Nvidia (NVDA 4.05%) had an exceptional year in 2021 and has delivered extraordinary returns for shareholders over the past several years. The company continues to innovate, and its latest graphics processing units (GPUs) are highly sought after by gamers.
What's more, Nvidia is in an excellent position to benefit from massive secular tailwinds, including the proliferation of artificial intelligence. It's no secret the company has excellent prospects in the near term and great opportunities in the long term. However, some of the good news could be priced into the stock. Let's look closer at Nvidia's business and determine if it's too expensive for 2022.
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Nvidia is benefiting from several tailwinds
Interestingly, Nvidia's business is prone to ups and downs. Over the last decade, Nvidia experienced revenue decreases in two different years. It delivered four unique years of revenue growth of over 20% during that same time. The cyclicality of sales, typically related to product launches, adds an element of risk. Still, through the ups and downs, Nvidia managed to grow revenue at a compounded annual rate of 16.8% in that time.
Its high-performance computing solutions for cloud providers are fueling its growth most prominently in recent years. To be sure, every primary cloud provider uses Nvidia's products, a decisive vote of confidence from the industry. The segment (Data Center) has grown revenue at a compounded annual rate of 82% from 2017 to 2021.
The coronavirus pandemic has accelerated the move away from on-premise computing solutions to cloud-based. The trend is unlikely to turn around, as the cloud offers better scalability and allows businesses to change what used to be a considerable capital expense to a recurring payment.
While it's not growing as quickly as the Data Center segment discussed above, Nvidia's gaming segment is still the biggest. The company's graphic processing units power more than 200 million gaming PCs worldwide. Nvidia's lead is so dominant in the gaming segment that it has three times the revenue compared to the No. 2 provider. From 2017 to 2021, sales in its gaming business grew at a compounded annual rate of 22%.
However, that does not tell the whole story. Demand for its GPUs is far outpacing supply. Resellers are selling the units at prices that are multiples higher than the manufacturer's suggested retail price. Nvidia is cautiously investing in adding capacity, and as it supplies more units to match demand, revenue in the segment could continue higher.
In the longer term, Nvidia is likely to benefit from the transition to self-driving cars, trucks, and buses. Additionally, Nvidia is expecting to be a significant player in the rise of the metaverse. These industries are a small fraction of its current revenue base, but they could grow to a considerable sum in the next decade.
Is Nvidia's stock price too high?
Nvidia's business continues to evolve and grow to take a meaningful share in the industries it serves. Moreover, the evolution has expanded its operating profit margin from 16.2% in 2012 to 27.2% in 2021. It's easy to understand why its stock is up 7,400% over the last decade.
Nvidia's financial metrics. Data by YCharts.
That being said, it looks as though the price appreciation is getting ahead of operating performance. When measured by its price to sales, price to free cash flow, and price to earnings, Nvidia is trading at near its highest prices in the last decade (see chart). While Nvidia is undoubtedly an excellent business, it could be too expensive to buy right now. Investors would be prudent to wait for a pullback to start accumulating shares.
