Every time Nvidia (NASDAQ:NVDA) drops below $12 (and often below $13), I'm usually out here telling you all that the company's shares are a long term steal. Of course, this hasn't been a particularly popular call with some of my readers as it seemed that the stock was "dead money" for quite some time. The nice thing about fundamentally solid stocks that are "dead money" is that you have plenty of time to accumulate, reinvest dividends, and so on until the rest of the market sees what you see. Nvidia's finally getting some love from Wall Street, and I believe that my $20 price target will become a reality sooner rather than later.
Gross Margins: Anything But Gross
Nvidia really pulled a fast one on us. In the prior quarter, Nvidia guided for gross margins in the 52% range. What did we get? Record margins of 54.3%! This is absolutely wonderful as it validates my thesis that Nvidia's decisions to focus on lean-and-mean die sizes in the gaming GPU segment (by not including mostly-worthless double precision hardware for gamers that would never use it), coupled with a clear strategy for capturing the lion's share of the notebook discrete graphics market, would lead to strong profitability.
Now, I think that some of the gross margin increase for Q1 and for the Q2 guide is due to the fact that the sub-54% gross margin "Tegra" business will fall off during these two quarters as the company transitions to the new "Tegra 4" product in the back half of the year. Further, as the enterprise/workstation segment recovers thanks to both a secular improvement as well as a strong product refresh, the gross margin impact from these products should be highly positive. It will be interesting to see how an overall revenue mix shift towards Tegra again in the back half is offset by continued growth in Quadro/HPC and even the upcoming "GeForce 700" launches. The bottom line though is that Nvidia delivered spectacularly.
Market Share Gains
I was a little worried that with Advanced Micro Devices (NYSE:AMD) aggressively giving away games with its graphics cards that market share would aggressively shift in AMD's favor. This turned out to not be the case, as Nvidia's record revenues were driven by strength in GeForce as well as the professional GPUs. While AMD must be taking a rather sizable margin hit to bundle these games, Nvidia sells much smaller die, has a stronger brand, and probably significantly better relations with the OEMs that ship with discrete GPUs, offsetting the potential share shift that may have occurred in the high end add-in-board market.
I don't think that AMD winning the game consoles will materially affect Nvidia's relationship with game developers, especially as Nvidia has very close ties with Epic Games - the studio responsible for the Unreal Engine that the majority of modern titles from a wide swath of studios utilize in this day and age. AMD owned the Xbox 360, but that didn't really hurt Nvidia, did it?
Nvidia unleashed a beast at its analyst day, committing to return >$1B in cash during FY2014 via dividends and share repurchases. Nvidia, long dogged for having more cash than it needed as well as essentially no shareholder friendly capital allocation strategy, has done a complete 180 and has now become a pretty solid example of a shareholder friendly semiconductor company. With the company explicitly stating that the use of cash to buy back shares at these levels was a particularly attractive use of capital, I find it very difficult to understand some of the bears' arguments.
Discrete GPUs Aren't Dead...Or Dying
There are two types of people: those who "get it" and those who "don't get it". Gamers don't want integrated GPUs. Why? Because no matter how "good" an integrated GPU from AMD or Intel (NASDAQ:INTC) is, there will always be more performance to be had from a discrete solution, especially an efficient, well designed, and much more compatible one.
Games are moving targets. While CPU performance improvements have become largely unnoticeable for the average PC user, games are always becoming more realistic, and as a result require more horsepower. Even with the puny Xbox 360 and PS3 as baselines for current generation games, you can still find games that - with the settings cranked really high - bring the latest Nvidia Titan ($1000 discrete GPU) to its knees. When the bar gets raised again with the new game consoles, gamers will demand even more powerful GPUs for their PCs as games begin to push the envelope once more.
Discrete GPUs don't "die" (or even come close) until an on-die Intel GPU can photorealistically render the world. Until that happens, discrete GPUs are here to stay.
Nvidia knocked it out of the park this quarter, and I think that the second half of the year should be even better, with 2014 really hammering home the long thesis. The stock may be overbought now, but on a pullback/market correction, this name needs to be on your shopping list. It's a shareholder friendly, essentially debt free, leader in graphics technology. The value of the patents, designs, and other IP alone are probably worth more than the entirety of Nvidia's market capitalization of ~$9B today. Just something to consider!