Meta Platforms Just Threw Nvidia a Huge Lifeline

The semiconductor sector is in a sour mood as recession fears have mounted. Last week, news emerged that high-flying graphics chipmaker Nvidia (NVDA 0.76%) could see growth come to a halt in its large gaming segment. 

Economies are opening and inflation is eating into consumer purchasing power, which has depressed demand for PCs, phones, and video games. Meanwhile, the recent cryptocurrency crash has led to a glut of used Nvidia graphics chips, which are used in crytpo mining, as miners have dumped them into distributor channels. No wonder it was reported last week that Nvidia has asked foundry partner Taiwan Semiconductor Manufacturing to delay production of its new RTX GeForce 40 chip this year. TSM refused, which means Nvidia may have to take on huge amounts of inventory in 2022.

But while the near-term outlook for gaming GPUs is dour, Nvidia's data center segment just got good news from an unlikely source. 

Meta platforms is slowing hiring, but quintupling GPU investment

Another top tech name feeling the beginnings of an economic downturn is Meta Platforms (META 1.54%). Chief Product Officer Chris Cox sent a memo to employees last week saying Meta should be prepared to "prioritize more ruthlessly," and that, "we are in serious times here and the headwinds are fierce. We need to execute flawlessly in an environment of slower growth, where teams should not expect vast influxes of new engineers and budgets." In a question-and-answer session to follow, CEO Mark Zuckerberg said, "If I had to bet, I'd say that this might be one of the worst downturns that we've seen in recent history."

It's unclear if Zuckerberg meant Meta's stock, revenue growth, or the broader economy, but one thing is clear: Meta is cutting costs. In the meeting, Zuckerberg outlined a plan to slow down the hiring of engineers this year to between 6,000 and 7,000, down from his initial goal of 10,000 entering 2022. Zuckerberg also said the company would be "turning up the heat" on employees, with the hopes that underperformers voluntarily leave the company.

Big tech companies tightening their belts should be a bad thing for their suppliers, including semiconductor companies like Nvidia. However, in that same meeting, Zuckerberg and Cox also outlined a goal to increase the number of GPUs in its data centers by fivefold by the end of the year. That massive investment should be a boon for Nvidia, as the outright data center GPU leader.

Why GPUs?

While Meta is tightening its belt amid ad revenue pressure, it's also in a fierce competition with TikTok. The investment in GPUs is aimed at building Meta's Discovery Engine for its new Reels product and other content, which the company is counting on to take a bite out of TikTok's lead in short-form video.

The Discovery Engine Meta is building will rely on very sophisticated artificial intelligence (AI) to recommend posts and videos attuned to its users' viewing habits and their friends' interests. Back on the first-quarter conference call with analysts, Zuckerberg laid out his vision:

In the future, I think that people will increasingly turn to AI-based Discovery Engines to entertain them, teach them things, and connect them with people who share their interests. I believe our investments in AI, all the different types of content we support, and our work to build the best platforms for creators to make a living will increasingly set our services apart from the rest of the industry and drive our success. We're also finding that having an ambitious vision around building the world's Discovery Engine is attracting a lot of the most talented AI folks to work on this program.

This is why the data center market could remain strong

As the Federal Reserve raises rates and tightens economic conditions, growth will slow at the very least, and at worst, enter a recession. Of note, this is already being felt in the PC and smartphone market. High inflation coming out of the pandemic has led to a demand air pocket, with consumers still using the computers or phones they purchased in 2020 and early 2021.

However, Meta's GPU investment shows that large companies investing in AI and cloud computing are doing so for strategic competitive reasons. In general, AI and automation also leads to productivity and efficiency, which lowers total costs. Therefore, that spend is less likely to be affected in a downturn than consumer-facing markets. That's likely why Nvidia CEO Jensen Huang was so confident about the outlook for the data center segment as recently as late May. Of note, while Nvidia and rival Advanced Micro Devices have asked TSM to slow down production of chips related to laptops and gaming, they have not asked to delay production of leading-edge chips for servers.

Investors looking to buy semiconductor stocks at these beaten-down prices should probably look to those with large exposure to cloud data centers and AI. Those strategic investments are likely to hold up much better than those geared toward consumer discretionary devices in 2022.