Buy, Hold or Sell: A Deep Dive Into NVIDIA Corp. (NVDA)

California-based chip designer NVIDIA Corporation (NVDA) has had an outstanding 2023. The stock has continuously outperformed the S&P 500 and more than doubled year-to-date.

The company went public on January 22, 1999. However, it was not until the pandemic that the tailwind of crypto mining resulted in a surge in demand for its chips and the stock price. This time around, NVDA is riding the waves of Generative AI and Large Language Models (LLMs) that began with the release of ChatGPT to the general public towards the end of the last year.

NVDA is set to release its financial results for the first quarter of the fiscal year 2024 after the bell on May 24. To understand how the business would fare and how its stock price could be impacted after and beyond the upcoming earnings, let’s understand how the global provider of graphics, computation, and networking solutions has grown from being a major player in the gaming industry to an AI giant.

During the dawn of the PC revolution, NVDA’s founder and CEO, Jensen Huang, realized the emergent applications and demand for accelerated computation on the horizon and designed its first high-performance graphics chip in 1997. However, given the relative scarcity of use cases, the fledgling chip designer chose to bet on visual effects and gaming and struck the jackpot.

In 1999, the company launched what it claims to be the first programmable graphics card, the GeForce 256, and popularized the term, Graphics Processing Unit (GPU). In 2000, the company was the first exclusive graphics provider for Microsoft and Xbox.

Since then, these GPUs have become the mainstay of high-resolution gaming and animation to form the primary business of NVDA and contribute around 80% of its revenue.

Moreover, crypto miners hoarded and bid up these gaming GPUs at the peak of crypto-mania. However, with the onset of crypto winter due to rising interest rates and increased regulation risk, those GPUs flooded back into the market. The resulting oversupply led to a 46% year-over-year decline in gaming revenue.

For the fiscal year that ended January 29, 2023, NVDA’s revenue remained almost flat at $26.97 billion, while its gross profit declined 12.1% year-over-year to $15.36 billion. The company’s non-GAAP operating income decreased 28.8% year-over-year to $9.04 billion during the same period.
Its non-GAAP net income decreased 25.7% and 24.8% year-over-year to $8.37 billion, or $3.34 per share.

However, the company was all in on the next big thing by then. In 2006, NVDA made its foray into parallel (and consequently faster) computing by releasing a software toolkit called CUDA.

Parallel computing was ideal for artificial neural networks' deep (machine) learning. Hence the kit was first used in AlexNet, a revolutionary AI at the time. This set off a chain reaction that has propelled the company to the center stage of the AI boom.

Fast-forward to today, and NVDA is reaping the rewards for its investment in Artificial Intelligence as its A100 chips, powering LLMs like ChatGPT, have become indispensable for Silicon Valley tech giants.

As a result, the accelerated adoption of its A100 chips due to the AI boom NVDA offset the 20.8% year-over-year decline in revenue due to the gaming slump and reported an EPS of $0.88 to beat its earnings expectations in its previous quarterly earnings release.

Near-Term Prospects

Analysts expect NVDA’s revenue and EPS for the first quarter of fiscal 2024 ended April 30, 2023, to decline 21.4% and 32.4% year-over-year to $6.52 billion and $0.92, respectively.

However, given the fact that the stock is currently trading at 68.57x its forward earnings, which is 224.6% above the industry average of 21.13x and above its 50-day and 200-day moving averages, it could take a monumental outperformance to move the needle that has already been raised by high expectations.

Looking Beyond

For fiscal 2024, NVDA’s revenue and EPS are expected to increase by 11.5% and 36.2% year-over-year to $30.07 billion and $4.55, respectively. Both metrics are expected to keep increasing over the next two fiscals.

Beyond gaming and AI, NVDA’s experience has been mixed. In 2010, it made an unsuccessful foray into smartphones with the Tegra line of processors. In 2020, it closed the long-awaited $7 billion deal to acquire data center chip company Mellanox. However, in 2022 it had to abandon its bid to acquire Arm, citing regulatory challenges.

However, there are enough reasons to be excited about the company’s prospects. With NVDA’s presence in data centers, cloud computing, and AI, its chips are making their way into self-driving cars, engines that enable the creation of digital twins with omniverse that could be used to run simulations and train AI algorithms for various applications.

Even its previously unsuccessful Tegra processors have found a new lease of life in logistics robots and driverless cars.

Potential Risks

Other than the risk of backward integration posed by companies such as Apple Inc. (AAPL) and Tesla Inc. (TSLA) designing their own chips, perhaps the only thing that could keep an NVDA investor awake at night is that fact that it is committed to remaining a fabless chip designer to keep capital expenditure low.

Moreover, almost all of the manufacturing has been outsourced to Taiwan Semiconductor Manufacturing Company Ltd. (TSM), which is yet to diversify significantly outside Taiwan.

Bottom Line

Given the stock’s sky-high valuation and bullish prospects amid the background of concentration and geopolitical risks that are in the process of being mitigated, it could be wise to hold on to NVDA and hope for the status quo on the Taiwan Strait, at least over the next two to three years.