NVIDIA (NVDA -0.40%) CEO Jensen Huang said his company was "firing on all cylinders" during the three months ended Oct. 25. It's easy to see why. Revenue and adjusted earnings per share exploded 57% and 63% higher year over year on gaming and data center strength, easily clearing the bar set a few months prior and setting new quarterly sales records.
Semiconductor stocks are cyclical, and at some point the company's recent momentum will take a breather. Thus, at nearly 20 times full-year expected sales, NVIDIA shares are expensive. But this latest upswing may just be getting started as a wave of new hardware upgrades and new tech innovation gets underway. This stock deserves its ultrapremium pricing.
Firing on all cylinders, but room for improvement
Huang's comment that NVIDIA is "firing on all cylinders" doesn't tell the whole story. The gaming segment -- graphics processing units (GPUs) for computers and consoles like the Nintendo Switch -- and data center segment together made up 88% of NVIDIA's revenue in Q3. Thus, with sales to those two end markets increasing respectively by 37% and 162% compared with a year ago, Huang's choice of words is appropriate.
However, later in the earnings call, Huang said that "the inability to go to work is slowing down the adoption of new technology in some of the [end-market] verticals." Specifically, the small "professional visualization" and "automotive" segments declined 27% and 23% from last year. Huang also said some customers, like traditional retail and industrial businesses, have struggled this year. Thus, even in a great quarter, there's still plenty of room for improvement. Therein lies reason to believe NVIDIA's momentum will carry into 2021 as some of these businesses start to recover from effects of the pandemic.
It's also worth remembering that the upgrade cycles that are fueling gaming and data center growth are just beginning. It was just three months ago that NVIDIA announced its new flagship RTX 30 series GPUs for video games, with new tech providing some of the most compelling reasons for gamers to upgrade in years. While NVIDIA's GPU manufacturers are still struggling to meet demand, the company recently unveiled a slew of new hardware aimed at data centers, like its new DPUs (data processing units), enterprise grade GPUs for AI, and new networking gear via its Mellanox acquisition.
These upgrade cycles tend to last a couple of years, especially on the slower-moving data center side of the equation. Paired with the unthawing of corporate budgets that is likely to continue well into 2021 and beyond as the pandemic recedes, I don't see a quick end to the company's uptick in growth this year.
NVIDIA the cloud computing company?
There's even more to like about NVIDIA longer term. One of the keys to the company's success over the past couple of decades has been its software -- usually packaged together for free with its hardware to make life easier for developers and end users. A device that seamlessly works well with its intended applications is a huge value proposition for hardware designers and consumers alike.
NVIDIA has really upped its game in this arena and is slowly starting to show signs of transforming itself not just into a semiconductor and related equipment designer but also a cloud computing powerhouse. Some of these services take the form of a remote server to aid in the compute and deployment of large AI algorithms. Others are being tapped by automakers like Daimler subsidiary Mercedes-Benz and Hyundai Motor to develop autonomous vehicle technology. Remote work and collaboration tool Omniverse and videoconferencing software Maxine also recently entered beta for developer early access.
Some of these services will continue to be packaged with NVIDIA's hardware as a free add-on to help make the ultimate sale, but others could go on as a stand-alone offering as a cloud-computing-based service. It's early on in this front, but NVIDIA's extensive work on graphics processing, AI, and management of massive blocks of digital data could help it make some serious waves in the world of software down the road.
NVIDIA is undeniably an expensive stock, but the company continues to prove there is good reason why. It is emerging as the leader in future computing needs, and there is plenty of "optionality" -- the ability to take business in different directions to tap into new growth markets -- left in the tank.