Nvidia's stock (NASDAQ:NVDA) hit an all-time high after the chipmaker posted its third-quarter earnings report on Nov. 17. Its revenue rose 50% year-over-year to $7.1 billion, beating estimates by $290 million. Its adjusted net income increased 62% to $2.97 billion, or $1.17 per share, which also exceeded expectations by six cents.

Those numbers are impressive, but many investors are likely wondering if it's too late to buy Nvidia's stock, which already rallied about 150% this year and soared more than 520% over the past two years. Let's see why Nvidia's stock caught on fire, and if it's finally getting a bit too hot to handle.

An "omniverse" avatar of Nvidia CEO Jensen Huang.

Image source: Nvidia.

Understanding the tailwinds

Nvidia went public more than two decades ago, but three tailwinds have caused its growth to accelerate over the past few years. First, a new generation of high-end PC games generated fresh demand for its gaming GPUs. Robust sales of Nintendo's Switch console, which was launched in 2017 and powered by Nvidia's Tegra CPUs, complemented that growth.

Second, the booming cryptocurrency market caused miners to place bulk orders for its GPUs. That initial surge caused a temporary shortage of GPUs for its core market of PC gamers, but Nvidia has been addressing that imbalance with a new line of dedicated cryptocurrency mining cards.

Lastly, big data center customers bought more of Nvidia's top-tier GPUs to process machine learning and AI tasks. GPUs can process those tasks more efficiently than stand-alone CPUs, and Nvidia is simplifying the entire process with its new DGX-series "AI data centers in a box". Nvidia also significantly expanded its data center business by acquiring the networking equipment maker Mellanox last April.

How fast is Nvidia growing?

Nvidia's revenue grew 53% to $16.7 billion in fiscal 2021, which ended this January. Its adjusted gross margin expanded 310 basis points to 65.6%, while its adjusted net income jumped 75% to $6.3 billion.

In the first nine months of fiscal 2022, Nvidia's revenue increased 65% year-over-year to $19.3 billion, its adjusted gross margin expanded 90 basis points to 66.6%, and its adjusted net income rose 83% to $7.9 billion.

That feverish growth was led by its gaming and data center markets, which were both well-insulated from the pandemic. But its three smaller segments (professional visualization, auto, and OEM) also generated impressive growth as they recovered from various pandemic-related disruptions:

Segment

9M FY 2021 Revenue

9M FY 2022 Revenue

Growth (YOY)

Gaming

$5.26 billion

$9.04 billion

72%

Data Center

$4.79 billion

$7.35 billion

53%

Professional Visualization

$746 million

$1.47 billion

97%

Auto

$391 million

$441 million

13%

OEM and Other

$478 million

$970 million

103%

Source: Nvidia. YOY = Year-over-year.

Nvidia expects its revenue to grow about 60% for the full year, which exceeds Wall Street's expectations for 58% growth. Next year, analysts expect its revenue and adjusted earnings to grow 18% and 21%, respectively, against increasingly difficult year-over-year comparisons.

Based on those estimates, Nvidia's stock looks a bit pricey at 64 times forward earnings and about 27 times next year's sales. It also faces two near-term challenges: the ongoing chip shortage and the regulatory scrutiny of its planned purchase of Arm Holdings, the world's largest mobile chip designer, from the Japanese conglomerate Softbank (OTC:SFTB.Y) for $40 billion.

Nvidia expects the chip shortage to last throughout next year, but the market's seemingly insatiable appetite for its chips should support its pricing power. In other words, higher GPU prices should enable Nvidia to overcome the near-term bottlenecks until the broader industry stabilizes again.

Nvidia reiterated its commitment to the Arm takeover during the conference call, but admitted the deal still faced a lot of regulatory hurdles in the U.S., the U.K., Europe, and China. The failure of the deal wouldn't hurt Nvidia, but it could hamper its development of additional Arm-based chips while cutting it off from a stream of higher-margin licensing revenue.

Is it too late to buy Nvidia?

Nvidia's stock is getting expensive, but its core strengths still support its premium valuation. I don't think Nvidia will replicate its monstrous gains from the past two years by the end of 2023, but I believe it can still generate solid returns as the gaming and data center markets continue to expand.

 
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.