The semiconductor chip is one of the most important parts of artificial intelligence (AI). Graphics processing units (GPUs) play a major role in generative AI applications, including machine learning, accelerated computing, and large language models (LLMs).
At the center of GPU manufacturing is "Magnificent Seven" member Nvidia (NVDA +1.34%). Demand for its flagship A100 and H100 chips is soaring, and investors haven't been shy about cheering on the stock. As of the time of this writing, Nvidia is the world's third-most-valuable company by market cap -- handily ahead of Amazon and Alphabet.
Investors may not realize that Nvidia is more than just a hardware developer. The company has a budding software business and is funneling capital into several other growth drivers, including robotics and voice-powered AI assistants.
Below is a breakdown of the current state of Nvidia's business. I'll also assess why software could prove to be a lucrative source of growth for the company in the long run.
NASDAQ: NVDA
Key Data Points
The chip business is booming
For Nvidia's fiscal 2024, which ended Jan. 28, 2024, the company increased revenue 126% year over year to $60.9 billion. The majority of this growth was due to rising interest in GPUs. This is captured in Nvidia's data center segment, which grew 217% annually to $47.5 billion last year.
Nvidia is considered the market standard for high-performance GPUs and has amassed superior pricing power over the competition. This dynamic not only influenced the company's robust top-line growth but also played a significant role in its profitability. In fiscal 2024, the company grew free cash flow by more than sixfold and increased its gross margin from 56.9% in fiscal 2023 to 72.7%.
The most encouraging part about all this is that Nvidia's growth is coming almost entirely from the chip business. But during the earnings call, management subtly dropped a hint at what the company's next frontier could look like.
Image source: Getty Images.
Something bigger could be on the horizon
During the recent earnings call, Nvidia's Chief Financial Officer Colette Kress stated that the company "also made great progress with our software and services offerings, which reached an annualized revenue run rate of $1 billion in Q4." This is a big deal because it showcases Nvidia's ambitions to build beyond semiconductors.
Moreover, while Nvidia currently dominates the GPU market, competition from Amazon, Microsoft, and Advanced Micro Devices is heating up. Although it's hard to know for sure, I suspect that as more chips come to market, Nvidia will gradually begin to lose its command of the market. As such, investors should anticipate some margin deterioration at some point in the years ahead.
Nevertheless, the software business could represent a silver lining amid rising competition in the chip space -- namely, software tends to carry much higher margins than hardware. Even if other players start eating at Nvidia's market share in the GPU space, the company has identified a fast-growing, high-margin business to mitigate this risk.
Additionally, while reaching a $1 billion revenue run rate is impressive, the software business is still small compared to Nvidia's core data center operation. However, if recent demand trends are any indication, the software platform could become a major source of growth sooner rather than later, as Nvidia offers an end-to-end AI networking solution.
How could Nvidia leverage software?
I see two areas where Nvidia can deploy its software. The first is in voice-powered AI assistants. Competitors, including Apple, Microsoft, Amazon, and Alphabet, have all shown an interest in speech-recognition software. This isn't surprising, considering industry estimates suggest that the addressable market for speech-recognition software could reach $50 billion by 2029.
Nvidia is the latest megacap tech business to join the party, following an investment in SoundHound AI. While SoundHound AI is still quite small, the long-term prospects of a partnership with Nvidia could prove lucrative.
The other area where I think Nvidia could play a big role in AI software applications is robotics. Following news of the SoundHound AI deal, Nvidia joined OpenAI, Microsoft, Jeff Bezos, and Intel Capital in a $675 million funding round in Figure AI -- a developer of humanoid robots. According to Goldman Sachs, the addressable market for humanoid robots could reach $38 billion by 2035, given their potential to disrupt the labor market in industries such as manufacturing and logistics.
Robotics could be an especially interesting area for Nvidia, as the company can help further develop this technology through both its chip and software businesses. I think Nvidia's growth is just getting started. I think the company can keep up the momentum for years to come, and I am excited to see how it continues to disrupt the AI revolution.
