NVIDIA doesn't pump out "old-school" 1990's vintage graphics chips like the picture suggests. Instead they are revolutionizing the graphics cards on your computer at a break neck pace, becoming the market leader, and having a stock that has been on-fire. They recently executed a 3:2 stock split and the stock hit a 52-week high again on Friday. This is a stock which I originally bought Sept calls and then exercised those calls at a $28.33 strike price (split adjusted). It is a stock that I plan to hold until at least December unless things get crazy.
So what is this company about? NVIDIA Corporation is the worldwide leader in programmable graphics processor technologies. Their business is divided into four major product-line operating segments: the graphics processing units, or GPU Business, media and communications processors, or MCP Business, Handheld GPU Business, and Consumer Electronics Business. This operating segment breakdown has changed during the 1st quarter of this year with a few name changes - changing out the Handheld GPU unit name for the Professional Solutions Business unit name. It appears that the name change is NOT a 1:1 change. It also appears that the old handheld GPU unit was integrated into the Consumer electronics business and part of the GPU Business was broken out into the newly named Professional Solutions Business, but I need to verify. For the purpose of these notes, I kept with the breakout in the 10-K to avoid confusion for everybody.
They are headquartered in Santa Clara, CA and incorporated in DE. Their Fiscal year ends in January of each year so it is worth noting that they are currently (as of September 2007) in the second month of the 3rd quarter of Fiscal 2008.
They appear to have a knack at combining scalable architectural technology with mass market economies-of-scale to deliver a complete family of products that spans professional workstations, to consumer PCs, to multimedia-rich cellular phones. They also seem to have a very technical sales team that work closely with each industry’s respective OEMs, system integrators, and motherboard manufacturers to define product features, performance, price and timing of new products.
Their Gross Margins stand at 45% as of the most recent quarter, up 270 basis points from the year earlier. As everyone knows, the company has seasonality within their year with the 2nd half of the year typically better than the 1st half with back to school and Christmas seasons driving sales.
Revenue outside the US represents 82% of their business. My gut suggests that this metric is to where the products are shipped for assembly and not the end destination (consumer). No customer represents more than 10% of the company’s business signaling a diverse customer base (everybody uses them).
Their cash hoard is pretty impressive with $1.3 billion in cash or securities after the last quarter, up from $1.1 billion at the same time last year. Operating activities generated more than $300 million in cash during the most recent quarter up from $49 million a year ago (this is how they afford their stock buy-back).
Their research and development is very impressive with 2,668 full-time employees engaged in research and development as of January, 2007 (out of a total employee count of 4083), compared to 1,654 employees as of January, 2006. The majority of the research and development employees added during fiscal 2007 are located in international locations, including India, China, Taiwan and various locations in Europe (which should control costs and open up the international market further and continue to provide a mechanism to develop new products at high margins).
Their management seems solid (and still fairly young – in their 40’s and 50’s) with the founder (Jen-Hsun Huang) still functioning as the company’s President and CEO. Their Sr. VP for sales comes from Sun Microsystems and seems very well connected with a great technical background to bring feedback back to R&D.
My only concern at this point is that the company’s business is cyclical in nature (I knew that and I am expecting a short term continuation of an up-cycle) and directly affected by market conditions in the highly competitive semiconductor industry, including alternating periods of overcapacity and capacity constraints, variations in manufacturing costs and yields, significant expenditures for capital equipment and product development and rapid technological change.
Their graphics processing unit products support desktop PCs, notebook PCs, professional workstations and other GPU-based products. They have the largest market share in the standalone PC-based (as well as the laptop based) GPU market
Their GPU Business revenue increased by 20.3% to $1.99 billion for fiscal 2007 (representing 65% of the total business), compared to $1.66 billion for fiscal 2006 (representing 70% of the total business). This increase year-over-year was a result of increased sales of their desktop GPU products, notebook products and their NVIDIA professional workstation products. The increase in sales of their desktop GPU products was led by their GeForce 7-based and GeForce 8-based products that serve the high-end segment. Sales of their NVIDIA notebook products improved due to an increased mix of GeForce 7-based products, shipping for notebook PC design wins based on Intel’s Napa platform. This increase in sales was slightly offset by a decrease in average selling prices. Their NVIDIA professional workstation product sales increased due to an increase in unit shipments, offset by a slight decrease in average selling prices.
Their media and communications processor (MCP) product family, known as NVIDIA nForce, supports desktop PCs, notebook PCs, professional workstations and servers. The NVIDIA nForce family represents the MCP portion of the business for AMD and Intel-based desktop PCs, notebook PCs, professional workstations and servers.
MCP Business revenue was $661.5 million for fiscal 2007 (representing 22% of the total business), compared to $352.3 million for fiscal 2006 (representing 15% of the total business), which represents an increase of 87.8%. The overall increase in MCP business revenue is primarily due to sales of newer NVIDIA nForce4 products, NVIDIA nForce5 products, integrated AMD-based desktop products, and integrated Intel-based desktop products, which began shipping after the second quarter of fiscal 2007. In addition, revenue also increased as a result of their acquisition of ULi in February 2006.
