, that target is probably painted on your front and sides too. In a world that generally roots for the underdog, hardly anyone outside of your own enterprise is cheering for you to rise from world-beating success to still-loftier success.”
Law of diminishing returns: Many of the largest companies are trading on investors’ assumption that they will continue growing at impossibly fast paces, despite already being huge. However, it becomes harder and harder to grow at a fast pace the larger a company becomes. Furthermore, even if one of these mega-cap companies could grow at the necessary pace, which is in itself unlikely, it’s mathematically impossible that all of them will be able to, since that would mean that in several years’ time, they collectively would be bigger than the economy as a whole.
The bottom line is that, regardless of how NVIDIA has performed YTD its long-term prospects are mediocre at best. (Source)Luke Lango points out that, while NVDA stock was the No. 1 AI stock to buy in 2023, he thinks it could turn into the No. 1 AI stock to sell going forward. He reasons that because NVIDIA has benefitted from a huge demand surge in 2023, primarily because Big Tech firms were looking to build new AI models with its GPUs, that surge will prove temporary because those same Big Tech firms that have been fueling the surge are now moving away from NVIDIA to develop their own chips. Source
Analyst Commentaries
According to an October 31 report by the Wall Street Journal, NVDA will likely have $5 billion in orders for its advanced chips to the Chinese market canceled due to newly implemented U.S. regulations that are part of the broader Biden administration’s strategy to limit China’s access to advanced technology, which it believes could enhance China’s military and cyberwarfare capabilities. To offset the impact of the new export controls, NVIDIA has been actively engaged in efforts to distribute its advanced AI computing systems, which utilize graphics chips impacted by the regulations, to customers within the United States and other regions. (Source)According to CNBC’s Jim Cramer, however, the latest U.S. restrictions on AI chip sales in China won’t dethrone NVIDIA as the world’s most valuable semiconductor company but, rather spells trouble for rivals Advanced Micro Devices (AMD) and Intel (INTL) as it will heat up competition in the U.S. market further. (Source)
Financials for FQ2/2024 ended July 30, 2023
(The AI chip leader plans to report its Q3 earnings on Nov. 21, 2023.)
| Non-GAAP |
| ($ in millions, except earnings per share) |
FQ2/2024
|
FQ1/2024 |
FQ2/2023 |
Q/Q |
Y/Y
|
| Revenue |
$13,507
|
$7,192 |
$6,704 |
Up 88% |
Up 101%
|
| Gross margin |
71.2%
|
66.8% |
45.9% |
Up 4.4 pts |
Up 25.3 pts
|
| Operating expenses |
$1,838
|
$1,750 |
$1,749 |
Up 5% |
Up 5%
|
| Operating income |
$7,776
|
$3,052 |
$1,325 |
Up 155% |
Up 487%
|
| Net income |
$6,740
|
$2,713 |
$1,292 |
Up 148% |
Up 422%
|
| Diluted earnings per share |
$2.70
|
$1.09 |
$0.51 |
Up 148% |
Up 429%
|
Outlook for FQ3/2024
Revenue is expected to be $16.0B, plus or minus 2%.
GAAP and non-GAAP gross margins are expected to be 71.5% and 72.5%, respectively, plus or minus 50 basis points.
GAAP and non-GAAP operating expenses are expected to be approximately $2.95B and $2.0B, respectively.
GAAP and non-GAAP other income and expense are expected to be approximately $100M, excluding gains and losses from non-affiliated investments.
GAAP and non-GAAP tax rates are expected to be 14.5%, plus or minus 1%, excluding any discrete items. (source)
Definitions:
The price-to-sales ratio (PSR) describes how much someone must pay to buy one share of a company relative to how much that share generates in revenue for the company. and, as such, determines whether its stock is cheap or overpriced in comparison to its peers. The mean forward sector ratio is considered excellent when the value falls below two (2). The mean forward PSR for Information Technology-Semiconductor companies is 2.5.
The Enterprise Value-to-Earnings Before Interest, Taxes, Depreciation, and Amortization ratio (EV/EBITDA) is one of the best metrics used by value investors to evaluate a company because it accounts for the value of all financing the company has received from both equity stakes and debt allowing investors to compare profitability between companies. A high means the company is overvalued, while a low ratio indicates it’s undervalued. The mean forward EV/EBITDA ratio for Information Technology-Semiconductor companies is 13.6.
The price/earnings to growth ratio (PEG ratio) is considered to be an indicator of a stock’s true value. A PEG lower than 1.0 is best, suggesting that a company is relatively undervalued. The Information Technology-Semiconductor sector median ratio is 1.7.
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