I admit it: I didn't get in early enough with Nvidia (NVDA -0.29%). I own a few shares, but I plan to buy more shortly. I believed the price was too high for a long time, but now, I have woken up to the fact the stock could actually be a bargain. Demand for the company's high-performance hardware and software is immense, and artificial intelligence (AI) will drive its business for many years.
I find that visuals tell a story much better than I can. Let's take a look at three charts that illustrate just how compelling Nvidia's growth story can be.
Demand will accelerate
Many people believe AI and machine learning (ML) will be as revolutionary to society as the internet has been. Those of us old enough to remember life before the internet (and even home computers) know that work and life were altered in almost every way.
Some effects of AI are easy to see, such as virtual customer service agents and chatbots that reduce wait times and answer increasingly complex queries. Improvements thanks to programs like ChatGPT (which Microsoft has invested in heavily), Alphabet's Bard, or Perplexity AI revolutionize internet search. Rather than typing something into Google and then parsing through websites, these programs do that work for us and summarize the findings. For businesses, picture the cost and time savings for an accounting firm that can use AI to summarize text from complex tax codes.
Not every company was on board when the internet transformed the market. Many, like Borders and Blockbuster, failed. Blockbuster had the opportunity to purchase Netflix for $50 million in 2000. But co-founder Marc Randolph said Blockbuster execs "laughed us out of the room." Netflix got the last laugh as the company is now worth $165 billion.
What's the point? Forward-thinking companies want to avoid Blockbuster's fate, and their budgets will now include significant spending to study and incorporate AI. The AI market is expected to grow from $207 billion this year to $1.8 trillion by the end of the decade, according to data from Statista.
Image source: Statista.
This spending is spread across many industries, but they all have one thing in common: They need vast amounts of data processed and interpreted incredibly quickly. In short, they need Nvidia.
It leads to incredible growth and margins
Many of us use cloud software daily. If you use Microsoft Office or other applications at work, it is probably cloud-based. The software I am using to write this article is in the cloud. AI will also run mainly in the cloud. This software requires massive data centers to process and store data, and these data centers need Nvidia's hardware and software. That demand fueled the 171% year-over-year growth in data center revenue in the most recent quarter. Total sales doubled year over year to $13.5 billion.
In this environment, Nvidia has immense pricing power, leading to margins unheard of for chip companies until recently. Nvidia achieved a 70% gross margin and 50% operating margin last quarter, much higher than competitors like Advanced Micro Devices and Intel, as you can see below.
Data by YCharts.
There is no better testament to Nvidia's technological lead than its dominance over the competition.
Is Nvidia stock overvalued?
Given these tailwinds, Nvidia stock is up about 200% year to date. However, through the first half of fiscal 2024 (ended July 30), net income has surged 262% year over year to $8.2 billion. Earnings per share rose from $0.90 to $3.30 over the same period.
Valuing a company that is growing this quickly and profitably is complex. Some would look at the current price-to-earnings (P/E) ratio of 105, laugh, and walk away from the stock. But that would be a mistake.
Nvidia's valuation shrinks drastically on a forward-looking basis due to its incredibly bullish outlook.
Data by YCharts.
The top chart is the P/E based on its past four quarters of results, while the bottom is based on analysts' estimates for its fiscal 2025 earnings. Put simply, analysts expect the company's earnings to quadruple in the next 18 months or so. And for comparison sake, Microsoft's forward P/E ratio is 25, just slightly below Nvidia's.
Despite Wall Street's bullish projections for the company, analysts have been behind the curve in raising their estimates for Nvidia. With this new perspective on the stock's valuation -- plus its soaring demand and unmatched margins -- Nvidia remains an attractive growth stock for long-term investors.
