NVIDIA’s (NVDA, Financial) stock price has tripled in two years, moving from below $20 in January 2015 to above-$60 levels. Sales growth has been spectacular for the company that keeps running away from its competition, but the problem is that this growth has put rocket fuel under its stock, making it surge to nearly 6.5 times sales and 40 times earnings.
The valuation is indeed over the top if you start comparing NVIDIA’s price multiple to its peers in the industry, but the company has proved it can grow at a fast pace even when it operates in an industry that demands nonstop innovation. The big difference between NVIDIA and its competitors – such as Intel (INTC, Financial) and Advanced Micro Devices (AMD, Financial) – is that the company seems always to be a step ahead.
In the middle of the artificial intelligence fray
Take artificial intelligence (AI), for example. Even before its competitors realized there is market opportunity to capture, NVIDIA became part of IBM’s (IBM, Financial) Watson and Facebook’s (FB, Financial) Big Sur server for AI.
NVIDIA is also behind (or inside, rather) AI platforms of hyperscale giants such as Microsoft (MSFT, Financial), Amazon (AMZN), Alibaba (BABA, Financial) and Baidu (BIDU, Financial). Intel announced recently that the company is shifting its focus to the datacenter market as well as Internet of Things and is slowly picking up speed in the AI segment, but it is possibly a year behind NVIDIA, if not more. In an industry as competitive as this, a year's lead is something that can keep you in first place for a long time. In other words, in this industry the FMA, or first mover advantage, can be a make-or-break element.
Self-driving cars: Another NVIDIA strength
The automotive segment is another area where NVIDIA is emerging as a clear leader. The company is working with several companies to develop self-driving cars powered by NVIDIA’s end-to-end platform, starting with Tesla (TSLA, Financial) in the datacenter space extending to deployment with DRIVE PX2 in Baidu’s self-driving car project. As if that lead wasn’t enough, NVIDIA is collaborating with more than 80 companies using the open architecture of DRIVE PX to develop its own software and driving experiences.
No one really knows how far self-driving technology will go and how many autonomous cars we will see on the roads in the next five years, but we do know that companies are tripping over themselves to get ahead, with Tesla taking the lead role. The competitive nature of the industry is only going to fuel faster growth; in turn, this will force companies to make a beeline for the best supporting products available on the market. As of now these are obviously NVIDIA’s products.
The SpaceNet project
NVIDIA is also teaming up with Amazon on a huge project with the CIA-backed company CosmiQ Works on a project to create a massive database called SpaceNet that will allow the CIA to “counter global security threats” among other things. NVIDIA will be providing the training required for the artificial intelligence component of the system to make sense of billions of images captured by orbiting satellites.
The database will be open to the public, but the “actionable intelligence” that NVIDIA will help generate may not be shared in the same spirit.
The impact on NVIDIA’s valuation
Whether they realized it or not, these several factors have led investors to reward the company with such high valuation numbers. Investors know that NVIDIA can continue to post record-breaking sales growth figures quarter after quarter, and the company is now starting to look like a hyper growth organization. While this leads the market to throw caution around "margin of safety" to the wind, that’s something investors will have to live with, at least in the short to medium term.
The best way to invest in this type of business – in which valuation starts to go over the top but business prospects are solid – is to take it one step at a time and build into a position instead of putting all your money into a single, large purchase.
The company doesn’t go by the tenet “slow and steady,” but your investment in it should.
Disclosure: I have no positions in the stock mentioned above and no intention to initiate a position in the next 72 hours.
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