Shares of top semiconductor company Nvidia (NVDA 3.65%) have rallied sharply off of 52-week lows, increasing over 40% from mid-October through November. However, the top AI stock remains over 50% down from all-time highs as it and other high-growth companies get clobbered by the bear market of 2022.
Nvidia has been taking aggressive action to correct an oversupply of GPUs (graphics processing units) used for high-end video game graphics. Demand for its data center hardware is largely offsetting this temporary weakness, creating hope that Nvidia will return to overall expansion in 2023. However, even at this early stage of a cyclical downturn (or, more accurately, a cyclical slowdown) for the chip industry, Nvidia still has levers it can pull to keep investor engagement running high. To wit: In its latest quarter, Nvidia showed off its ability to return excess cash to shareholders via share repurchases.
Nvidia's $3.5 billion gift
Nvidia's balance of cash and short-term investments had been steadily growing through the end of 2021. Some of this cash was going to get used up in the acquisition of ARM Holdings from current owner Softbank, but that got shot down by regulators.
Instead, Nvidia was left with a stockpile of liquidity headed into this downturn for its video game segment. Revenue from video game GPUs (which were also being used to mine cryptos like Ethereum before it switched away from that method of network management) fell 51% year over year to $1.57 billion in Q3 fiscal 2023 (the three months ended in October 2022). This helped more than offset a 31% increase in data center revenue to $3.83 billion in Q3.
However, it isn't a contraction in sales that is causing that cash horde to dwindle. On the contrary, while Nvidia's overall sales are falling, the company remains profitable. Net income was $680 million in Q3 (up from $656 million in Q2). On a free-cash-flow basis, Nvidia lost $138 million in Q3 (versus positive free cash flow of $837 million in Q2).
Data by YCharts.
So where's the money going? Share repurchases, an oft-used method of returning cash to shareholders among tech companies (as an alternative to cash dividend payments). Share repurchases lower share count, which helps boost earnings per share over the long term -- assuming a company uses them to continue shrinking its total shares outstanding, and at the very least keeps its profitability steady over the same period.
Through the first three quarters of its 2023 fiscal year, Nvidia has returned $8.83 billion to investors via share repurchases, including $3.49 billion in Q3.
How share repurchases are a tailwind for Nvidia
Nvidia is a growth company, and it operates in the historically cyclical semiconductor industry. At first blush, the company using up its cash right as profits dry up (at least temporarily) may seem like a bad deal. But if management expects a full recovery and for growth to eventually resume, then share repurchases right now when pessimism is running high can be an excellent use of cash long term.
You see, if and when profits make a comeback, fewer shares mean more profit for those left over. In other words, share repurchases done right are like a bigger pizza and fewer mouths to feed.
While things don't look great for the business right at the moment, AI and high-performance computing applications are just beginning to proliferate through every sector of the economy. Nvidia has turned itself into a platform business, able to address all sorts of needs for a myriad of customers. And besides designing chips, it's also early on in creating a cloud-based software subscription business, too. This makes Nvidia a truly unique business among semiconductor stocks.
Along the way, the company has built a highly profitable empire. Even in a bad run like it's had as of late, trailing-12-month operating profit margins are well over 20%. Besides the new use for its cash via stock repurchases, Nvidia has made good use of its cash over the years -- investing in research and development for new uses for its chips.
Data by YCharts.
I like Nvidia's use of excess cash this year. I don't expect this stumble in growth trajectory to last long, and Nvidia is rewarding its investors in the interim with a sizable cash return via share repurchases. When profits come roaring back (perhaps next year), a lower share count could pay off big time for owners of this top semiconductor stock.
