Computing component makers can be wildly profitable -- sometimes more so than the companies that make the devices they power. Investors interested in component stocks should consider NVIDIA (NVDA 4.00%) and Intel (INTC 1.79%), two of the most successful companies in the space.
NVIDIA dominates the GPU market
NVIDIA derives the overwhelming majority of its sales from its graphics processors, which power the high-end traditional PCs used by professionals and gaming enthusiasts. Last quarter, roughly 82% of NVIDIA's revenue came from its GPUs. It's a market NVIDIA increasingly dominates: According to Jon Peddie Research, 77.5% of discrete graphics cards sold in the first quarter were powered by NVIDIA's chips, up from 65% in the fourth quarter of 2013.
Although the broader PC market has declined in recent years, NVIDIA's sales have remained relatively stable. NVIDIA's GPU revenue rose nearly 5% on an annual basis last quarter; its gaming-related revenue rose 25%.
The market for NVIDIA's GPUs also could grow in the quarters to come. The virtual reality headset Oculus Rift, which is set to debut early next year, will require a relatively advanced discrete graphics card to function.
NVIDIA is also aggressively expanding into new verticals. Its Tegra chips haven't had much success in the tablet and smartphone markets, but NVIDIA remains committed to Tegra as a way to power next-generation products, including consumer drones and self-driving cars. German auto giant Audi has embraced NVIDIA's Tegra, using it as the basis of its autonomous driving platform.
NVIDIA isn't a cheap stock compared to its peers, but it isn't overly expensive, either. Its trailing price-to-earnings ratio of 18 is roughly in line with the broader S&P 500, and it yields just under 2%.
Intel is even more dominant, and even cheaper
Intel's processors are found in the overwhelming majority of traditional PCs. According to research company IDC, Intel CPUs powered 90% of notebooks and 82% of desktops in the third quarter last year. Intel is heavily reliant on the PC -- those chips fall under Intel's Client Computing Group, which generated nearly 60% of its revenue last quarter (the segment also includes sales of Intel's mobile chips, but they've historically brought in negligible sales).
Intel's PC market exposure has made it a target for short-sellers, as the PC market has remained depressed. According to research company Gartner, PC shipments fell 5.2% in the first quarter. But Intel is an inexpensive stock -- it trades at less than 13 times trailing earnings and presently yields over 3%, and Gartner is bullish on the PC over the long run. It believes the market for traditional PCs will expand slowly over the next five years.
The other 40% of Intel's revenue is composed of several different business segments, some of which are showing impressive growth. Intel's Data Center Group saw its revenue rise more than 19% last quarter, while its operating income rose more than 27%. Intel's management believes it has room for further growth. Last year, its Data Center business brought in about $14 billion -- significant, but Intel believes the total addressable market is nearly $50 billion. Intel has taken steps to boost this business, including Its recent acquisition of Altera.
There's also Intel's Internet of Things business. It's relatively small -- it brought in just $2.1 billion last year -- but it has significant potential. It grew 11% year over year last quarter, and Intel's management expects similar growth throughout 2015. If Intel can continue to execute, that growth could continue for some time, since -- in general -- the Internet of Things remains in its infancy. Gartner believes 25 billion connected "things" will be in use by 2020, up from 4.9 billion things in 2015.