NVIDIA: Standing Tall in Semiconductor Purgatory

There’s been no shortage of news and activity surrounding NVIDIA (NVDA), lately. On one hand, the graphics chipmaker has been getting some love in the form of CNBC plugs and the occasional “hey check these guys out” mention. The increased name-dropping is warranted considering that shares have staged a rather sustained (by today’s terms) and impressive rally of over 40% since reaching a low of $5.90 on November 20.

However, we also saw AmTech analyst Doug Freedman reduce his Q4 revenue estimate to $790 million on Monday, which is far below the street estimate of $841. The $790 estimate would be a 12% drop-off sequentially, which doesn’t seem out of place with the guidance coming out of Intel (INTC) and Advanced Micro Devices (AMD) for the current quarter.

There are several important catalysts affecting the share price at the moment:

1. Consumer technology is going to have a terrible holiday season. NVIDIA’s CEO had already accepted this on the Q3 conference call. The areas affected (chipsets, discrete GPUs, gaming consoles) make up more than 60% of revenues.
2. Competition is fierce, coming from AMD and Intel (INTC). There’s plenty of precedent for not being afraid of AMD, and plenty of reasons for NVDA execs to have cold sweats about Intel. That said AMD has been giving NVDA fits all year with lower ASPs for similarly performing graphics cards. It was inevitable that AMD would eventually get some good products out of the ATI acquisition, which had been a worthy competitor to NVDA for many years.
3. The company has newer products based on 55nm that they’re not quite able to sell through yet, due to a clogging of the inventory channel (evidenced by a $90 million increase in Q3).
4. The Apple (AAPL) Relationship - GeForce 9400m chips (GPU architecture) are in the three new Mac Book models. I’ll leave it to the devoted AppleHeads to noodle over how well the MacBooks are selling through this quarter, but all signs point to continued higher growth than the overall PC industry.
5. The introduction of new technologies - Tegra for mobile, Tesla for GPU desktops and “supercomputers.” Are these real? Are these viable? Is there a game-changer here? We won’t find out much until early 2009, but even then, all results will have to be tempered around just how bad the business spending and consumer spending environments are at the time. Intel and AMD both lurk here with competitors, including Intel’s oft-whispered “Larrabee” x86 project.
6. The Fundamentals - my number one driver. Welcome to the world of value stocks with cutting edge technology. While equity fundamentals are almost as unloved as Level-Three bank assets, investors will soon start peeking at tech stocks again, and when they do, they’ll be hard-pressed to find a better blend of balance sheet strength and growth prospects.

On Not Getting Geeked Out…

Look, there’s a fine line to be tiptoed when analyzing a technology think-tank like NVIDIA - especially one that sells primarily to the consumer. I personally don’t use its products, which means I also don’t crack open desktops and run performance tests on new chipsets.

It leads to a lot of crosscurrents on company research; many play the tech/product cycle/performance jump-rope game, but it has much less effect on the stock price than the folks who love to do that stuff would ever admit.

While I look forward to one day standing corrected, I have yet to meet a great tech guru - someone who knew the technology inside and out - who was a great money manager. It just doesn’t happen, maybe because devotion to one thing precludes a distant objectivity to many. At the end of the day, the dollars are all that matters: dollars of revenue, dollars of cash on the balance sheet, dollars of charges on faulty and phased-out products.

GPU is the Key

The battle over GPU versus CPU architecture will likely determine whether NVIDIA plods along with the rest of the tech sector or becomes a ten-bagger over the next decade. NVDA is relatively alone on a one-technology mountain, while Intel and the rest of the world sit on the other. Intel’s side has a lot of nice amenities (think Microsoft support), but NVDA’s side has put up great performance and power consumption benchmarks…so the company says. And most importantly to the long thesis, the upside potential into new markets (operating systems, business software, medical imaging, video games, and mobile devices) should GPU hit a critical mass is obscenely vast.

As for Intel, maybe they will decide to eventually stop fighting NVDA and buy them up, especially if Larrabee falls upon deaf ears in the market. It has over $12 billion in cash and equivalents, so no problem for a $7 billion “cap plus healthy premium” bid for NVIDIA, which currently has a market cap of about $4.5 billion. In another market - one where cash wasn’t so precious a resource - maybe, we see that deal.

Parting Thoughts

NVIDIA is the biggest technology holding in the Secular Trends Portfolio, as the stock seems uniquely suited to benefit from all the secular trends I’ve spoken fondly of in the past. I remain an avoider of nearly everything consumer-focused, but in picking my necessary battles, this company has fantastic value metrics and a strong professional products segment. I’m counting on this segment to keep cash flow going while the GPU-based business builds some traction. The Apple (AAPL) relationship is all-important, and NVDA needs to put aside its typically maverick ways and partner up close; Apple is about the only growth vehicle in all of tech right now.

Disclosure: Author does not hold a position in the companies mentioned; NVDA shares are held in EpiphanyInvesting Secular Trends Portfolio.

Comments

[Phantom Gre...:]

Why would the US DOJ allow Intel to buy NVIDIA? As you point out, there are only 3 big players. I don't think that even the Bush administration would allow something like that. Under Obama: not a chance!

2008 Dec 17 07:48 PM