Summary:
- The new U.S. export control regulations will affect Nvidia’s revenue contribution from China.
- But Nvidia’s AI chips are sought after by companies around the world, and the Indian AI market in particular might be a new growth frontier for Nvidia.
- NVDA stock is a Buy now, as the actual impact of the U.S. chip export regulations is most probably less substantial than what the market is expecting.
Justin Sullivan
Nvidia Stock Rating
My Buy investment rating for Nvidia Corporation (NASDAQ:NVDA) shares remains unchanged. Previously, I wrote about Nvidia’s $25 billion share buyback program and its Data Center business’ outlook in my prior article published on August 28, 2023.
With the current update, my attention turns to the latest U.S. chip export regulations and their impact on NVDA. The growth potential of the Indian AI market, and the allocation of a bigger proportion of its AI chips to key partners suggest that the new U.S. export control regulations for China have a smaller-than-expected effect on Nvidia’s business and results. As such, I am sticking to my existing Buy rating for NVDA.
The U.S. Is Restricting Chip Sales To China
A Seeking Alpha News article published last week cited a Wall Street Journal report highlighting that “new curbs require any company making AI chips that exceed a performance benchmark to seek a license from the U.S. Commerce Department before exporting to China and other countries of concern.” In this article, it is noted that Nvidia could potentially lose as much as “$5B of China orders” as a result of the latest U.S. export control regulations.
The U.S. is tightening restrictions relating to the sale of chips to China due to national security considerations. Earlier in August this year, the White House issued an executive order limiting U.S. investments in certain geographical markets and business areas. In that executive order, it was mentioned that the expansion of “artificial intelligence capabilities by these countries (China) significantly enhances their ability to conduct activities that threaten the national security of the United States.” It is reasonable to assume that the recent U.S. chip export regulations serve the same purpose.
Nvidia’s revenue mix and disclosures seem to suggest that the latest chip export restrictions for the Chinese market will affect the company’s business performance to some extent.
In its most recent 10-K filing, NVDA revealed that the Mainland Chinese and Hong Kong markets accounted for 21%, 26%, and 23% of the company’s FY 2023 (YE January 31), FY 2022, and FY 2021 total top-line, respectively. At Citi’s (C) 2023 Global Technology Conference in September this year, Nvidia also disclosed that the company’s “data center revenue that is associated with our China business is approximately 20% to 25% of any one of our quarter.”
Separately, Nvidia noted in the company’s October 17, 2023, 8-K filing that most of its key products such as “A100, A800, H100, H800, L40, L40S, and RTX 4090” fall under the scope of the new U.S. chip export regulations. It is worthy of note that the new U.S. export control regulations include the A800 and H800 chips, which were meant to act as substitutes for the A100 and H100 chips that were initially banned for export to China last year. This implies that it is tough for Nvidia to get around the new chip export restrictions this time around, as the U.S. is serious about closing any potential loopholes associated with the export of chips to the Chinese market.
Nevertheless, I am of the opinion that the actual impact of new U.S. chip export regulations on Nvidia shouldn’t be as significant as feared, a topic which I touch on in the next section.
Negative Impact Of Export Regulations On NVDA Isn’t As Bad As Feared
In the October 17, 2023, 8-K filing referred to in the previous section, Nvidia emphasized that “we do not anticipate that the additional (U.S. export control) restrictions will have a near-term meaningful impact on our financial results.” Also, the consensus FY 2024-2026 top line and bottom line consensus estimates haven’t witnessed any significant revisions (in either direction) in the past month. In other words, both the company management and sell-side analysts are confident about the resilience of Nvidia’s financial and business performance, notwithstanding the new U.S. chip export regulations.
However, NVDA’s shares have been on a roller coaster ride in the recent month. Nvidia’s share price declined by -15% from $460.95 as of October 16, 2023, to a new three-month low of $392.30 during intra-day trading on October 31, 2023. NVDA’s stock price subsequently recovered to close at $457.51 at the end of the November 6, 2023 trading day, which is just 1% below what the company’s shares traded at prior to news of the new U.S. chip export regulations (October 16).
Nvidia’s share price performance in the last month suggests that initial fears regarding the potential hit to the company’s top line from new chip export rules were overblown, and such concerns have eased significantly in the past week or so.
In my view, I think there are good reasons to believe that the latest U.S. export control regulations will have a much more limited effect on NVDA’s revenue than what investors were worried about.
One key factor is that Nvidia’s actual revenue exposure to China might be lower than what the market is expecting as per historical sales mix numbers (20%-25%) highlighted in the prior section of this article. Technology industry publication DigiTimes published an article in late July citing sources highlighting that “Nvidia has given its long-term partners” the “priority to receive its AI GPUs which are in great demand.” This indicates that NVDA’s planned or targeted allocation of AI chips to non-core (relatively shorter working relationships) or Mainland Chinese clients prior to the new U.S. chip export regulations is very likely to be much less than what investors were anticipating.
The other key factor is that NVDA could potentially make up for the loss of revenue for the Chinese market with sales contributions from other markets. Nvidia had highlighted in an 8-K filing issued on October 24, 2023 “the strength of demand for the Company’s products worldwide.” As an example, the AI chip revenue outlook for NVDA in the Indian market appears to be promising. Nvidia entered into partnerships with Tata and Reliance relating to AI in September this year. Tata and Reliance own India’s leading technology services and telecommunications businesses, respectively. It is realistic to expect Nvidia’s top-line contribution from India to grow going forward, thanks to these recent partnerships with major Indian corporates.
Concluding Thoughts
Nvidia stock is undervalued in my view and deserving of a Buy rating. Concerns relating to the hit to NVDA’s financials resulting from the latest U.S. export control regulations are overdone as per my analysis in this article. NVDA is now valued by the market at a Price-To-Earnings Growth or PEG multiple of 1.1 times, as per its consensus forward next twelve months’ normalized P/E ratio of 30.4 times and the analysts’ consensus FY 2024-2028 EPS CAGR of +27.6% as per S&P Capital IQ data. As a key play on the AI investment theme, I think that Nvidia can command a much higher PEG metric of 1.5 times, which implies further upside for the company’s shares.
Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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