It Is Not Too Late To Buy Nvidia Stock
Nvidia (NVDA) is widely acknowledged as one of the best semiconductor companies in the market. However, the stock has delivered outstanding returns in recent years, and it is currently trading close to all-time highs at $352 per share. At these prices, investors may be wondering if it is already too late to consider a position in Nvidia stock.
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Source: TOS
Nvidia is in fact priced for aggressive growth expectations, and the stock is vulnerable to the downside if there is any disappointment in financial performance. However, the company has an outstanding track-record of flawless execution and plenty of opportunities for future growth in areas such as data centers, artificial intelligence, virtual reality, and autonomous vehicles.
At Outstanding Growth Story
The semiconductor industry is cyclical and highly competitive, but Nvidia has excelled in a tough market by betting on the right industry trends and building technologically superior products over time.
Data by YCharts
The company is a top beneficiary from booming gaming demand over the past several years, and expansion into data centers has been a major winning move from management. The company registered $1.14 billion in revenue from this segment last quarter, an 18% increase sequentially and up 80% versus the same quarter in the prior year. With all kinds of businesses shifting to the cloud in the years ahead, management expects the total addressable market to reach $50 billion in data centers by the year 2023. The recent acquisition of Mellanox is further consolidating Nvidia's position in this key area.
Going forward, the company is positioned to profit from major trends such as artificial intelligence, augmented reality and virtual reality, and self-driving cars. These technologies could offer truly spectacular opportunities over the long term. While competitive pressure will most certainly be tough in these markets, Nividia has proven that it has the resources and the vision to deliver superior technologies in key growth areas.
Source: Nvidia
Looking at financial performance in different segments, the numbers look solid across the board, and the data center division is growing at full speed while also gaining participation in the total revenue mix. The growing participation of revenue coming from a high growth segment bodes well in terms of revenue growth prospects going forward.
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Source: Nvidia
Being a high growth business, Nvidia has big reinvestment needs in R&D, but the company has still delivered consistently increasing operating cash flows over time. It is hard to know how profitability will evolve going forward, and some kind of volatility can certainly be expected. Nevertheless, it is good to see cash flows moving in the right direction.
Source: Nvidia
It's Not Too Late To Start - Slowly - Buying
Few investors would argue against the fact that Nvidia is one of the best companies in the sector. However, valuation is an entirely different discussion, and the price tag is perhaps the main reason why many investors stay away from Nvidia. The forward PE ratio is well above 40, which represents a considerable premium versus other stocks in the industry.
Interestingly, Nvidia stock has always looked relatively expensive in comparison to peers, but it has still delivered outstanding returns from those relatively expensive levels.
To begin with, a high growth company clearly deserves to trade at a premium versus industry competitors. The higher the growth rate in earnings, the more valuable each dollar in earnings, so growth and valuation are directly correlated. This is almost self-evident, but it can be hard for many investors to pay up for high-quality stocks.
When the stock is trading at all-time highs and valuation ratios look relatively expensive in comparison to peers, many investors tend to think that the best is already in the past, meaning that it is already too late to buy the stock. However, this kind of analysis can be too backward-looking, and many times you can miss the best stocks in the market buy putting too much attention on the rearview mirror as opposed to looking through the windshield.
Valuation levels are reflecting the company's growth prospects as assessed by the market. If the company can do better than expected in the future, this generally means that the stock is undervalued based on those expectations.
Nvidia has a remarkably solid track-record in that area, as the company has delivered earnings numbers above Wall Street expectations in 15 of the past 16 quarters. Quite an impressive trajectory of consistency for a company operating in a cyclical and volatile industry.
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Source: Seeking Alpha
The fact that the company has consistently exceeded expectations in the past does not guarantee that it will continue doing so in the future. However, the data shows that management tends to underpromise and overdeliver, which increases the probabilities of beating earnings estimates going forward. After all, winners tend to keep on winning more often than not.
Instead of looking at the company's valuation in a deterministic way, it can make more sense to acknowledge that earnings estimates are subject to a large margin of error and consider how different earnings assumptions would affect valuation.
The table below shows the average earnings estimate as well as the high and low estimate for Nvidia over the coming several years. There is a wide dispersion in the estimates, which is not uncommon in high growth stocks.
Fiscal Period Ending | EPS Estimate | YoY Growth | Low | High | # of Analysts |
Jan 2021 | 8.1 | 45.32% | 6.99 | 9.31 | 33 |
Jan 2022 | 9.81 | 21.19% | 8.22 | 11.98 | 33 |
Jan 2023 | 11.47 | 16.91% | 10.22 | 13.86 | 8 |
Jan 2024 | 14 | 22.04% | 14 | 14 | 1 |
Jan 2025 | 16.73 | 19.50% | 16.73 | 16.73 | 1 |
Jan 2026 | 19.93 | 19.13% | 19.93 | 19.93 | 1 |
Source: Seeking Alpha
The table shows the forward PE ratio based on the average, low, and high earnings estimate for Nvidia. As we can see, the difference in the valuation levels implied by different earnings estimates is quite substantial.
Fiscal Period Ending | PE Avg E | PE Low E | PE High E |
Jan 2021 | 44 | 51 | 38 |
Jan 2022 | 36 | 43 | 30 |
Jan 2023 | 31 | 35 | 26 |
Jan 2024 | 25 | 25 | 25 |
Jan 2025 | 21 | 21 | 21 |
Jan 2026 | 18 | 18 | 18 |
Source: Seeking Alpha
Not only has Nvidia consistently exceeded expectations in the past, but management has an outstanding track record in terms of leading the company in the right direction. Demand for gaming products is still growing at a strong rate, and successful expansion into data centers is a major driver in terms of both revenue growth and profitability going forward. Over the longer term, Nvidia is strongly positioned to benefit from huge opportunities for growth in many of the most exciting technological trends across different industries.
In a nutshell, Nvidia is priced for demanding growth expectations, and current valuation is offering no buffer if the company's financial performance disappoints. The company cannot afford to underperform expectations, because the stock price would suffer considerably in such a scenario.
Nevertheless, Nvidia has the technological prowess and the human talent to meet and even exceed growth expectations over time. If this happens, the stock should provide attractive returns for investors over the long term, even from current valuation levels.
It is important to keep in mind that risk is not only what you buy but also how much you buy. In terms of risk versus reward, it makes sense to own a moderately sized position in Nvidia at current prices, while also keeping some cash on the sidelines to buy more at lower prices if the stock pulls back in the middle term.
Disclosure: I am/we are long NVDA.
Disclaimer: I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with ...
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