What Led To The Surge In Nvidia’s Stock Price This Year; Why We Believe The Market Over-Reacted

Graphics processor manufacturer Nvidia (NASDAQ:NVDA) has seen a 60% increase in its stock price year to date. While we believe in Nvidia’s strong growth potential, we feel that the surge in the stock price in the last six months might be a bit overplayed.

What Led To The Surge In Nvidia’s Stock Price?

• Strong Q1 2017 Performance: Q1 2017 marked a stellar start for fiscal 2017, with revenue and earnings per share (EPS) beating analyst estimates by a wide margin. Strong performance in the quarter can be attributed to continued growth in gaming, data center, automotive and professional visualization. The company’s Q2 2017 revenue guidance also came in slightly ahead of analyst expectation. (Read Our Q1 2017 Earnings Article)
• Strong Demand For Pascal GPUs: In March 2016, Nvidia introduced its Pascal GPU architecture (built on the 16 nm technology), and the platform offers  massive performance and power efficiency improvement over its predecessor. The company believes that Pascal will enable it to further extend its leadership across its four key growth platforms — Gaming, Professional Visualization, Data Center and Automotive. Nvidia launched the first line-up of Pascal graphics cards (GTX 1080 and 1070) at Computex this summer, and the graphic cards continue to be in short supply and are often sold out or only available at a large premium over suggested retail. ^[1] The general consensus is that the strong demand will lead to a major uplift in Nvidia’s GPU revenue in Q2 2016 and beyond.
• Plex To Run On Shield TV: Last month, Nvidia and Plex announced that the next update to the SHIELD firmware will include a built-in Plex media server. Plex is one of the easiest ways to store, access and enjoy your content (photos, videos, movies, music, etc.) A Plex Media Server runs on a computer which needs to be on for the server to be up and running. Using the Shield as your server means it’s always plugged in and always connected. This could help drive Nvidia Shield sales (Read Nvidia’s Blog For More Info)

Note: We believe that the first two factors are the primary drivers for the uptick in Nvidia’s stock price.

Why We Believe The Market May Have Over-Reacted

While we believe that Nvidia’s revenue base will continue to increase at a strong pace in fiscal 2017, we think that the below mentioned threats can limit the growth potential:

• Competition From AMD’s Upcoming Polaris GPUs: AMD (NYSE:AMD) will soon launch its Polaris GPU, and while the company is slightly behind Nvidia in launching its upgraded GPU architecture, the threat cannot be ignored. Almost on the verge of bankruptcy a year back, AMD has managed to successfully turn around its business. In the past too, the company has managed to bounce back a few times, taking away some GPU market share from Nvidia in the process. At the 2016 Computex last month, AMD claimed that its first Polaris GPU (Radeon RX 480) will be able to deliver a similar performance as a $500 GPU, but at the low price of $199. ^[2] We feel its too soon to celebrate the success (strong demand) of Nvdia’s Pascal GPUs. If AMD manages to deliver on its promise, the launch of Polaris GPUs could potentially lower the demand for Nvidia’s Pascal GPUs.

• End of Licensing Deal With Intel: If rumors on the web are to be believed, then Intel (NASDAQ:INTC) is apparently in talks with AMD to license the latter’s GPU patents, after the former’s cross-licensing deal with Nvidia expires in Q1 2017 (calendar year). This will lower Nvidia’s annual revenue by $264 million (~5% of total revenue).
• Increased Competition From Intel In Deep Learning: Though Intel is the leader in data centers, with a more than 90% market share, Nvidia poses as a big threat for the company. HPC (high-performance computing) and deep learning are revolutionizing data center computing, and Nvidia is at the forefront of the technology. However, Intel recently launched its much anticipated KNL (Knights Landing) version of its Xeon Phi processor, targeting HPC and DNNs (deep neural networks). Intel claims that it can beat Nvidia in Deep Learning by over 2x. ^[3] Intel has already secured orders from over 30 OEMs (other equipment vendors) for around 100,000 KNL processors. Intel has the technological and the financial capability to make a deep foray in the market. Hightened competition from Intel in the deep learning space can slow down Nvidia’s growth in the segment. Nvidia reported a 63% year-over-year increase in its data center business in Q1 2017, and we believe the company will find it difficult to sustain the high growth rate.

Nvidia Is Not Trading Cheap – 

Source: AMD-Yahoo Finance; Semiconductor Industry-http://pages.stern.nyu.edu/~adamodar/New_Home_Page/datafile

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1. Nvidia’s Pascal Will Be A Huge Revenue Boost, Seeking Alpha, July 11, 2016 [↩]
2. Face-Off between Polaris and Pascal GPUs, Market Realist, June 3, 2016 [↩]
3. Is Intel’s Knights Landing Competitive with Nvidia’s GPUs, Market Realist, July 12, 2016 [↩]