After shares of Nvida Corporation (NASDAQ:NVDA) hesitated for weeks throughout June at the $160 a share level, it’s becoming clear the company needs to report another strong quarter before moving higher.
Though the next earnings report is a month away, investors should expect fundamental strength to continuing this year.
Nvidia’s Developments
Nvidia’s foray in developing graphics cards specifically for the cryptocurrency comes after Advanced Micro Devices, Inc. (NASDAQ:AMD) Polaris card prices more than doubled in recent months. Yet the cryptocurrency craze is not a catalyst that will push NVDA stock higher.
In fact, AMD’s GPU hardware favors the open-source code that cryptocurrency mining depends on. AMD’s hardware has an advantage over that of the current Nvidia GPUS.
Investors should look instead at the importance of AI (artificial intelligence) for NVDA stock.
Nvidia is gaining strong traction with AI. DGX-1 is advertised as providing deep learning capabilities right out of the box. The total addressable market is still small because AI is in its infancy. But as more companies, including Microsoft Corporation (NASDAQ:MSFT) and International Business Machines Corp. (NYSE:IBM), develop AI solutions, demand for hardware from Nvidia will grow.
Deep learning is critical to the development of autonomous driving (called “ADAS”). Even BlackBerry Ltd (NASDAQ:BBRY) recognizes its growing relevance in the market. CEO John Chen said after the quarterly earnings report that it is looking for acquisitions for companies in the ADAS market.
Chen also said he would not overpay for such buyouts. He is indicating that the valuation for companies in this sector is too high. Nvidia’s early entry in this segment gives it an early lead over the newcomers, including BlackBerry.
On Jun. 27, Nvidia signed a deal with Volvo and Autoliv for the development of ADAS.
Valuation
The market expects Nvidia will grow sales by nearly 40% quarter-over-quarter. Earnings per share growth of 12% over the next five years may give investors a reason to take a pause in the stock buying. At an elevated P/E of 48x and a forward P/E of 41x, short-sellers are not lining up to bet against the company just yet. Short float stands at just about 5%.
Conversely, the short float for AMD stock is closer to 20%. Oddly enough, the short float for shares of Intel Corporation (NASDAQ:INTC) is only 2%, but the stock is at risk of testing yearly lows.
Fair Value for the NVDA Stock Price
If valued relative to the revenue or P/E multiples to the technology sector, then NVDA stock is over-valued. Per finbox.io (click link to access models and change assumptions), the stock’s fair value is between $84 and around $94 a share.
A 10-year DCF Growth Exit model gives a higher fair value. If investors assume revenue growth in the double digits through to 2023 and then slowing, Nvidia’s stock is worth over $170 a share.
Entry Point
Nvidia’s sharp run-up that started in May and continued throughout June implies that growth investors should wait for a better entry point first. The stock could pull back on profit-taking even though the company keeps posting upbeat developments in AI and ADAS, and growing use of its GPUs in supercomputers and in the datacenter.
If markets sell off, this will take the stock price of NVDA down with it. Value investors that missed the multiple break-outs in the last year could find an entry point in NVDA stock on these dips.
Takeaway
Investors who already hold shares of Nvidia may get tempted to sell, minimizing losses. But the valuations are reasonable for a company growing quickly.
It has multiple catalysts ahead in a broad array of businesses. Nvidia is well-diversified and is positioned to take advantage of the strong demand for data centers and AI. The ADAS market is growing as automobile companies invest more in the technology.
By being at the center of ADAS, Nvidia is insuring its business from the cyclical swings of the graphics card market. Yet even the GPU market is growing at a healthy rate, which makes the company even more appealing.
As of this writing, Chris Lau did not hold a position in any of the aforementioned securities.