Their Handheld GPU product family, known as GoForce, supports handheld PDAs and multimedia cellular phones. The GoForce family represents their handheld GPUs for a wide range of multimedia cellular phones and handheld devices including new 3G phones from Motorola and Sony Ericsson. Their technology allows consumers to have a host of features for cellular phones and PDAs, including support for up to 3-megapixel image capture, accelerated graphics for gaming, motion JPEG capture and playback, and programmable 3D shaders, along with multi-megapixel still image and video processing in a single-chip package. Their technology also delivers multimedia applications and drives high-resolution displays, while extending handheld battery life through a variety of power management techniques.
In February 2007, they unveiled a strategy to target the applications processor market in order to meet the growing multimedia demands of today's mobile phone user by announcing the availability of the NVIDIA GoForce 6100. The NVIDIA GoForce 6100 is their first application processor and is a low power consumption multimedia solution that supports computationally intensive multimedia codecs as well as a high quality audio subsystem, integrated WiFi, and USB 2.0.
The handheld GPU Business revenue was $108.5 million for fiscal 2007 (representing 4% of their total business), compared to $58.7 million for fiscal 2006 (representing under 3% of their total business), which represents an increase of 84.7%. The overall increase in Handheld GPU Business revenue is due to an increase in unit sales of high-end feature cellular phone and PDA products.
Their Consumer Electronics product group is concentrated in products that support video game consoles and other digital consumer electronics devices for Microsoft and Sony. They have a license agreement with Microsoft to provide the platform processor for the Xbox360. They also jointly developed a custom GPU with Sony for the PlayStation3 and they record license and development revenue from this arrangement.
Consumer Electronics Business revenue was $96.3 million for fiscal 2007 (representing 3% of the total business), compared to $167.4 million for fiscal 2006 (representing 7% of the total business), which represents a decrease of 42.5%. This decrease is a result of discontinued sales of their Xbox-related products to Microsoft, partially offset by revenue recognized from their contractual development arrangements. They recognized revenue from the sale of Microsoft’s original Xbox-related products for the last time during the second quarter of fiscal 2006 (note: The new MicroStation Xbox360 sold something like 11.6 million units since it was launched last Christmas that will goose revenue significantly for this business unit). During fiscal 2007, they recognized $92.9 million of revenue from their contractual arrangements with Sony for its PlayStation3, compared to $49.0 million of revenue recognized during fiscal 2006. Even though PlayStation3 has not sold as well as hoped, revenue should increase in 2008 for this product.
It appears that analysts that follow the company peg the company as growing by 30% each year over the next five years. By looking at past history, this seems to be about right; however, it also looks like yearly revenue projections are hit or miss (lumpy). According to analyst estimates, YOY EPS rates seems to be accelerating this year and then dropping off (the law of large numbers and the potential for price competition), but new products are coming on-line (with good margins) and the economic uncertainty for 2009 is coming into more focus that should mean that analysts will upwardly revise 2009 estimates.
Their P/E is currently at 37.63 ($36.24 x 1/$0.96). A typical multiple for technology growth firms is around 2 times growth rate, allowing for a company like NVDA to be worth as much as a 40 multiple. With a 40 multiple, by this measure, NVDA can be fairly valued at a price of $39.00 with earnings accelerating this value as the year moves along.
At this point in the year (and after the Fed rate cut), I think money is rotating into the sector, the second half of the calendar year will exceed expectations, and the market is willing to expand the multiple.
The stock will definitely NOT become a rocket from here, but could have significant appreciation over the next 5-6 months. They do, however, have a huge institutional following that could protect the stock during sell-offs and are well covered, giving folks that track the stock daily a real glimpse into the company.
The amount of money that they are piling into R&D (at the expense of a more robust EPS) is fairly impressive. Watching R&D spending and the patents and new products that derive from this spending is critical. One other thing to look for in this business is their SG&A. With NVDA, this seems entirely reasonable, but changes to their business will definitely be reflected in this number (both good and bad).
Finally, the sector is currently working off an inventory that should continue to improve their gross margin. Tracking inventory and the reserve they set aside for inventory write-off will be very important to understanding Street reaction to quarterly earnings.
One other thing to note is that the company announced a stock repurchase program in May under which they may purchase up to an additional $1.0 billion of their common stock over a three year period through May 2010. As a result of this increase, they have an ongoing authorization from the Board, subject to certain specifications, to repurchase shares of their common stock up to an aggregate maximum amount of $1.7 billion (They repurchased 31.4 million shares under their stock repurchase program as part of a previous announcement for a total cost of $613.1 million). This represents a potential 11% reduction in shares outstanding at the current price. Yeah, baby!
After babbling this morning in a previous post about what this company does, I thought I would post a little TA about why I am so bullish on the stock. I truly think the stock will be printing another couple of 52-week highs this week.
