Buying NVIDIA’s Two Pronged Attack
Alvin is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
The strong rise of tablets and smartphones has created a tempting growth market for traditional PC giants NVIDIA (NASDAQ: NVDA), Advanced Micro Devices (NYSE: AMD), and Intel Corp (NASDAQ: INTC). In 2011, 494 million smartphones, 69 million tablets, and 353 million Windows-based PCs were shipped worldwide (IDC). By 2016, shipments are projected to increase to 1.2 billion smartphones, 198 million tablets, and 518 million Windows-based PCs (IDC). In other words, shipments of smartphones, tablets, and PCs are projected to grow by 143%, 187%, and 46.7%, respectively.
Realizing the potential of mobile devices, NVIDIA released its Tegra line of processors back in 2008. While the market for mobile processors is highly competitive with the likes of Apple, Intel, Qualcomm, Texas Instruments, and ARM Holdings, Tegra gives NVIDIA a competitive product in a high-growth market. As a result, NVIDIA is well positioned in the two main areas of computing: PCs and mobile devices. NVIDIA has an entrenched presence with GPUs in PCs and a competitive presence with Tegra in mobile devices.
PC Market (Discrete GPUs)
While the growth of mobile devices is undeniable, PCs are still essential. They're used by schools, enterprises, governments, and regular consumers. The CPU and GPU market for PCs are essentially monopolized by Intel, AMD, and NVIDIA. Intel and AMD control the CPU market and NVIDIA and AMD control the discrete GPU market. In Q4 of 2011, in the discrete GPU market, NVIDIA and AMD had a 63.4% and 36.3% market share, respectively. However, it is important to note that when integrated graphics are included, the market shares of Intel, AMD, and NVIDIA are 59.1%, 24.8%, and 15.7%, respectively (JPR). This is important to note because integrated graphics steal business away from the discrete GPU market. Recently, AMD released its Fusion processors and Intel released its Sandy Bridge processors, which both have integrated graphics.
While integrated graphics have a bad reputation with the gaming community, it is impressive to note that Ivy Bridge (successor of Sandy Bridge) is capable of playing modern games such as Battlefield 3 and Skyrim at low settings. That said, this is around the capability of the discrete GPUs inside the PlayStation 3 or Xbox 360, which are seven and six years old, respectively. In addition, it is no secret that most new games are not pushing current hardware because most developers focus on running games on consoles first and then port over to PCs. As a result, games are designed for old hardware and integrated graphics have caught up. However, when the new generation of PlayStation and Xbox consoles get released (with state of the art GPUs), I expect to see high-quality games that will require high-end GPUs.
As a result, I suspect more people will abandon integrated graphics in favor of discrete GPUs because integrated graphics will simply be incapable of playing games designed to run on next generation consoles. Essentially, I think graphics will see some cyclicality, where people lean toward discrete GPUs at the beginning of the life cycle of next generation consoles and lean toward integrated graphics as the consoles become mature and the hardware outdated. In addition, GPUs are essential in enterprises because programs such as SolidWorks and AutoCAD 3D are GPU intensive.
Furthermore, NVIDIA appears to be gaining ground in the extreme high end of computing with Tesla GPUs being used to power supercomputers. Thus, I don’t see the market for discrete GPUs disappearing anytime soon. NVIDIA’s GPU revenue for fiscal year 2012 was $2.54 billion with an operating income of $528 million. In addition, NVIDIA’s workstation products and Tesla high-end computing products earned revenue of $864 million and operating income of $328 million. This high-margin revenue should be safe. Furthermore, the GPU industry should theoretically grow along with the general PC industry. Using discounted cash flow analysis, the value of NVIDIA’s discrete GPU business plus its current book value is worth a minimum of about $15 per share.
While NVIDIA, AMD, and Intel dominate desktops with their high-powered processors, mobile devices are a different beast. In mobile devices, long battery life is king. This is in stark contrast to PCs, where everything is about performance. Also, the market landscape for mobile devices is different. As was previously stated, there are many companies competing in this market segment. Although ARM based chips currently control the market, it is very difficult to predict which company will be leading when the market becomes saturated. For instance, Intel is currently losing to ARM, but Intel has the advantage of having huge resources at its disposal. Intel has plenty of money to fund R&D and has state of the art chip fabrication facilities at its disposal.
Anyway, the high number of quality competitors makes Tegra difficult to value. Further adding to the uncertainty are the gaps between the performances of different chips. For example Apple’s New iPad, which runs on the A5X, completely dominates the Tegra 3 in terms of graphics power. Furthermore, Tegra 3 chips currently do not have integrated 4G LTE capability. Qualcomm, which manufactures LTE modems, is not too thrilled about working with NVIDIA because Qualcomm has its own Snapdragon chips. However, NVIDIA does expect to have Tegra 3 with third party LTE in the second half of this year and integrated LTE capability in 2013.
The way I see it, Tegra is a bonus business segment of NVIDIA that has a lot of potential. NVIDIA’s bread and butter will probably continue to be the discrete GPU market because discrete GPUs are high margin, while mobile device hardware is low margin. Tegra has a lot of potential because the growth of the mobile device market is greatly outpacing the PC market. Furthermore, Tegra 3 has had significant design wins with HTC, LG, and Fujitsu.
As was previously calculated, the intrinsic value of NVIDIA, excluding the Tegra division, is about $15 per share. This is not much higher than NVIDIA’s current share price of $13.21. However, NVIDIA’s dominant position in the discrete GPU market and the high potential of Tegra in the high growth mobile device market make NVIDIA a compelling buy. This is only further solidified by NVIDIA’s stellar balance sheet, which consists of $3.1 billion in cash and total debt of only $21 million. If you are looking to purchase a technology stock, NVIDIA is worth a long look.
iamgreatness has no positions in the stocks mentioned above. The Motley Fool owns shares of Intel. Motley Fool newsletter services recommend Intel and NVIDIA. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.