Monday, December 5, 2011


Back in February I warned that "at $25.48 [per share], you might want to consider that it could take NVIDIA [NVDA] a couple of years of outstanding growth to justify this price."

Maybe it is just the stock market and macroeconomic turmoil, but NVDA closed today at $15.48.
What I think about the pricing of a stock is only loosely linked to what I think of a company. As to engineering and execution, I have long believed NVIDIA is one of the best technology companies in the world. As the long-term leader in computer graphics chips (GPUs), however, it is now at a crossroads where the old rules no longer seem to apply. It is a time of both tremendous opportunity and tremendous danger, which makes predicting future profit streams mainly guesswork.

NVIDIA reported fiscal Q3 results and held its analyst conference call on November 10, 2011. Note the quarter ended October 30, so its not a calendar quarter and chips going into consumer products for the holidays pretty much had to be out the door by the end of the quarter. Q4, ending January 30th, is historically a slower quarter for NVIDIA. Note also that rivals AMD and Intel had quarters ending September 30.

Revenues were $1.07 billion, up 5% sequentially from $1.02 billion and up 26% from $840 million in the year-earlier quarter. Net income was $178.3 million, up 18% sequentially from $151.6 million and up 110% from $84.9 million year-earlier. EPS (earnings per share) were $0.29, up 16% sequentially from $0.25 and up 93% from $0.15 year-earlier.

That is pretty strong growth over the past year. However, from a licensing deal and litigation settlement with Intel, NVIDIA got roughly $60 million in royalties it did not get a year earlier (the royalties run about another 5 years). That had some impact on revenue and a huge impact on net income and EPS. It is real money, but it did not come from chips sales.

At this point NVIDIA has two games going. One is in its classic discrete GPU chips, which are now also used as math and application acceleration co-processors. Its only real rival in that market is AMD.

The other is combining its graphics engine with ARM chip designs for mobile devices. That results in a chip called Tegra. The first version was interesting but did not generate much revenue. Tegra II sold a lot better, and has powered a number of smartphones and tablets. Tegra III, or Kal-El, became available in the quarter, so a few devices are available now and it will be widely available in 2012. NVIDIA management did not break out Tegra revenue for the quarter.

The NVIDIA vision is not just to dominate the smart phone and tablet markets. Future versions of Tegra are supposed to be powerful enough to go into notebooks, desktops, and even servers.

The problem with being in the ARM market is that anyone can license the ARM design. Graphics and cell phone connectivity chips and designs are available as well. NVIDIA seems tight with Google, but any ARM-based design can run the Android software.

Competitors each have some advantages. Apple, of course, is the perceived frontrunner. There is no guarantee that the iPhone is ultimately going to be defeated by Android-based phones or less likely competitors.

When it comes to ARM based chips for tablets and phones, each competitor brings some serious advantages to the court. Qualcomm has far more extensive experience in cell phone chips than NVIDIA does; so does Texas Instruments. Among a host of other contenders, Marvell (MRVL) should be noted, since they generate a lot of cash each quarter and have a lead in China, a much bigger market to fight over than the U.S. market. Then there are the Koreans, and Japanese, and numerous small innovators.

Another problem for NVIDIA is the lack of a x86 CPU chip design. AMD and Intel both are incorporating graphics into their base designs, eliminating the need for NVIDIA's GPU chips for most users. This already appears to be hurting them in the notebook segment. It will take some time and at least a couple of die shrinks before the pure GPU chip dies (except in specialty markets), but that time is coming at a fairly predictable clip.

So far profit margins have been good at the leading edge of smartphone and tablet processors, but at some point pricing could become more competitive.

2012 is likely to be a make or break year for NVIDIA. If they are able to dominate the Android phone market they might become the dominant semiconductor company, a position Intel has had for a couple of decades now. Myself, I am not willing to make that bet, but I'll keep a close watch. However, I do believe NVIDIA's price is now pretty reasonable, everything taken into account.

See also my Q3 NVIDIA analyst call summary.

Disclaimer: I have no position in NVIDIA and will not take a position for at least 2 weeks following the publication date of this article.

Keep Diversified!

No comments:

Post a Comment