There's a Lot of Potential for NVIDIA's Tegra

It's no secret that NVIDIA's (NASDAQ: NVDA  ) efforts in the mobile chip space have been mixed. Although 2012 was an excellent year for the company's tablet efforts, thanks largely to the Google Nexus 7 win, 2013 was largely a disappointment.

The company rolled out its Tegra 4 system-on-chip, which was quite competitive. But it was too late to win some of the high-volume designs. Further, while NVIDIA had bet big on Windows RT, it's clear that Intel has successfully defended its Windows stronghold. That being said, there's still plenty to like about NVIDIA's Tegra -- if the company can execute.

When will Tegra break even?
At NVIDIA's Graphics Technology Conference, CEO Jen-Hsun Huang gave a presentation in which he disclosed that the company's investment in Tegra came out to roughly $600 million. Doing some back-of-the-envelope math assuming that the gross margin profile for Tegra is roughly 50%, it looks as though an annual run-rate of $1.2 billion would be just about what NVIDIA needs in order to break even. During the first nine months of the current fiscal year, Tegra revenues were a mere $267 million -- a far cry from breakeven. Indeed, the segment posted an operating loss of $407 million during that time.

CFO Colette Kress noted on the call that the company expected "strong sequential growth" in Tegra. While an exact revenue figure wasn't given, the company did project that the business would post flat revenue quarter over quarter, with GPUs down slightly. Assuming that the GPU business is down 3% sequentially -- implying a decline of $26 million -- this would suggest that Tegra sees about 23% sequential growth to $137 million. This means that when all is said and done, Tegra should come in at about $403 million. NVIDIA will need to roughly triple its revenue in order for this segment to break even.

Is this reasonable?
In order to understand if NVIDIA breaking even on Tegra is likely in the foreseeable future, it's important to get a feel for just what kind of total addressable market there is here. According to NVIDIA, the Tegra-served addressable market is about $10 billion. While the general apps-processor market for mobile processors is larger, there's certainly a good deal of "captive sockets" out there -- particularly at Apple and Samsung. That being said, with the right products and solid execution, taking 12% market share in the blended tablet, smartphone, and automotive/in-vehicle infotainment end markets shouldn't be too difficult.

However, it's probably not going to happen during the next fiscal year. The competition from Qualcomm is fierce, and with Intel having announced its intentions to take tablet market share at all costs, it's going to be a tooth-and-nail fight to win the right designs to drive significant volume. With that in mind, the company's upcoming Project Logan processor should be quite competitive, and the smartphone-oriented Tegra 4i should definitely grab some attention as one of the few premier integrated apps processor + LTE designs available on the market during the early part of 2014.

It's all about consistent execution
NVIDIA can likely break even and eventually become profitable here, but it's going to take multiple years of consistent execution. There's very little customer loyalty in this business, particularly given how vibrant -- and cutthroat -- the competitive atmosphere is. Given how ARM has all but commoditized semiconductor IP for this space, the barrier to entry is surprisingly low for such a high-tech industry.

If NVIDIA can execute with best-in-class products that leverage their strengths,  particularly in graphics, then the company can emerge as one of the "last men standing" in the apps processor market, as there will almost assuredly be consolidation. It's still pretty early in the race, but 2014 will be the year in which NVIDIA shows if it has the right stuff to win here.

Foolish bottom line
The mobile apps processor market is a rough place to be, and the investment in Tegra is costing NVIDIA shareholders pretty dearly. If the company can make this investment work, then the company will be much larger than it is today -- and the shares much higher. If not, then NVIDIA can divest itself of Tegra and try to find growth in other markets that can leverage its GPU technology while generating a substantial amount of cash from its high-margin GPU businesses.

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