GREG AND ALL, a new tech stock to consider: NVDA. From 27 to 87 since Jan. I don't know what to think but it might be worth keeping an eye on.
aNY thoughts? jhg
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RED HERRING ARTICLE:
By J.P. Vicente
Red Herring
April 30, 2001
In the early '90s, the graphic chip market was fertile ground for new technologies to sprout and startups to blossom. But computer graphics then were mostly 2D. Fast-forward a few years, and the arrival of 3D graphic chips -- far more complex to design and a lot more expensive to develop -- has changed the landscape by raising barriers to entry and triggering a consolidation spree.
As the number of players shrank, two companies emerged as pure-play giants in the 3D graphic semiconductor world: Nvidia (Nasdaq: NVDA) in Santa Clara, California, and ATI Technologies (Nasdaq: ATYT) in Thornhill, Ontario. The firms are fierce competitors in pretty much every market in which they operate -- desktop PCs, laptops, and game consoles. But of the two, we believe that Nvidia -- which recently clinched some key partnerships that might help it steer clear of the current slump in PC sales -- is the best investment option and an 800-pound gorilla in the making.
What's Nvidia's formula for success? In a word: execution. The firm has gained market share by consistently meeting deadlines and delivering new, groundbreaking products ahead of the competition. On top of that, Nvidia's cofounder, president, and CEO, Jen-Hsun Huang, is suddenly a master of closing deals that minimize the company's exposure to the maturing PC market and increase its exposure to hot, high-growth markets. (See "Chips: Nvidia delivers reality to your desktop," April 1.) While last year Nvidia had more than 90 percent of its sales tied to the PC market, that figure is expected to fall to 55 percent this year. Nvidia will provide two key chips for Microsoft's (Nasdaq: MSFT) new game console, the Xbox, slated to appear in the fall.
Given Nvidia's solid execution since going public in 1999 -- it beat Wall Street estimates by a penny in the latest quarter -- and its involvement with the Xbox, analysts polled in February by research firm First Call/Thomson Financial raised earnings forecasts by 5 percent. They now expect Nvidia to earn $1.72 per share in fiscal 2002, which ends in January, and $2.23 in fiscal 2003. Those results, if met, translate into growth rates of 37 percent in 2002 and 30 percent in 2003.
While Nvidia's stock isn't cheap, its valuation isn't outrageous, either. On March 9, shares closed at $50.06, up 52.8 percent for the year, giving it a market cap of $3.3 billion and a forward price/earnings ratio of 29.2. Its trailing price-to-sales ratio was 4.5. That seems to us like a reasonable valuation for the dominant maker of 3D chips. Michael Kim, an analyst at research and investment firm Sutro & Company, agrees. He has a 12-month price target of $100 for the stock, based on his discount valuation model.
In sharp contrast to Nvidia's growing earnings and widening market share, ATI has warned investors twice this year about declining sales and profits. Fingering the PC sales slowdown as the major culprit, ATI now expects to post a loss of between 11 and 13 cents a share in its second fiscal quarter, which ended in February.
Besides the downturn in the PC market, analysts say ATI has hurt its own cause with a string of product delays. And its partnerships aren't as impressive as Nvidia's. For instance, it provides chips for the Nintendo game console, which many believe Microsoft's Xbox will eclipse. These factors, combined with the hard-charging Nvidia, have conspired to nibble away at ATI's market share. Significantly, the company lost its exclusive contract late last year to provide graphic chips to Apple Computer (Nasdaq: AAPL). Nvidia will now place its chips into Apple's new line of Power Macs.
ATI's stock plunged 29.3 percent, closing at $4.06 on March 9, and could start attracting investor interest because it trades at such a steep discount to Nvidia. ATI had a market capitalization of $837 million as of March 9. Its trailing price-to-sales ratio was a modest 0.64. We believe, however, that ATI trades at this discount for good reason, and we don't recommend buying it. ATI might not be out of the graphic chip game, but it's clearly Nvidia's to lose.
Write to jp.vicente@redherring.com.
PLUS
How Long Can Nvidia Defy Gravity?
By Jay Somaney
Originally posted at 10:32 AM ET 3/27/01 on RealMoney.com
Is Nvidia (NVDA:Nasdaq - news) the new darling on the Street? Judging by the performance of its stock and recent analyst comments, it almost certainly is. Everyone seems to be in love with Nvidia. Institutions have been buying, analysts have been upgrading and the stock has held terrifically through this horrendous tech downturn.
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What's the secret sauce? Nvidia designs, develops and markets 3-D graphics processors and related software. Its 3-D processors are used in a wide variety of applications including games, various industrial applications and the Internet. Almost every major original equipment PC manufacturer is on Nvidia's roster of clients.
So what is the problem? Why am I writing about a company that at first glance seems to be humming along on all cylinders? The trouble is our old friend, market capitalization -- especially given the uncertain economic environment. And not just domestically, but globally.
The company's shares bottomed in December 2000 around $28, and since then have skyrocketed upward. They closed at $67 yesterday, giving Nvidia a market capitalization of $4.6 billion.
Nvidia Nirvana?
It's avoided the Nasdaq woes, but how long can it keep it up?
For the year ended Jan. 28, 2001, Nvidia reported very strong results of $100 million in net income on revenue of $735 million. Therefore, Nvidia trades at approximately 46 times its trailing 12 months earnings, and 7.3 times its revenue for the past 12 months. In a different time, and in a different macro and micro economic environment -- like we saw in 1999 and early 2000 -- we would not give these valuations a second glance. However, in current times, it's a definite yellow light if not an outright red one.
What's Ahead
Analysts are expecting revenue of $1.1 billion and earnings per share of $1.75 for the year ending January 2002. That would still gives us a price-to-earnings multiple of around 35, and a price-to-market-cap multiple of 4.3. However, these numbers assume that Nvidia will continue to meet and beat estimates, and in doing so will feel absolutely no effects of the global slowdown in IT spending -- unlike every other technology company around.
For the quarter ended Oct. 29, 2000 (that's the latest available, as Nvidia has yet to file its 10K), approximately 7% of the company's revenue was from the U.S., and 13% was from Europe. That means approximately 80% comes from the Asia-Pacific region -- making Nvidia very dependent on robust sales in that part of the world. In fact, the U.S. portion of its revenue has been on a downward trend for quite some time now, as the company and its ultimate customers, the OEM boxmakers, all have significant outsourced operations in the Pacific-Rim region.
Also, another important factor to be considered is that as of the quarter ended Oct. 29, 2000, four customers accounted for roughly 56% of its total revenue, making Nvidia particularly dependent on these four customers.
A major portion of the company's rich valuation could be due to its agreement to provide Microsoft with graphic chips and technology for use in Mr. Softee's new Xbox video game console currently under development. Softee is expected to bring the Xbox console to market in the final quarter of the year.
In summation, Nvidia has an excellent product with killer applications. But at this valuation level and in these uncertain times, I would not be on the long side of this trade.
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Jay M. Somaney is the portfolio manager of the TSG Tech Fund, a hedge fund focused on the shares of companies involved in the Internet and related technology. At the time of publication, neither Somaney nor the TSG Tech Fund held positions in any securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Somaney appreciates your feedback and invites you to send any to rheas1@msn.com.
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