After a sharp decline in revenue in the gaming segment last fall, the first-quarter earnings report from NVIDIA (NASDAQ:NVDA) showed the company's largest business starting to turn the corner.

NVIDIA still faces obstacles in the short term, including a slowdown in data center spending. Plus, sales of gaming laptops, which have been a bright spot for the business segment, will be hampered next quarter due to a shortage in central processing units (CPUs) in the PC market. But investors have shrugged off those near-term challenges, sending the stock up 28% year to date. 

Let's look at three charts that give investors a bird's-eye perspective of NVIDIA's gaming segment, and why the stock still looks like a good investment, in spite of the recent gains.

NVIDIA's RTX Super 2080 graphics card.

The NVIDIA RTX 2080 Super graphics card. Image source: NVIDIA.

Gaming is still a good business

The slowdown in gaming sales didn't have anything to do with demand from gamers. That's still strong. Instead, the boost NVIDIA got from a bubble of cryptocurrency miners disappeared, causing sales of gaming cards to plummet. The gaming segment has made a lot of progress in clearing out the excess channel inventory that was holding up sales growth over the last few quarters. That could be seen most clearly in the 11% sequential increase in gaming revenue last quarter. 

It's helpful to take a step back from the short term and evaluate the trends that have been fueling its growth in gaming. Revenue (REV) from the gaming segment grew 29% per year over the last five years, driven by a combination of a steady advance in average selling prices (ASPs) and a 14% climb in unit sales (UNITS), as shown in the chart below from a recent investor presentation.

A bar chart showing the annual increase in NVIDIA's gaming segment.

NOTES: CAGR=Compound Annual Growth Rate, YoY= Year over Year. FY=Fiscal year. All revenue in billions. Image source: NVIDIA.

Upgrade cycle just starting

One trend that should light the fire in the gaming segment is the new Turing upgrade cycle. Turing is the latest generation of graphics processing units (GPUs) from NVIDIA. With every cycle, management positions its graphics card lineup to allow for increases in selling prices as gamers trade up to the more powerful models. 

The company is doing the same with the new Turing generation of gaming cards. So far, most GTX 1080 users are upgrading to the $699 RTX 2080, a more expensive upgrade compared with the $499 launch price of the 1080 in 2016.

As you can see in the chart below, only 2% of the base has upgraded to Turing so far, but 50% of GeForce users are still on Pascal, while 48% are using older cards. So there is plenty of potential upgrade movement still to come.

Three charts showing the progress of NVIDIA's Turing upgrade cycle.

Image source: NVIDIA.

We're early into the Turing upgrade cycle, but the new generation is off to a faster start than Pascal, according to CEO Jensen Huang. During the first-quarter conference call, he said: "The pause in gaming is now behind us. We're in a growth trajectory with gaming."

Gaming laptops

Another trend to watch is the rising demand for gaming laptops. NVIDIA's Max-Q gaming laptops are designed to offer desktop-class graphics capability in a notebook, and demand is exploding. At its Investor Day in March, the company reported that revenue from gaming laptops increased by 59% year over year, driven by balanced growth in average selling prices and unit sales. 

The chart below shows how fast the gaming laptop market has been growing in recent years. Sales have skyrocketed about 10 times over since 2013, and the momentum continues to build.

A bar chart showing the growth of gaming laptops since 2013, and a circle chart showing the increase in laptop models expected to ship this year featuring NVIDIA's technology.

Image source: NVIDIA.

NVIDIA's rival Advanced Micro Devices has also experienced explosive demand for Ryzen-powered laptops, which reflects a tidal wave of demand that should benefit both companies. NVIDIA expects demand to remain strong through the end of the year. The number of models that original equipment manufacturers are working on has more than doubled compared with 2018 -- a good indicator that demand is increasing. 

It's still a good investment

NVIDIA stock has already bounced back by 28% year to date. That puts the forward valuation at 32 times this year's consensus earnings estimate. The high earnings multiple may not leave much upside for the shares in the short term, especially as the data center segment is still in a slowdown phase, and AMD's new GPUs are expected to take some market share from NVIDIA. 

However, the most widely used game engines have announced support for NVIDIA's ray-tracing technology. This is an advantage for NVIDIA that cannot be underestimated. One analyst recently upgraded the stock to a buy citing the company's long-term growth prospects in the gaming segment. 

As gamers upgrade to Turing GPUs and gaming laptops, NVIDIA should see further growth in its gaming segment. Management has been very good at controlling these upgrade cycles to allow for higher prices to drive revenue growth. This practice should pay off for investors over the next few years.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.