Though Nvidia (NASDAQ:NVDA) is primarily known for designing and developing Graphics Processing Units (GPUs), it has considerably expanded its presence in the mobile computing domain. Despite the slowdown in the PC market, the company posted record revenue and margins in its fiscal 2013 due to its increasing exposure to the non-PC market. Non-PC revenue accounted for approximately 30% of Nvidia’s overall revenue in Q3 2012, compared to 7% three years ago. (Read: Nvidia’s Dominance In GPUs And Higher Tegrar Sales Lift Outlook)
Increasing its foothold in the fast growing smartphone and tablet markets remains a key growth strategy for Nvidia. The company began a focused push in mobile computing in 2011, with the introduction of Tegra 2 processors, and as a result of higher investments in the division, its Tegra revenues increased from $198 million in 2010 to $765 million in 2012.
Nvidia earns approximately 18% of its revenue from Tegra processors. Though the impact on valuation is minimal, higher Tegra revenues has helped cushion the persistent weakness in the PC market. We estimate Nvidia’s revenue from Tegra sales to rise to approximately $2 billion (>25% of revenue) over our review period.
Rising Demand For Mobile Devices
Despite macro headwinds, the mobile device market continues to grow at a rapid pace and is the fastest growing segment in the computer industry. We believe that an increasing demand from emerging markets and a number of upcoming product launches from key manufacturers will further steer mobile shipments in the future.
While the worldwide mobile phone sales declined by 1.7%, the smartphone shipments increased by 43% in 2012, according to Gartner. Smartphones currently account for 39% of the mobile phone market, but the proportion is expected to increase in the future. Gartner estimates the global mobile sales to reach 1.9 billion units and predicts the smartphone sales to rise to 1 billion units in 2013. 
Research firm IDC estimates the global tablet shipments to have reached 117 million units in 2012, a 65% increase from 2011, and forecast the market to rise to over 260 million units by 2016. 
Gartner estimates mobile phone shipments to climb to 2.2 billion units by 2016. We forecast the smartphone penetration in mobile phones to rise to 60%, i.e. 1.3 billion units by 2016. Thus, the combined smartphone and tablet shipments is expected to increase to 1.6 billion units by 2016 (1.3 billion smartphones + 260 million tablets), which translates into a CAGR of near 20% over 2012.
In comparison, we estimate Tegra sales to grow at a CAGR of 17% until 2016. While we believe that Nvidia will manage to expand its footprint in mobile computing, we think that the increasing competition will keep its growth rate lower than the industry average.
Nvidia’s Penetration In The Mobile Computing Market
In 2011 Nvidia began a focused push into mobile computing with its dual-core Tegra 2 processors. The company saw an approximate 200% increase in its Tegra-related revenue that year. In 2012, it launched the world’s first quad-core mobile computing chip, Tegra 3, which had performance of more than two times in terms of speed compared to Tegra 2. Scoring significant design wins - Google’s Nexus 7, Microsoft’s Windows RT Surface tablet, Lenovo’s IdeaPad Yoga 11, Fujitsu’s ARROWS X, World first RT device by Asus, etc. – Tegra 3 notched wins for around 30 devices in 2012. 
Nvidia earned $765 million from Tegra sales in 2012, a near 30% increase compared to 2011. Nvidia-powered tablets were up by almost 100% and remain the most important driver for its progress in the mobile computing space. However, the company’s progress in smartphones remains more or less stable with only a few design wins such as the HTC One X and LG Optimus 4X, to its credit.
We believe that the introduction of Nvidia’s next generation Tegra 4 family – Tegra 4 and Tegra 4i – will help it make a deeper foray in the mobile market, especially smartphones. Nvidia claims that it has already scored more design wins for Tegra 4 compared to the total design wins for Tegra 3.
LTE Capability To Expand Opportunities In Mobile Computing
Earlier this year, Nvidia introduced its next generation Tegra 4 processor and the Tegra 4i, which features built in 3G and 4G/LTE communication technologies.
