No Room for Error Nvidia - NVDA
The winds that propelled fast-growing Nvidia will soon be blowing against it
By Eric J. Savitz
The magic at Nvidia is wearing off. After a wondrous 2001, in which it outran
the 499 other stocks in the Standard & Poor's 500, gaining 308%, the
chipmaker's stock has skidded 34% this year, pressured by a Securities and
Exchange Commission accounting probe. But for Nvidia, which makes
high-speed graphics chips, regulatory woes are the least of the problem.
Over the past four years, Nvidia has grown dramatically, with revenues rising
10,000%, to $1.37 billion in the fiscal year that ended Jan. 31. But the Santa
Clara, Calif.-based company, which sells its chips to PC makers and others,
now appears to be on the wrong side of a shift in trends in the graphics-chip
sector.
Key competitors, including
Intel and ATI
Technologies, have
repositioned themselves to
recapture lost market
share. Nvidia, on the other
hand, has failed to secure a
key Intel product license,
shutting it out from a big
slice of the market for
graphics chips used in
personal computers
powered by Intel's Pentium
4 microprocessors.
What's more, the end is
near for the so-called P4 bubble, which has given an artificial boost to Nvidia's
revenues.
Despite a sharp drop in Nvidia's share price, to 44.36 at Thursday's close from
72 in January, the company still sports a stock-market value of $6.4 billion --
almost as large as the $8 billion global market for graphics chips. Even Merrill
Lynch's Joe Osha, a bull on the stock, conceded in a recent report that Nvidia
finds itself with "not much room for error."
Last year Nvidia and its co-founder and chief executive, Jen-Hsun Huang,
made no errors. While global chip sales shrank 30% and tech shares sagged,
Nvidia thrived. One reason: Microsoft's decision to use its graphics chips in the
Xbox game console, launched late last year. Nvidia says 17% of its revenue
came from Xbox in the latest quarter; this year it expects Xbox to account for
20% of revenues, or roughly $500 million.
Nvidia was also a prime beneficiary of a two-step evolution in the graphics
business. Graphics processors, which can be found in every PC, come in two
varieties. For gamers, designers and others with a bent for high-end graphics,
the preferred choice is a "discrete" graphics processor, with its own associated
board and memory. In the enthusiast market, Nvidia's GeForce line and ATI's
Radeon chips have considerable followings.
Lower-end boxes often have "integrated graphics processors," multi-function
chipsets that provide somewhat lower graphics quality at a significantly lower
cost. Integrated chipsets gained widespread acceptance with the Pentium
3-based generation of PCs, wiping out many graphics chip makers. Early in
2001, integrated graphics chipsets reached 55% of the market, according to
Dean McCarron, analyst at Mercury Research in Cave Creek, Ariz.
The wind shifted back in Nvidia's direction last year as Intel accelerated the
launch of the Pentium 4, rolling it out before it could complete an accompanying
chipset. That forced PC makers to turn to Nvidia and ATI, the two primary
survivors in discrete graphics processors. By the end of last year, McCarron
says, integrated chipsets had dropped to 34% of the market. That's one reason
for Nvidia's dramatic growth: In 2001, the company's revenues rose 87% and
earnings jumped 77%, to $177 million, or $1.24 a share, from $100 million, or 76
cents a share.
Now another shift is coming. Next month Intel will debut the 845G, an
integrated graphics chipset for Pentium 4 PCs, which means the beginning of
the end for the P4 bubble.
CEO Huang declined to speak with Barron's, but Michael Hara, Nvidia's vice
president for investor relations, downplays the importance of the P4 bubble. "It's
more like the P4 pimple," he says, adding that the missing Intel chipset lifted
Nvidia's revenues $25-$30 million in recent quarters, and will continue to do so
until the Intel chipset is widely adopted in 2003.
Mercury's McCarron figures integrated graphics will bounce back to half the
market next year. Intel will be the biggest beneficiary of the change, along with
ATI and several Taiwanese companies that won licenses from Intel.
Seeking growth elsewhere, Nvidia
has developed chipsets for Advanced
Micro Devices microprocessors. It's
also stepping up efforts to snag
market share in the laptop market
from ATI, which has long dominated
the niche.
ATI, meanwhile, has been playing
catch-up with Nvidia in the discrete
market, while defending its turf in
laptops, introducing chipsets for both
the Intel and AMD laptop and
desktop markets and targeting new
markets in color-screen cell-phones
and personal digital assistants. ATI
already supplies chips for the
Nintendo Game Cube, which
competes with Xbox.
In the fourth quarter, ATI gained market share in both the laptop and desktop
markets. Greg McClenon, an analyst with Hotovec Pomeranz, a San Francisco
investment firm, says a new generation discrete chip from ATI due in
September will jump ahead of the current leading-edge chips from Nvidia.
Another potential rival is Creative Labs, the company known for its
SoundBlaster audio products. Creative largely exited the graphics business in
early 2001, finding little profit selling cards based on Nvidia's chips. But the
company recently agreed to buy 3D Labs, a leader in graphics chips for
high-end workstations. Creative President Craig McHugh says the company
will be back in the market late this year with add-in cards for PCs, using 3D
Labs' technology. The next step, he says, will be selling those chips directly to
PC makers.
Despite the continuing SEC inquiry into the company's expenses and reserve
accounting, Nvidia is no Enron. The SEC probe, even if it leads to restatement
of previous quarterly results, seems unlikely to have lasting effects. What is
worrying is that the company continues to forecast big growth in the face of
only modest growth in PC demand. ATI President Dave Orton figures that
overall growth in the PC graphics market will be modest over the next few
years.
And Merrill's Osha, in delightfully contorted Street-speak, notes that in coming
quarters, "upsiding estimates gets tougher." His estimates remain ambitious,
nonetheless, at $1.83 a share this year and $2.17 in fiscal 2004, with revenues
rising to $2.3 billion this year and $2.9 billion in '04.
To reach its growth goals, Nvidia will need to pull considerable business from
other rivals, even as it faces big losses on the desktop to Intel. "They're going to
slow dramatically," says Hotovec's McClenon. "I don't see where the growth
would come from."
On Thursday Nvidia shares came under pressure after a Taiwanese newspaper
report, apparently false, of trouble between Nvidia and its contract
manufacturer, Taiwan Semiconductor.
More significantly, Soundview analyst Mark Specker cut his June quarter
estimates for both Microsoft and the PC makers, citing disappointing sales of
both the Xbox and PCs. McClenon figures that fresh evidence such as this of
slowing growth in Nvidia's end markets could knock the stock down another 10
points. |
