Nvidia (NVDA) recently announced its 3Q earnings on the back of a strong year. However, the company’s upcoming AMD and Intel competition, heavy multiple, and lackluster earnings growth in comparison to this multiple, mean that the company is overvalued. As a result, as we’ll see throughout this article, we expect its multiples to contract fixing this.
Nvidia 3Q 2021 Financial Results
Nvidia’s 3Q 2021 financial results were fairly respectable, showing decent growth across the company’s major business lines.
Nvidia’s 3Q 2021 revenue was just over $4.8 billion, up 57% YoY on 22% QoQ. This was supported by the company’s new 3070/3080 GPU launch, the most important launch in several years for the company, despite a strong competing product from AMD (AMD). The company’s gross margin has remained at more than 60% resulting in a net income of just over $1.3 billion
The company’s Non-GAAP earnings are only minimally larger, as the company isn’t one that heavily cuts its GAAP earnings. However, despite continued strong earnings, with massive growth, the company’s GAAP EPS is only ~$10/share annualized. That would give the company a P/E ratio of more than 50x. That’s more than 3x the company’s historic P/E ratio before multiple inflation.
To be fairly priced, Nvidia would need significant growth in an industry that’s becoming increasingly competitive. AMD’s new top-end GPUs are considered competitive with Nvidia’s GPUs. That’s for the first time in nearly a decade. With customers increasingly focused on separating themselves from the company, whether it’ll achieve this growth is undefined.
Nvidia ARM Acquisition
One other unique move by Nvidia is the company’s acquisition of ARM, a $40 billion acquisition.
Whether or not this acquisition goes through remains to be seen, antitrust concerns remain incredibly significant. The acquisition is promising, and ARM is becoming increasingly popular, but the company still is being sold to Nvidia at a market capitalization to sales ratio of more than 20. That means, despite the potential size of the acquisition, it’ll be a long time until it generates valuable cash flow for shareholders.
Ultimately, the financial position is what investors are betting on.
Nvidia Growth Potential
Those investing in Nvidia need to justify the valuation, and the only fair way to justify the company’s valuation is by looking at its growth potential. Most of Nvidia’s revenue comes from its “gaming” and “datacenter” businesses with its datacenter business growing especially quickly.
Nvidia itself pegged the GPU accelerator market at $30 billion in 2020 and $50 billion in 2023 several years ago, although a Seeking Alpha article here, discussed how those were moonshot estimates. More realistic estimates show it hitting $50 billion by 2026. However, competition is expected to increase significantly, with Intel now moving into the fray.
With Nvidia’s growth estimates falling behind, and competition, the company will likely see growth here, potentially even doubling revenue, but minimal long-term revenue growth potential.
Consensus forecasts are for Nvidia’s 2020 EPS to be ~$8.1/share, not much above its current EPS. That means is trading at a >50x P/E ratio for where it’ll be 2-3x years from now. The company can achieve longer-term growth, but with 17% YoY growth, that means it’ll take roughly until the mid-2030s for Nvidia to achieve a fair valuation, at its current share price.
That should be indicative of how overvalued the company is. Based on this, we wouldn’t be investors in the company at the current time. The company is a dangerous short because of the current high flying technology market, although in our view, it’s worth selling your investment to capture the recent gains in the company’s share price.
In our view, the thesis risks around investing in Nvidia is based on how high-flying technology stocks have been recently. Plenty of startups or mid-sized companies with “hip” technologies have seen their share price rocket up. People chasing the next technology opportunity have caused Nvidia’s value to more than double this year.
This euphoria, which reminds us of the technology markets in the late 90s, is difficult to compete with. However, we do recommend those that have been lucky enough to invest in Nvidia to sell their stock and gather the profits.
Nvidia has an impressive asset portfolio and the company has continued to experience significant growth. The company’s YoY improvements have supported its EPS growth. However, in our view, the company is now overvalued, and those who were lucky enough to invest should sell their stock to gather their rewards.
In our view, it would take until the mid-2030s for the company to reach a fair value, based on its current share price. Another way to look at that is that the company is heavily overvalued based on its current price and due for a multiple contraction. For this reason, we don’t recommend investing in Nvidia.
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Disclosure: I am/we are long NVDA. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.