The share price of Nvidia (NASDAQ:NVDA) has gone up by 19% since early February, compared to a 6% return for S&P 500 Index. It is now trading near its 52-week high at $19.05. Given the company's healthy fundamentals, robust growth opportunities, and inexpensive valuation, I believe there remains a significant room for price appreciation.
In 2013, Nvidia's PC GPU business significantly outperformed the PC market, as the company's GPU revenue grew by 7% year-on-year, compared to a 10% decline in PC shipment. Management noted that the strong result was primarily driven by the company's high-end GPU business. This suggests that resiliency of the high-end GPU market remains solid amid the tablets' cannibalizing trend. I believe many investors' view that Nvidia is a PC company that would face significant headwinds from mobile devices is inappropriate; the stock's current valuation does not appear to reflect that.
Looking forward, I believe the following positive catalysts to continue driving a meaningful price upside:
- The company's GRID trials in Q4 2014 increased by 46% sequentially, up from a growth rate of 40% in Q3 2014. Management suggested that the GRID business continued to experience strong momentum with hundreds of customers currently evaluating the technology. Given management's estimated total addressable market value of $10B for GRID and the current momentum, I view this business to be a long-term growth driver for Nvidia going forward.
- The Tegra business is also on a strong momentum as the segment revenue grew by 18% sequentially in Q4 2014, driven by increased shipments for mobile devices. At CES in January, the company highlighted its next-generation Tegra K1. Management also noted that Tegra 4i was certified by AT&T (NYSE:T) and Vodafone (NASDAQ:VOD) in Q4 and expected product announcements in the first half of F2015. It is believed that these new product ramp-up should drive material growth for this segment in near term.
- In addition, the Tegra automotive business grew 60% year-on-year in Q4. Management noted a Tegra K1 design win with Audi in the quarter and expected that the company is well positioned to make additional design wins in F2015.
Driven by solid cash generation (and a convertible debt issuance in Q4 2014), Nvidia's cash balance has steadily increased from $0.7B to $4.7B over the past 10 fiscal years (see chart below), and the company's current net cash of $3.3B represents approximately 32% of market capitalization. The company repurchased $37M shares in Q4 2014 and reiterated their target to return $1B to shareholder through both dividend and share buyback in F2015, which is almost 10% of the current market capitalization. It is expected the shareholder-friendly policy should somewhat mitigate downside price risk.
On the valuation front, despite the recent run-up, the stock's 2015 forward P/E multiple of 16.2x is just 3% above the same multiple of S&P 500 Index at 15.7x (see chart below).
Given that 1) the valuation premium averaged at 3% in the past 12 months; 2) Nvidia's consensus long-term earnings growth rate at 11.1% exceeds the average estimate of 9.5% for S&P 500 companies; and 3) the stock offers a 1.8% dividend yield, which is comparable to S&P 500's average at 1.9%, I view the stock's current relative valuation to be inexpensive. Factoring in the long-term earnings growth potential, Nvidia trades at 1.5x PEG, which is at 12% discount to S&P 500's PEG of 1.7x.
In summary, given Nvidia's solid PC business and its promising growth prospects driven by Tegra and GRID ramp-up, the current inexpensive valuation alongside management's capital return plan should suggest a favorable risk-reward trade. The stock is a buy at this level.
All charts are created by the author and data used in the article and the charts is sourced from S&P Capital IQ, unless otherwise specified.