Strong Growth In Gaming, Automotive Help Nvidia Report Another Solid Quarter

Leading GPU manufacturer Nvidia (NASDAQ:NVDA) reported a stellar Q3 fiscal 2016, with both revenue and earnings per share (EPS) beating Wall Street estimates by a wide margin. This is the second consecutive quarter in which the company has significantly exceeded its original guidance, and the strong performance in both quarters was mainly driven by Nvidia’s increasing strength in PC gaming and the automotive market. The company remains focused on its strategy of creating strong platforms for the gaming, professional visualization, data center, and automotive sectors. These four segments accounted for 85% of Nvidia’s Q3 revenue, up from 71% a year ago. Nvidia has secured a well defined and strong position in each of these growth markets, which is why the company has managed to report strong growth so far this year despite the visible slowdown in the PC market. The company’s stock is up almost 10% since the earnings release.

Quick Snapshot Of Q3 Fiscal 2016 Earnings

At $1.3 billion, Nvidia’s Q3 2016 (fiscal year ends in January) revenue was up 6% year-on-year and 13% quarter-on-quarter. Growth in the quarter was driven by 44% and 55% year-on-year increases in revenue for gaming and automotive infotainment systems, respectively. Data center revenue, though up 13% sequentially, declined 8% year-on-year due to lumpiness from large deep learning projects. From a reporting segment perspective, GPU revenue of $1.11 billion was up 12% year-on-year, whereas Tegra revenue was down 23% as the strength in automotive was offset by weakness in smartphones and tablets.

The company’s GAAP gross margin increased marginally in the quarter, on account of strong gaming revenue and the absence of the charge related to the NVIDIA SHIELD tablet recall (which impacted Q2 2016 gross margin). Net income and diluted EPS for Q3 2016 stood at $246 million and $0.44, a more than 40% increase compared to Q3 2015.

We are in the process of updating our $22 price estimate for Nvidia.

See our complete analysis for Nvidia

New Game Pipeline, eSports, New Technologies To Drive Gaming Growth

Nvidia’s robust growth in gaming is being fueled by the following factors: 1) the anticipation of new blockbuster games; 2) the rise of eSports; 3) the emergence of new technologies like virtual reality (VR) and Direct X; and 4) the expansion in developing countries.

eSports is perhaps one of the most important growth drivers for the gaming market. In just a few years’ time, eSports has doubled to almost 100 million gamers around the world, and Nvidia believes that the platform has the capacity to double again in the next few years. ^[1] eSports is well on its way to becoming a global entertainment category with an audience of 188 million viewers.

Some of the new games up for launch this year are: Rainbow Six, Fallout 4, Black Ops 3, Star Wars, Call of Duty, Assassin’s Creed, Metal Gear Solid,  Battlefront etc. Meanwhile, Nvidia is also looking forward to the upcoming launch of VR, with the approaching availability of VR headsets from Oculus, HTC, and others, as well as new VR games such as EVE: Valkyrie. Lastly, Broadband access is an important pre-requisite for PC gaming. As the broadband adoption continues to rise in developing countries, it will fuel the expansion and popularity of gaming in those regions.

Nvidia stated that sales of PC gaming systems this year are estimated at $28 billion, with continued expansion expected in the years ahead. ((Nvidia’s Q2 2016 Earnings Call Transcript, Seeking Alpha, August 6, 2015)) The company believes that it is not fully penetrated in the market, and the above listed factors will continue to spur growth in its gaming business for years to come.

Transition To Autonomous Driving, ADAS To Drive Tegra Division 

The automotive segment is Nvidia’s fastest-growing Tegra processor sub-segment and offers higher gross margins than devices. The automotive electronics market is large and is going through a transition, as cars have increased computing capabilities in both the drive train and the dashboard. Increasingly, dashboard functionality within cars (infotainment systems, digital cluster and automatic driver assistance) are being computerized. Management indicated that Strategy Analytics expects the market for Advanced Driver Assistance Systems (ADAS) will generate around $15 billion in 2016, with a CAGR of 23%. ^[2]

Nvidia has been working on building its automotive computing platform for over a decade and is in a strong position to leverage this growth. The company’s automotive platforms remain on a sharp upward trajectory, with almost 8 million cars using Nvidia’s technology at present (up from 4.7 million a year ago) and around 30 million more cars in the pipeline. (Note: These numbers are as of Q2 2016, as the company did not provide updated figures in its Q3 2016 earnings call.)

At last month’s International Auto Show in Frankfurt, Mercedes Benz, Audi, Porsche, Bentley, and Honda all showcased a range of production vehicles and concept cars with NVIDIA-powered digital cockpits. In addition to its infotainment cockpit business, Nvidia is working with over 50 companies that are developing self driving car technologies, using NVIDIA DRIVE PX. These include car manufacturers, Tier 1 OEMs, start-ups and research institutions.

Q4 2016 Outlook

– Revenue of $1.3 billion, +/- 2%.

– GAAP and non-GAAP gross margin of 6.7% and 57%, respectively, +/- 50 basis points.

– GAAP and non-GAAP operating expenses of approximately $503 million and $445 million, respectively.

– GAAP and non-GAAP tax rate in the range of 20%, +/- 1%.

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1. Nvidia’s Q2 2016 Earnings Call Transcript, Seeking Alpha, August 6, 2015 [↩]
2. Nvidia’s CEO Discusses F4 Q2014 Results – Earnings Call Transcript, Seeking Alpha, February 12, 2014 [↩]