Challenges And Opportunities For NVIDIA Corporation (NASDAQ:NVDA)

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Nvidia Corporation (NASDAQ:NVDA) is the chip provider to beat in the graphic processing unit (GPU) market. The company controls more than 70% of the GPU market. However, Nvidia has lost key sockets to its main rival, Advanced Micro Devices, Inc. (NASDAQ:AMD), in the GPU segment. Can the company reinvent itself to capture lost share in the GPU market and grow in new segments?

In recent times Nvidia has been trying to look for redemption in the mobile market to offset the frustrating secular decline in the PC market. The company is funneling more and more money to fund research and development projects to advance its existing product lineup and also to develop new products to give it power to penetrate new markets such as smartphones and tablets.

While Nvidia Corporation (NASDAQ:NVDA) is putting forth all the necessary efforts to remake itself, what seems clear is that the company’s efforts may not lead to meaningful positive impact on performance in the short-term. However, in the long-term, the company looks well-situated to benefit from the shift to mobile computing devices from PCs.

Positive moves

R&D investment:

Nvidia Corporation (NASDAQ:NVDA) is investing heavily in R&D to enable it to increase penetration in the new markets, especially smartphones, tablets and headsets. The company hiked its R&D spending to 29% of revenue in fiscal year 2015, from 26.8% in 2013.

Investment in R&D is expected to remain high through fiscal year 2016 and beyond as Nvidia attempts to develop more advanced chips to enable it to continue squeezing revenue even from the aging PC and gaming businesses and to gain shares in mobile.

Streamlining:

Nvidia is exiting the modem chips business, a noncore operation, so that it can focus more on businesses with higher-growth and high-margin potential. The company announced plans to sell the technology or operations of its Icera modem business. Nvidia expects charges of between $100 and $125 million in fiscal year 2016, relating to the wind-down of Icera modem operations, but after that it will be able to save on operating expenditure and concentrate more in new growth areas.

The success of Nvidia Corporation (NASDAQ:NVDA) will come from new markets. However, the company’s success in segments like smartphones and tablets depends on OEMs using robust operating system that are also friendly to developers and also offering their devices at the right prices to encourage uptake.

Having lost many gaming sockets to AMD, Nvidia is banking on SHIELD for redemption in the gaming consoles segment.

Risk areas

Decline in PC market:

Nvidia has been caught up in the secular decline of the PC market, which has affected other players like AMD and Intel Corporation (NASDAQ:INTC). The company is trying to offset the PC impact by turning the focus to the mobile platform with the management citing that mobile business is expected to grow at a compound annual growth rate of 45% this year.

However, the company’s large exposure to PC means that its revenue will remain under pressure, especially as a decline in the PC market accelerates faster than normal growth in the new segments.

Currency translation impact:

Nvidia Corporation (NASDAQ:NVDA) generates most of its revenue outside the U.S., which makes it vulnerable to adverse currency fluctuations. Many multinationals have reported unfavorable impacts on their sales because of the stronger U.S. dollar that make their products expensive in foreign markets. A stronger dollar also denies multinationals the opportunity to offer incentives to boost sales overseas and Nvidia is not immune to the same, especially given its excessive exposure to foreign markets.

Poor revenue distribution:

Nvidia’s revenue sources are concentrated at the top. The company generates most of its revenue from its top two customers. In fiscal year 2015 Nvidia generated 20% of its revenue from two of its largest customers, which shows poor revenue distribution that makes the company vulnerable and also puts more pressure on it to improve customer relations. For example, Nvidia has to invest in a lot of resources in efforts aimed at pleasing customers because the loss of even a single customers at the top can lead to significant revenue loss.

As competition heats up in the chips market, Nvidia may also find itself under customer pressure to make its products cheaper than rivals, thereby hurting margins and profitability.

Reporting revenue:

Nvidia Corporation (NASDAQ:NVDA) reports revenue in three segments, namely the GPU business, which consists of GeForce high-end chips for notebooks and desktops. The GPU division accounts for 82% of fiscal year 2015 revenue. The other segment is the Tegra Processors Business that takes into account the Tegra line of products and accounts for 12% of 2015 revenue. The third reporting segment is the ‘All Other’ category, which encompasses licensing revenue including agreements with Intel, and which accounted for 6% of revenue in fiscal year 2015.

Revenue geographies:

The company generated 34% of its fiscal 2015 revenue from Taiwan and 20% from China. The company scooped 17% of its revenue from the U.S. and 14% from other Asia-Pacific markets. Europe accounted for 7% of fiscal year 2015 revenue.

It is this vast exposure to foreign markets that puts Nvidia at great risk of unfavorable currency movements.

Second Quarter 2016 Outlook

Nvidia Corporation (NASDAQ:NVDA) guided revenue in the band of $990 million to $1.03 billion, which at the midpoint comes to $1.01 and represents a potential sequential decline of 12%. The midpoint of the guided second quarter 2016 revenue is also below the Street’s estimate of $1.18 billion.

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Source: Company filings, ResearchCows.

The reason for the tepid second quarter 2016 outlook is partly because PC and gaming markets are seasonally low in the quarter. Nvidia also cited weakness in PC markets as being caused by OEMs cooling ahead of Microsoft Corporation (NASDAQ:MSFT)’s Windows 10 release in the summer. The other reason the company cited for the weak outlook is unfavorable foreign currency conversion rates, which is made worst by its excessive exposure to offshore markets.

Conclusion

Nvidia Corporation (NASDAQ:NVDA)’s move to target new markets for growth amid decline in the PC market is commendable. The company’s investment in R&D also shows forward-thinking by the management because the company needs to reinvent itself in the labs as well as in the field with new marketing strategies to combat competition.

However, in the short-term, Nvidia will have to struggle with declining revenue as the PC market shrinks faster than growth of new imperatives. But the long-term should benefit from the foundations being laid down today in R&D centers and in revamped sales strategy.


Disclaimer: The opinions and data expressed herein by the author are not an investment recommendation and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisory capacity, nor is this an investment research report. The author’s opinions expressed herein address only select aspects of potential investment in securities of the company or companies mentioned and cannot be a substitute for comprehensive investment analysis. Any analysis presented herein is illustrative in nature, limited in scope, based on an incomplete set of information, and has limitations to its accuracy. The author recommends that potential and existing investors conduct thorough investment research of their own, including detailed review of the companies’ SEC filings, and consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author’s best judgment as of the date of publication, and are subject to change without notice.

Neha Gupta

Neha Gupta has been in the financial space for over six years now. Gupta earned her MBA degree from Symbiosis Centre of Distance Learning in 2009 and her passion for finance led her to pursue Chartered Financial Analyst (CFA) course. She has successfully completed Level II of her CFA. She is a veteran in article writing, which is depicted in her numerous pieces published on SeekingAlpha, Nextiphonenews, InsiderMonkey, MarketWatch, and Techinsider. Her crisp and eloquent writing finds its best place in Researchcows, where emphasis is given on developing rich content for various websites, products, business plans, trainings, and book writing.

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