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Nvidia Stock: Problems Piling Up (NASDAQ:NVDA)

Semiconductor maker Nvidia reports quarterly results

Justin Sullivan

established theory

NVIDIA (NASDAQ: NVDA) stock plunged 7.5%, with intermittent losses of more than 12%. This comes after the company revealed that the U.S. government had ordered it to restrict a select portfolio of high-margin AI chips to China.the announcement will come later NVIDIA already warned The company’s chip business environment is slowing for both its gaming and data center segments.

In my opinion, Nvidia’s stock has been overvalued and overvalued for a long time. Although NVDA’s share price is down about 60% from all-time highs, I would argue that there is still some overvaluation premium that needs to be adjusted for investors to enjoy attractive risk/reward.

NVDA vs SPX YTD 2022

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US Government Restricts Chip Sales

filing

On August 31, Nvidia filed a disclosure with the Securities and Exchange Commission, saying the company had been notified of restrictions on the export of certain AI chips to China and Russia.

The U.S. Government has informed NVIDIA Corporation that the U.S. Government has imposed new licensing requirements on future exports of the company’s A100 and future H100 integrated circuits to China (including Hong Kong) and Russia, effective immediately. Did.

This limit specifically names the Nvidia A100 and H100 chips, but it also applies to any chip that might match the technology.

The license requirement also includes any f.Future NVIDIA integrated circuits will not only achieve both peak performance and chip-to-chip I/O performance above the threshold, which is roughly on par with A100, but also all systems containing those circuits.

what is the impact

Nvidia estimates the impact of export restrictions at $400 million in potential sales in the third quarter. Therefore, the impact could grow to about $1.6 billion annually. Applying Nvidia’s 26% net income margin, plus the stock’s current 81x 1-ear futures P/E multiple, the valuation loss impact can be estimated at approximately $33.7 billion of the stock’s value. increase.

Impact on investors

Export restrictions highlight risks that markets have probably ignored so far. Nvidia’s cutting-edge chip technology could become a political tool. In its filing, Nvidia said: “Risk that covered products may be used or diverted to military end uses or military end users” as the main reason for export restrictions. But arguably, this step is just the latest episode in the China-US tech war and quest for technological self-sufficiency (see here, here, here).

Perhaps Nvidia’s selected restrictions on “A100 and H100” exports could be just the first wave of regulations to hit the US semiconductor industry.

Moreover, even if the US government doesn’t extend the restrictions to Nvidia’s chips, it’s very likely that Nvidia will lose market share in China anyway. Investors should consider the Chinese government’s restrictions on chip exports as a warning signal. The response is that China will push to “replace” US exposure to the semiconductor industry.

Rating still very stretched

Nvidia’s stock is down almost 60% from its all-time high, but its valuation is still very high. Investors should consider that Nvidia’s 81x his GAAP P/E one year ahead implies his 270% premium over the US tech sector. Nvidia’s 15.8x P/B and 13.9x P/S mean premiums of 290% and 395% respectively. A combination of a slowing semiconductor economic cycle and lower investor confidence in U.S. growth stocks makes these multiples highly vulnerable to valuation compression.

NVDA rating

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Paying large sums for “hyped” investments is very risky. Arguably, Cisco’s (CSCO) growth story and stock performance in early 2000 is, from my perspective, very similar to the current situation surrounding Nvidia.

During the late 90s and early 2000s, Cisco’s stock price skyrocketed from $5 to about $80 per share (split adjusted). Investors had high hopes for the company’s growth story driven by the adoption of the World Wide Web. Ratings weren’t important, but suddenly they were. Less than 24 months later, Cisco’s stock lost almost 90% of its value. Interestingly, Cisco’s fundamentals have remained largely unchanged. In fact, the bullish thesis that the World Wide Web will rule the world was right. But investors just paid too much. More than 20 years later, Cisco stock is still trading about 50% below its all-time high.

Cisco stock performance

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Conclusion

No doubt, Nvidia is a great business. But the company’s stock is risky. Investors should also factor in the downside from heightened regulatory risk after his June quarter was weak due to factors such as slowing semi demand in the gaming and data center industries.

Personally, I wouldn’t buy Nvidia at a valuation greater than 30x EV/EBIT or 10x EV/sales. So we see a 20-30% downside before the risk/reward for investors changes. justified (But probably still unattractive given regulatory risk and slowing business cycles).

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