Nvidia (NVDA) is a terrific Company. The Company’s CEO, Jen-Hsun Huang, in our view, rates to be one of the most effective CEOs in high tech industry. But, a solid company with a great CEO does not make for a sound investment if the stock price is in the stratosphere.
In the recent past, NVDA has been a story stock with analysts falling all over themselves to paint increasingly rosier prospects for the Company. However, we believe the Nvidia investment thesis is stretched pretty thin with the onset of potent competition.
CNBC Story Raises Flags
To be sure, there has been a bit of controversy about the story and CNBC amended the initial story since it originally reported it on Wednesday. While the initial story indicated that Tesla was a customer of Globalfoundries, that no longer appears to be the case. When the dust settled, a close reading of the publicly available information boils down the narrative to the following items:
- CNBC source suggests that Tesla has already gotten first silicon on its AI chip and the unit is currently undergoing testing.
- Tesla is in an IP deal with AMD for the AI chip development
It has been long known that Tesla was working on its own silicon so the former news item is akin to a project status update. However, it is the latter item that has the market excited and has taken a toll on Nvidia stock.
Sizing The Potential Lost Opportunity
While we have no details on the deal, the rumored deal could have some or all of the following components:
- AMD may be doing a semicustom design for Tesla.
- AMD may have licensed its GPGPU technology, very likely Vega or a variant, to Tesla.
- AMD may have licensed its Infinity Fabric interconnect technology to Tesla to enable Tesla chips to connect with other Tesla or AMD chips.
If Tesla apparently is already testing the silicon, it is possible that Tesla may be able to ramp this chip starting mid-2018. Assuming that Tesla can use AMD IP starting mid-2018, the worst case sales hit for Nvidia for 2018 may be a loss of 150,000 units of what otherwise would have been Nvidia business. 2019 sales hit could be 300 or 400 thousand units or higher. Over the lifetime of the chip, it is conceivable that Nvidia will lose the opportunity to sell a million Dive PX type units to Tesla (assuming Tesla is in business that long).
At a million units, assuming ASP per unit between $100 to $200, the range on potential revenue contribution from this project to Nvidia could have been in the range of $100M to $200M. Sizeable, but, not a material hit to Nvidia.
The Impact Goes Farther Than Tesla
It is never a good thing to lose a large high profile customer and there can be a massive reputational loss to Nvidia here. Any deal with Tesla is likely to offer AMD:
- Significant reputational benefit to AMD for winning a socket against Nvidia.
- A validation of AMD’s GPGPU IP. Vote of confidence from a high profile name in the auto industry may bring positive tidings to AMD such as design wins at other auto manufacturers.
- A perception among customers that switching from Nvidia to AMD could be economical and not that difficult.
In other words, while the immediate opportunity loss may be limited, an AMD win at Tesla can be a harbinger of bad news ahead for Nvidia.
Whether the CNBC story turns out to be true or not, we continue to believe that AMD will now increasingly take market share from Nvidia. As such, in spite of teething problems, we believe that AMD has now become competitive with Nvidia in the GPGPU space. Also, when coupled with the strong Epyc server platform, we expect AMD to continue to start taking share from Nvidia.
The potential for market share loss does not stop with AMD. Nvidia also faces challenges from new entrants in the space. In addition to semiconductor players such as Intel, verticals such as Google (GOOG) (NASDAQ:GOOGL) and Apple (AAPL) building their own solutions, there has also been a massive VC investment boom in the machine learning semiconductor space.
The VC gold rush speaks to the attractiveness of emerging artificial intelligence and machine learning applications. Each and every company in the space are attempting to find superior solutions for high volume applications. It is impossible for Nvidia to defend its turf in an increasingly diverse application space. With billions of dollars invested, it is fair to say that some of the emerging chip companies will carve out pieces of the machine learning market from Nvidia.
Stock Reaction & Implications
Nvidia stock fell about $6 or over 3% since the CNBC story broke on Wednesday. The stock reaction demonstrates the jitteriness of Nvidia investors to competitive news.
The Nvidia storybook valuation is built on the Company having an unassailable lead over competition and a strong moat in software infrastructure such as CUDA. This potential loss of Tesla socket to AMD shows that this moat may be overrated. This loss, if it checks out, will show that the boosters’ claims about the barrier to entry for competition in the ML/AI space, especially against GPGPU peer AMD, are overstated. Over the coming months and quarters, we can expect AMD, Intel (INTC), and several chip startups to make significant headway in a market that Nvidia currently owns.
We believe this is the new reality for Nvidia. From now on, we expect a steady drum beat of competition winning sockets in the artificial intelligence and machine learning space. And, with each such competitor win, the shine on Nvidia's story will reduce a bit until one day when the story fails to resonate.
From a quarterly results viewpoint, we continue to expect Nvidia growth to moderate substantially within the next couple of quarters.
We believe Nvidia, while a great company, is at a significant risk of valuation compression.
Our view of Nvidia: Sell.
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Disclosure: I am/we are long AMD, GOOG, GOOGL.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: Long INTC puts