Skip to main content

Nvidia (NVDA) - Get Free Report posted strong results last week for its July quarter, sending its shares significantly higher. But a closer look at a few points from the earnings could be cause for concern.

Nvidia posted revenue of $2.58 billion, ahead of estimates of $2.55 billion, while adjusted earnings per share were $1.24 versus estimates of $1.15. The better-than-expected results were partly driven by stronger-than-expected gaming revenue, while data center revenue -- currently an area of heavy scrutiny across the semiconductor space -- missed the mark. 

The stock has rallied more than 14% to $170 a share following its earnings. 

Aside from the rise in the shares, "digging a little deeper into the results does raise a few questions," wrote Alliance Bernstein analyst Stacy Rasgon in a note on Aug. 16.

Much of Rasgon's concern centers around Nvidia's gaming business, which represents roughly 50% of total company revenue, making it the chip maker's largest segment by far. Gaming revenue was $1.31 billion for the quarter, beating expectations of $1.30 billion. But "we note that gaming barely grew excluding Switch in fiscal year quarter two," Rasgon noted.

Switch revenue refers to sales of Nvidia's GPU chips that power Nintendo Switch gaming consoles. "A considerable amount of the quarter-over-quarter growth in gaming in FQ2 (almost $260 million) was due to Switch revenues, which seemingly increased >$200 million sequentially," Rasgon said. "In fact it seems clear that 'core' gaming revenues barely grew in July-Q vs April-Q ex-Switch." Rasgon predicts that by Nvdia's fiscal fourth quarter, which ends in January 2020, Switch revenue will decline "materially." 

Rasgon also expressed some caution about the quarter's data center revenue, which came in at $655 million, missing analyst's expectations of $669 million. "We are not sure how much longer [Nvidia] can keep missing datacenter estimates; a return to solid growth (soon) is likely needed to keep the story going," Rasgon said. Data center revenue usually represents slightly less than 30% of revenue for Nvidia. 

But another analyst brings up a compelling counter-argument to Rasgon on the important gaming segment. 

"This year is going to be more back-end loaded" on gaming revenue, Wedbush Securities analyst Matt Bryson told TheStreet, noting that there are new gaming "supercards" to be released later in the year that should bring gaming revenue up considerably at the end of 2019.

Nvidia's gaming revenue in the fiscal fourth quarter is expected to be 21% higher ($1.593 billion) than it was in the second quarter just reported, according to FactSet. 

Secondly, "having a leading position in the market, and with the expectations that they'll maintain their leading position" in gaming will support estimates for Nvidia, Bryson thinks. Even as AMD ramps up its own releases of new gaming chips, most analysts are not worried Nvidia will lose market share

Bryson does think that data center sales need to rebound for Nvidia's stock to continue to perform, but mentioned that hyperscale spend has recently looked stronger. 

Nvidia's valuation may also be reaching a full level, trading at roughly 23.5 times 2021 earnings, but Bryson thinks that's a fair valuation. For Bryson, increased earnings will be a key to the stock's performance. 

Bryson has a $184 price target, and Rasgon has a $150 price target. 

Save 57% With Our Labor Day Sale. Join Jim Cramer's Action Alerts PLUS investment club to become a smarter investor! Click here to sign up!

Nvidia is a holding in Jim Cramer'sAction Alerts PLUS Charitable Trust Portfolio. Want to be alerted before Cramer buys or sells NVDA? Learn more now.