In a technology sector full of hype and extreme valuations, it can be tempting to gravitate toward value stocks trading at relatively lower multiples of their revenues and earnings. Investing in these types of companies can help keep your portfolio grounded in realistic expectations.
That said, some stocks are cheap for a reason. Super Micro Computer (SMCI 4.23%) is an excellent example of that category.
With a price-to-sales multiple of just 0.99 and a forward price-to-earnings ratio of 17.4, the data center hardware company might look like an affordable alternative to tech industry leaders like Nvidia. After all, both companies serve the pick-and-shovel side of the AI industry, providing the hardware that other companies use to power their advanced software.
But there are a host of deep differences between the two companies that explain their widely diverging performances, and that are likely to remain in play over the next five years.
NASDAQ: SMCI
Key Data Points
Why did Super Micro look like a strong buy?
After OpenAI publicly launched ChatGPT a few years ago, Supermicro's stock experienced a legendary rally that lifted it by more than 1,000% to an all-time high of $119 in March 2024. The company was a direct way to bet on the boom in AI data center construction because it turns the GPUs, CPUs, and memory chips created by other companies into ready-to-use computer servers.
Supermicro also focuses on energy-efficient designs and liquid cooling systems to manage heat, which is particularly vital for servers being built for power-hungry use cases such as training and running large language models (LLMs).
However, in August 2024, the stock began to slide after short-seller firm Hindenburg Research published an alarming report accusing Supermicro management of accounting irregularities, sanctions evasion, and self-dealing, among other problems. Shortly after, the company delayed filing its fiscal 2024 annual report, and its auditor resigned, citing an unwillingness to be associated with the tech company's financial statements.
The situation was bad, but it also looked like a buying opportunity because these issues had very little to do with the company's core business of selling computer servers. Furthermore, in December 2024, the independent special committee that was formed to investigate the accusations found no evidence of fraud by Supermicro.
However, the fiscal 2026 first-quarter earnings report it delivered last month turned the buy thesis on its head.
Why have I lost interest in Super Micro?
While most analysts focused on Hindenburg Research's now arguably debunked claims of accounting irregularities, the short-seller also mentioned other issues that now seem increasingly relevant. Chief among them is competition in the server market, which they asserted would soon be flooded with hardware from low-cost Taiwanese competitors willing to sell their servers at gross margins as low as 4.1%. That's significantly lower than the 14.1% trailing-12-month margin Supermicro had at the time of the report.
Image source: Getty Images.
Historically, Super Micro has managed to maintain impressive gross margins, which suggests customers are willing to pay a premium for its servers. However, its fiscal first-quarter results suggest its economic moat is fading. For the period, which ended Sept. 30, net sales dropped around 15% year over year to $5.02 billion, which is surprising considering the demand for data center hardware. For context, Nvidia, which has a long-established arrangement with Super Micro, saw its sales jump 56% year over year.
Supermicro's business model involves packaging Nvidia's GPUs into client-ready servers, so the disparity in their top-line performances suggests the level of competition in the server space may be stiffer than anticipated. Furthermore, Supermicro's gross margins slid from 13.1% in the prior-year period to 9.3%.
Where will Super Micro stock be in five years?
If there is any silver lining to Supermicro's situation, it would be its valuation. Trading at a forward price-to-earnings multiple of 17.4, the stock is still significantly cheaper than the S&P 500's average of 22. But it's hard to get excited about the long-term potential of a data center equipment provider that is failing to grow during a massive data center boom. The next five years will be challenging, and shares have a very high likelihood of underperforming the market.
