Over the last few years, Nvidia (NVDA -3.33%) has benefited from a combination of strong demand and skyrocketing selling prices for its graphics processing units (GPUs) designed for gaming. In early 2021, average selling prices for GPUs were about 150% to 200% above the manufacturer's suggested retail price (MSRP).
Supply shortages have caused massive GPU inflation, but as supply becomes more plentiful, selling prices have been plunging over the last few months. Some models of Nvidia's GeForce RTX GPUs are being discounted below the suggested retail price.
There are two reasons for lower selling prices:
- Lower consumer demand across the PC market. The International Data Corp. reported that PC shipments declined 15% in the second quarter, an acceleration from the 5% decline in the first quarter.
- Lower cryptocurrency prices, which have caused mining profitability to collapse. This has removed an incentive for cryptocurrency miners to spend thousands of dollars on new GPUs. It's unclear how much of Nvidia's gaming revenue comes from crypto miners, but this is a factor contributing to lower GPU demand.
Nvidia will report fiscal second-quarter earnings on Aug. 24. The market's expectations are low heading into the update, with the stock price down 42% year to date. Here's how slowing growth in the gaming business could affect the company in the near term.
Prepare for lower growth in the gaming segment
Gaming revenue totaled 46% of Nvidia's business last year. It's given up some ground to the fast-growing data center segment, but gaming is still an important growth engine, delivering year-over-year revenue growth of 31% in the fiscal first quarter ending May 1.
| Segment | Fiscal Q1 2023 | Change (YOY) |
|---|---|---|
| Data center | $3.75 billion | 83% |
| Gaming | $3.62 billion | 31% |
| Professional visualization | $622 million | 67% |
| Automotive | $138 million | (10%) |
| OEM and other | $158 million | (52%) |
| Total revenue | $8.29 billion | 46% |
Data source: Nvidia. YOY = Year over year.
Manufacturing lead times can extend up to 12 months or longer, so Nvidia has to estimate future demand with a reasonable degree of accuracy. If there is a significant mismatch between supply and demand, there can be severe price swings like we've witnessed over the last two years.
There are reports that Nvidia may cut its own selling prices for certain GPU models in the RTX 30 series to clear out excess inventory ahead of the upcoming 40 series. The new GPUs could launch by the end of the year. It's not clear whether management's previous guidance included any planned price cuts when the company last updated investors in May.
Previous guidance called for revenue growth across all business segments to decelerate to 25% year over year for the fiscal second quarter. That is down from 46% in the previous quarter and 68% in the year-ago quarter. The lower guidance implies slowing momentum in gaming, which already started to show decelerating growth in the fiscal first quarter.
Investors should brace for bad news on the horizon. Given the acceleration in the decline of PC shipments in the second quarter, it's possible that GPU demand has dropped further than when management last updated investors in May, so investors shouldn't be surprised if the company's fiscal second-quarter earnings results come in below guidance when they are released Aug. 24.
Why the stock is still a buy
Investors shouldn't lose the forest for the trees. Nvidia has experienced a trend in recent years of gamers upgrading to more expensive GPUs. Over the last four years, gaming revenue grew at a compound annual rate of 23%, with a balanced increase across unit sales and average selling prices. Management mentioned during the investor day presentation in March that it expects this trend to continue in the future.
Nvidia is set to grow gaming revenue for years. Between 2018 and 2021, the number of PC gamers globally increased from 1.49 billion to over 1.79 billion, according to DFC Intelligence. The global PC gamer population is expected to reach 1.88 billion by 2025.
Nvidia is the leader in desktop add-in board GPUs, with a 78% share of the market, according to Jon Peddie Research. If Nvidia holds that lead, which it has for almost two decades, it is looking at a pool of millions of new customers over the next few years.
Nvidia sees a long-term addressable market in gaming of $100 billion based on the expectation that the average GeForce user will spend about $100 per year upgrading their GPU, or subscribing to Nvidia's cloud gaming service, GeForce Now.
Nvidia's gaming business will be larger in 10 years than it is today. This top growth tech stock's forward price-to-earnings ratio has fallen from over 60 to 31 this year, which seems like a great value for a company with such a long runway of revenue growth ahead.
