Nvidia Delights

Nvidia (NVDA 3.65%) shares pop on a stellar third-quarter report. Robinhood's (HOOD 2.50%) stock falls after its first report as a public company and warnings from management that trading activity is slowing down. In this episode of MarketFoolery, Motley Fool analyst Tim Beyers analyzes those stories, as well as how Cisco Systems' (CSCO 0.37%) recent acquisitions are fueling the company's revenue growth.

To catch full episodes of all The Motley Fool's free podcasts, check out our podcast center. To get started investing, check out our quick-start guide to investing in stocks. A full transcript follows the video.

This video was recorded on Aug. 19, 2021.

Chris Hill: It's Thursday, Aug. 19. Welcome to MarketFoolery. I'm Chris Hill. With me today, Mr. Tim Beyers. Thanks for being here.

Tim Beyers: Thanks for having me, Chris, good to see you.

Hill: Good to see you. We've got more tech-related earnings. We're going to start with the chipmaker Nvidia. Second-quarter revenue came in higher than expected, and management's guidance for third quarter revenue was also higher than analysts were expecting, and shares of Nvidia were up 6%. This, on the surface, looks pretty good. What does it look like underneath the surface?

Beyers: It's the gift that keeps on giving, like the jelly of the month club. Total revenue up 68% here, revenue for the outlook, like you were talking about, Chris, $6.8 billion for the third quarter of fiscal 2022. That is definitely higher than analysts expected. I have been calling this a data center company that does gaming. I'm going to say I was wrong about this only in the sense of this quarter because, boy, this quarter, Nvidia's gaming business was absolutely on fire, on fire. Up 85% to $3.6 billion, up 11% from the previous quarter. It is still very much a Cloud story here, Chris, because, for those who do not know, Nvidia has arguably the top-rated Cloud gaming business in the world in GeForce now, and that is now supporting over more than 1,000 PC games on old computers. Nvidia is really killing it here. Now the data center business, Chris, is up 35%. It's still a phenomenal business. I think when you think about Nvidia, it just does more stuff than you think it does. It doesn't just make chips, it makes these graphic cards that go into your gaming console. They also make servers that go into data centers. They are making a Cloud gaming service that people like and are actually using. They're making software for doing AI tooling. Nvidia is a shockingly well-organized but still pretty diversified business, Chris, and I think the market may be starting to notice that.

Hill: When you look at the gaming part of the business, look, obviously the numbers there are great, but there are a lot of businesses in the gaming industry that have put up great numbers over the past year for all the obvious reasons. Is that something that you look at as an analyst and think this is good, but nobody should expect this quarter after quarter?

Beyers: I don't. I was surprised that it was up by this much because there is so much happening in the gaming industry. I'll be honest with you, Chris, I thought, just by virtue of AMD's foothold in the console business, that Nvidia maybe would get a little lighter on the gaming side. It is a very pleasant surprise to me to see the gaming business up this much. I did not expect that just because of the encroachment of AMD into the console business. But if I look at it and I look at it objectively, there is a lot of movement around Cloud gaming. Nvidia has been in the gaming business for such a long period of time, maybe it really shouldn't surprise me that there is a lot of demand for just the various areas of the gaming business that Nvidia serves. It's not just the graphics cards, it's some expertise in software, it is GeForce now. There is a lot built around this and I just didn't give them enough credit.

Hill: I'm sure someone like our colleague Aaron Bush has probably crunched the numbers on this since he is as good an expert in the video gaming industry as exists out there that I'm aware of. But with the amount of money that is poured into this industry from all corners, on the Cloud side, the server-side, the chip side, the content creation side, we're getting to pretty dizzying heights with the aggregate amount of dollars and it's only going up.

Beyers: No, it is only going up. I'm not going to say we're at peak game here, Chris, but this is from the Nvidia press release and it did make me laugh because we are of a similar age and I remember the original Castle Wolfenstein, and now there is a Wolfenstein: Youngblood. The gaming industry now has the Hollywood sequel syndrome.

Hill: Can you blame them?

Beyers: No, I can't. I can't even remotely blame them because it's making bucket loads of money and Nvidia is clearly profiting from it.

Hill: Last thing and then we'll move on. On a more serious note, you and I have talked before about cybersecurity as an industry. I've said recently on this show that I think cybersecurity is one of those must-have industries in a diversified portfolio. If you look at your stocks and you can identify the stock that is giving you exposure to this important and growing industry, you need to fix that. Do you think gaming is in that same category? Again, for a diversified portfolio of someone who's got 22-25 stocks, is it now in the category where you need to be able to point to the business that has some exposure to gaming?

Beyers: I think so, and especially with Cloud gaming. I really do think, let's just put a macro view of this for a second, all of the major public Cloud providers, and I'm even including Nvidia in this conversation, have some exposure to the gaming business. Alphabet has Stadia, which is Cloud gaming. There is an Xbox Cloud option that Microsoft is offering. Amazon is in this, I believe it's called Amazon Luna. Everybody is in this in some way. So yes, you should be able to point to something in your portfolio that says not only am I in gaming, but I am in the future of gaming, which is games delivered via the Cloud. If you needed more proof that this was important, just go ask Reed Hastings and how important it is to Netflix. It is a massive piece of the business. The distribution model for gaming is changing and maybe that's it, Chris, is that Nvidia, being the backbone for the delivery of so much stuff, is getting a lot of deserved credit in this part of the gaming business. The Cloud gaming business is a bit of a tailwind here for Nvidia.

