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1 Big Reason to Buy NVIDIA

By Harsh Chauhan - Nov 25, 2020 at 8:15AM

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The graphics specialist has a major catalyst in the wings to sustain its terrific stock price momentum.

Investors weren't hugely impressed with NVIDIA's ( NVDA -5.52% ) latest quarterly results, even though the chipmaker delivered stellar growth in its revenue and earnings that beat Wall Street's expectations.

Shares of the graphics card specialist retreated despite upbeat guidance as investors braced for potential softness in the company's data center business after a strong run so far this year. But savvy investors should treat any weakness in NVIDIA's stock as an opportunity to buy more shares, as its largest business is about to switch into a higher gear and offset its weakness elsewhere. Let's see why.

Person pressing buy button on a keyboard.

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Video gaming is on fire, and a major catalyst still has yet to play out

NVIDIA's revenue from the gaming business shot up 37% year over year to $2.27 billion during the third quarter of fiscal 2021, which ended on Oct. 25, 2020. The segment accounted for 48% of the company's total revenue during the quarter. It benefited from an increase in demand for desktop and notebook graphics processing units (GPUs), as well as a spike in sales of console chips. NVIDIA supplies chips for Nintendo's popular Switch console.

NVIDIA also pointed out that the release of its latest RTX 30 series graphics cards based on the Ampere architecture helped boost sales. That's not surprising, as the new GPUs have brought about a huge bump in performance over their predecessors while maintaining aggressive price points. But investors should note that NVIDIA's third fiscal quarter may not have captured the full impact of the newly launched GPUs, for a couple of reasons.

First, the RTX 30 series cards went on sale in phases in September and October. The top-of-the-line RTX 3090 released on Sept. 24, while the RTX 3080 went on sale on Sept. 17. The more budget-friendly RTX 3070 was made available only in October.

The second reason why the RTX 30 series cards couldn't show their full potential last quarter was because of the short supply. The new graphics cards quickly went out of stock after their launch thanks to huge interest from both gamers and cryptocurrency miners. And as it turns out, NVIDIA is still struggling to ramp up the supply of its latest cards, even though it has been more than two months since the RTX 3080 came out.

NVIDIA management points out that the demand for its new GPUs has exceeded the company's most optimistic expectations, and it may take some more months before supply catches up. So NVIDIA's video gaming business could continue enjoying pent-up demand in the forthcoming months thanks to the shortage of its new chips. But at the same time, investors shouldn't forget that the RTX 30 series cards have the potential to drive a massive upgrade cycle for millions of NVIDIA users on older cards.

NVIDIA could be at the beginning of a multi-year growth curve

NVIDIA CEO Jensen Huang predicts that the new RTX 30 series graphics cards could give its installed base of over 200 million gaming GPU users one of the best reasons to upgrade in more than 10 years. That wouldn't be surprising, as recent surveys have revealed that a big chunk of NVIDIA users are still using legacy chips that will have to be upgraded to run new graphics-intensive titles.

In September, a survey of graphics card users by video game digital distribution service Steam revealed that only about 11% of consumers were using RTX 20 series cards (the predecessor to the RTX 30 series). The high pricing of the RTX 20 series cards and the impressive price-to-performance ratio of their preceding cards may have kept users from upgrading to the RTX series cards so far.

But with more games adopting technologies such as ray tracing, and the RTX 30 series cards packing in strong performance gains without a substantial increase in price, NVIDIA now seems to be in a better position to drive upgrades to its latest cards. So NVIDIA's gaming business is unlikely to lose steam any time soon -- and this bodes well for this growth stock, as it gets most of its revenue from this segment.

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.

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