Tegra 4 is the world’s first quad-core processor based on Cortex A15, ARM’s most advanced CPU core. The chip delivers a more realistic gaming experience, new camera capabilities through computational photography, faster web browsing and higher resolution displays. With an optional chipset, Tegra 4 also offers worldwide 4G LTE voice and data support. In addition, Nvidia claims that Tegra 4 consumes 45% less power than the Tegra 3 processor.
Tegra 4i is Nvidia’s first fully integrated 4G LTE mobile processor. It is the highest performance CPU core and is only half the size of its nearest competitor, Qualcomm’s Snapdragon 800. While Tegra 4 target new tablets and high-end smartphones designs, Tegra 4i focuses on bringing the super phone experience to the more affordable mobile market.
4G/LTE is the future of wireless connectivity for mobile devices, especially smartphones. Of the various technologies that are driving the market currently, LTE is seeing the strongest growth as carriers around the world increasingly shift to the new standard for wireless communication.
Increasing Competition From Qualcomm & Other Players
Dominating the production of LTE chipsets, Qualcomm (NASDAQ:QCOM) continues to lead the mobile market. The LTE leadership has allowed the company to command leading smartphone market share so far. It came out with its own quad-core chipsets, which reduces Nvidia’s advantage of offering the world’s first quad-core processor. While Nvidia expected to ship around 30 million Tegra processors in 2012, Qualcomm shipped 141 million chipsets in its fiscal Q4 2012 alone. 
The introduction of Qualcomm’s third-generation processors will further step up competition for Nvidia. Qualcomm claims to have already bagged a significant number of design wins for mid-range and high end smartphones and tablets, powered by its Snapdragon 800 and Snapdragon 600 processors. The new Snapdragon lineup, which will be available in commercial devices by mid-2013, is estimated to deliver as high as 40% improved performance compared to Qualcomm’s S4 Pro processor.
In addition to Qualcomm, Broadcom (NASDAQ:BRCM), Marvell, MediaTek and the relatively new entrant Intel (NASDAQ:INTC), Nvidia also faces competition from leading handset manufacturers – Apple and Samsung – who design their own chips in-house and could end up selling them to other device manufacturers in the future.
Nvidia’s Tegra processors are priced competitively. Tegra 3 processors cost anywhere between $15-$25, where as the Qualcomm mobile chipset averages around $21.  Judging by the number of significant design wins by Tegra last year, it looks like Nvidia’s processors are giving tough competition to Qualcomm. The mobile device market and the LTE market are expanding at a rapid pace, and we believe that there is plenty of room for both the players to sell a higher number of processors in the future.
How Does Higher Tegra Revenue Impact Nvidia’s Valuation?
While Nvidia earns approximately 18% of its revenue from Tegra processors, the division does not have a significant impact on its valuation. Nvidia is relatively new to this business and thus has to incur significant investment to increase its foothold in the mobile market. It currently earns negative operating margins from the Tegra division, and while we believe that margins will turn positive going forward, we estimate the same to remain lower compared to Nvidia’s other business segments.
Nevertheless, higher Tegra revenues has helped cushion the persistent weakness in the PC market. While most of its competitors including Intel, AMD and Texas Instruments posted annual decline in 2012, Nvidia saw 7% earnings growth during the same period. We believe that Tegra’s contribution to Nvidia’s overall revenue could reach over 25% by 2019.
Our price estimate of $18.68 for Nvidia is at a significant premium to the current market price.Notes:
- Gartner Says Worldwide Mobile Phone Sales Declined 1.7 Percent in 2012, Gartner Newsroom, February 13, 2013 [↩]
- IDC Raises Its Worldwide Tablet Forecast on Continued Strong Demand and Forthcoming New Product Launches, IDC Press Release, September 19, 2012 [↩]
- Nvidia shows massive Tegra3 launch growth, Slash Gear, May 24, 2012 [↩]
- Nvidia still has a lot to prove in the mobile market, CNET, November 9, 2012 [↩]
- Nvidia Tegra 3 Costs Between $15-$25 (€11.3 to €18.9), Says Company, Softpedia, November 25, 2011 [↩]