Hill: Robinhood's first quarter report, really their first report as a public company, not received by investors the way I'm sure Robinhood's management would have liked. Revenue was 130% higher than a year ago, but the company warned that trading activity is slowing down, and that is a problem, Tim, because Robinhood is a trading app.

Beyers: Not only that, but trading is the vast, and I mean vast majority of Robinhood's revenues. They do have other revenues. They essentially break down, Chris, into what they call transaction-based revenues and net interest revenues. Just to put a finer point on this, net interest revenues, for the most recent quarter, let's call it $67.7 million, then they had about $47 million in other revenues. Their transaction-based revenues, $451 million. That's a lot more. You're essentially talking about 20% of revenues are non-transaction. The other 80% are all transaction-related, and the vast majority of that, Chris, is cryptocurrency. I know we've talked about Robinhood being a meme stock. I didn't know that the meme would actually represent the stock, that Robinhood is cryptocurrency and cryptocurrency is Robinhood. That's like a meme, but it's actually reality. I'll hit the number very quickly here, Chris. $5.3 million from cryptocurrency trading revenues in the June quarter of 2020. In the June 2021 quarter, $233 million, that is multiple orders of magnitude difference. Bitcoin, Ethereum, this is the stuff that makes Robinhood right now.

Hill: This was getting a lot of attention on CNBC this morning. You look at the crypto, you look at the trading volume, you look at the role that options trading plays in the trading volume. It is a fair question of Robinhood, how sustainable is this quarter after quarter?

Beyers: Right, and I think the answer to that is it is not sustainable. I think as an investor, the biggest risk I see here, Chris, is there are other crypto trading platforms. There are other options trading platforms. It is not like Robinhood has a monopoly on trading of these types of equities. There is a risk here too because if Robinhood, in order to protect this part of its businesses says, "Hey, we are going to make cryptocurrency trading easier," or "We're going to make options trading easier," won't regulators be looking at that and asking why we should make that easier because this is relatively new territory and we've had some ugly stories in this area. To be fair, options were up significantly, but not nearly as much as crypto. Options transaction revenue is still a big part of the story here. But I think the thing that's maybe most disheartening here is that revenue from equity trading from the June 2020 quarter to the June 2021 quarter, that was actually down. It was $70.6 million in 2020 versus $52 million in 2021, so you have literally people on the Robinhood platform saying, "I don't really like stocks anymore. I want more options. Give me more options, give me more crypto." That's pretty disheartening.

Hill: Shares of Cisco Systems are up a bit and hitting a two-year high today after fourth quarter revenue came in 8% higher than a year ago. I don't want to throw a lot of shade in a company that's worth nearly a quarter of $1 trillion, but Cisco Systems really does seem to be making a good number of acquisitions to fuel their growth.

Beyers: There's no doubt. I mean, there's absolutely no doubt. I think the way to think about it is over the past year, there have been nine acquisitions, and you can think about it this way. Overall, revenue was up about 8%. Cisco believes, at least according to what we're seeing in the public-facing announcements here, that they can do 5-7%, up to 8%, maybe a little higher than that. This is not a double-digit revenue growth story anymore. What does it cost to buy that revenue? I'm not going to say that Cisco is a bad company and you should avoid it, but you should know what it costs to get that growth. Over the last year, there's been about $10 billion spent. $7 billion on cash acquisitions and about $2.8 billion on share repurchases. Those share repurchases really didn't go to retire a bunch of Cisco shares. In fact, the share count was down less than half of 1%. It essentially was to take shares issued for something, maybe something like an acquisition, and retire those shares to reduce dilution. You are essentially paying $10 billion to get $500 million extra in revenue over the past year. That's not a perfectly fair comparison because acquisitions do take some time and some of that $500 million probably came from some earlier acquisitions. But it is increasingly expensive for Cisco to buy the growth that it's getting. If it stopped buying companies, Chris, I think this would be a negative growth story.

Hill: Yet it is roughly the same market cap as Oracle. These are two businesses that are frequently mentioned in the same sentence in terms of what they do with their history, both corporate and as stocks. I guess my question is, is Oracle a stock that should be higher on someone's watch list than Cisco Systems if they are looking for this type of business?

Beyers: I think so. The reason I think so is because Oracle does not need to stitch together acquisitions in the same way that Cisco does. Oracle does have a meaningful business. Now, you could argue its legacy business and its legacy database is shrinking and maybe has some fading relevancy. But I'll tell you what doesn't have fading relevancy, which is Oracle Cloud. It may not be the top cloud, but you know who uses it? We're using it right now. It's on Zoom. I have some strong objections to parts of Oracle, but I will not stand on a soapbox and say, "This is equivalent to Cisco." It is not. It is absolutely not. The Oracle Cloud is very high performance. It is differentiated. It's got some big customers. It's working on some interesting database technology. I still like some of the other database vendors better, but if you want exposure to legacy tech, yeah, I'll take Oracle over Cisco eight times a week.

Hill: Tim Beyers, always great talking to you. Thanks so much for being here.

Beyers: Thanks, Chris.

Hill: As always, people on the program may have interest in the stocks they talk about and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear. That's going to do it for this edition of MarketFoolery. The show is mixed by Dan Boyd. I'm Chris Hill. Thanks for listening. We'll see you on Monday.